Internship Report
Impact of Credit Rating on Corporate and Banking Sectors of Bangladesh
A Study based on Ratings of Credit Rating Agency of Bangladesh Limited (CRAB)

Exam Roll: 091127
Internship Report on
Impact of Credit Rating on Corporate and Banking Sector of Bangladesh
A Study based on Ratings of Credit Rating Agency of Bangladesh Ltd. (CRAB)

Prepared For:
Chairman
Internship Placement Committee

Prepared by:
Exam Roll Number: 019927
Class ID: 892
4th year, 8th semester
Batch Number: 18th, BBA Program
Academic Session: 2008-09

Institute of Business Administration (IBA-JU)
Jahangirnagar University, Savar, Dhaka 1342

Date: 16.02.2013

Letter of Transmittal
February 16, 2013

Chairman
Internship Placement Committee
Institute of Business Administration
Jahangirnagar University
Savar, Dhaka 1342.

Subject: Submission of Internship Report

Dear Sir,
It is an event of great pleasure for me to prepare and present the internship report on ‘Impact of Credit Rating on Corporate and Banking Sectors of Bangladesh: A Study based on Rating of Credit Rating Agency of Bangladesh Limited (CRAB)’ which is a requirement for the completion of BBA program.
In this report I have tried to identify different aspects of the credit rating service and its impact on the corporate and banking sectors of the country. I have tried my best to organize all relevant information and do according to the instructions of preparing an internship report. This report has given me the opportunity to enrich my theoretical knowledge and as well practical idea regarding the issue.
I will be available at any time convenient to you for clarification of any point of this report.

Sincerely yours,

Exam Roll No. 091127
Registration No.: 27677
18th Batch, BBA Program
Table of Content
Acknowledgement IV
Executive Summary VII

Part-1: Introduction
1.0 Introduction……………………………………………………………………………………………………. 1-2 1.1 Origin of the Report ……………………………………………………………………………… 1 1.2 Objectives of the Report ………………………………………………………………………… 1 1.3 Background ………………………………………………………………………………………….. 1 1.4 Methodology………………………………………………………………………………………….. 2 1.5 Scope of the Report ……………………………………………………………………………… 2 1.6 Limitations ………………………………………………………………………………………….. 2

Part-2: Organization
2.0 Overview of Credit Rating Agency of Bangladesh Limited (CRAB) ………………………… 3-8 2.1 About CRAB ………………………………………………………………………………………… 3 2.2 Mission & Objectives ……………………………………………………………………………… 3 2.2.1 Mission …………………………………………………………………………………… 3 2.2.2 Objectives ……………………………………………………………………………… 3 2.3 CRAB’s Collaboration ……………………………………………………………………………… 4 2.4 CRAB’s Services …………………………………………………………………………………… 4 2.4.1 Rating services ……………………………………………………………………… 4 2.4.2 Grading Service ……………………………………………………………………… 5 2.4.3 Advisory & Consulting Service …………………………………………………. 5 2.5 Requirements of Rating by CRAB …………………………………………………………… 6 2.6 CRAB’s Rating Services ………………………………………………………………………… 6 2.7 Rating Process of CRAB ………………………………………………………………………… 8

Part-3: Project Part
3.0 Concept of Credit Rating ………………………………………………………………………………… 11-14 3.1 Credit Risk ………………………………………………………………………………………….. 11 3.2 Credit Rating ………………………………………………………………………………………… 11 3.3 History of Credit Rating ………………………………………………………………………… 12 3.4 Credit Rating in Bangladesh …………………………………………………………………… 13 3.5 Limitations of Credit Rating …………………………………………………………………… 14

4.0 Basel II Accord ………………………………………………………………………………………………. 15-16 4.1 Understanding Basel II accord …………………………………………………………………. 15 4.2 Basel Committee …………………………………………………………………………………….. 15 4.3 Basel II in Bangladesh …………………………………………………………………………….. 16
5.0 Corporate Sector of Bangladesh ………………………………………………………………………… 17-18 5.1 Defining Corporate Sector ……………………………………………………………………….. 17 5.2 Corporate ownership structures ……………………………………………………………….. 17 5.3 Accounting standards, audit and disclosure ………………………………………………. 17 5.4 Categories of Corporate Sector ………………………………………………………………… 18
6.0 Banking Sector of Bangladesh ………………………………………………………………………….. 20-22 6.1 Defining Banking Sector of Bangladesh …………………………………………………….. 20 6.2 Governing Body of Banks ………………………………………………………………………… 20 6.3 Current situation of Banking Sector ………………………………………………………….. 21 6.4 Challenges for Banking Sector …………………………………………………………………. 22

Part-4: Analysis and Findings
7.0 Impact of Credit Rating on Corporate & Banking Sectors …………………………………….. 23-25 7.1 Impact of Credit Rating on Corporate Sector ……………………………………………… 23 7.2 Impact of Credit Rating on Banking Sector ……………………………………………….. 24 7.2.1 Impact while Bank is a Borrower ………………………………………………….. 25 7.2.2 Impact while Bank is a Lender …………………………………………………….. 25

Part-5: Conclusion
8.0 Conclusion ………………………………………………………………………………………………………. 27
Bibliography ……………………………………………………………………………………………………………. 28
Appendix …………………………………………………………………………………………………………………. 29

List of Illustrations

List of Figures
Figure 1 Rating Process of CRAB 10

List of Tables
Table 1 Risk weights of Corporate Claims under Basel II 16
Table 2 illustration of capital-saving potential by banks on a loan of Tk. 1000 million 26

Acknowledgement

All praises are for Allah, the almighty, the most omnipotent.

At first, my sincere gratitude goes to Ms. Tasnima Aziza, Assistant Professor of the Institute of Business Administration, Jahangirnagar University and my academic supervisor. She has played a supportive, inspiring and guiding role for me during the report period. Her valuable guidance and suggestions have helped me to successfully prepare this report.

I am deeply grateful to Mr. Razib Ahmed, Assistant Vice-President, Credit Rating Agency of Bangladesh Limited who has played role as my external supervisor of this internship program.

I am indebted and like to thank Mr. Mavin Ahmed, Senior Financial Analyst of Credit Rating Agency of Bangladesh Ltd for his cordial support.

I am thankful to Abdul Ahad Md. Sadeki and Mr. Mohammad Reeshad Rahman, Financial Analysts and Deputy Team Leaders of Credit Rating Agency of Bangladesh for their kind support. My thanks go to all other members of team 1, team 4 and Humaira Khan of Credit Rating Agency of Bangladesh Limited for all of their supports and cooperation and making my internship period excellent.

Acronyms

ACRAA Association of Credit Rating Agencies in Asia
ADB Asian Development Bank
BB Bangladesh Bank
BCBS The Basel Committee on Banking Supervision
CR Credit Rating
CRA Credit Rating Agency
CRAB Credit Rating Agency of Bangladesh
CRISL Credit Rating Information & Service Limited
ECAI External Credit Assessment Institutions
FI Financial Institution
RWA Risk Weighted Amount
SECB Securities and Exchange Commission of Bangladesh S&P Standard & Poor

Executive Summary
Sound state of an economy requires different business sectors and their proper regulation. Bangladesh is a small Asian country is considered as one of the potential country to invest by different international investors. In spite of a huge break down and collapse of secondary market of the country questioning the actions and role of regulatory bodies of the country; Bangladesh is still a good place for investment. To enrich the regulation of business entities, the concept and practice of credit rating is getting priority among the business organizations. According to a very general thinking, wide-ranging people are not that much known about credit rating as credit rating agencies do not deal with general people. Credit rating agencies are Business to Business (B2B) firms and are not exposed to general people of a country. Though it is very upsetting that many business students are also not those much aware about the industry; it’s extends or prospects.
Along with Securities and Exchange Commission of Bangladesh; the license provider of CRAs, Bangladesh Bank, the mother of all banks, poses a strong influence on the activities and operation of rating agencies of the country which is ensuring strong regulation of the industry.
During the last few years the country has improved its growth rate remarkably. Most of the indicators have been showing indications of improvements during the last few years. In such a situation, how credit rating is contributing to the corporate and banking sectors of the country is focused in the report. Like other sectors banking and corporate sectors have strong impacts of the credit rating service. Corporate sector borrows money from banks. Bangladesh Bank has made it mandatory for all banks to rate its loan exposures. Companies and their banks get certain facilities when they are rated. Reversely, unrated companies and their banks get some penalties due to not having a rating by those companies. On the other hand, banks perform both the bowing and lending activities. They need to be rated to get certain facilities or sometimes to fulfill certain requirements. Though credit ratings are just opinions, they are playing a vital role in money lending as well as in capital supply for different projects of different business entities.

Introduction

1.1 Origin of the Report
Internship is considered as a whole semester in BBA Program of Institute of Business Administration, Jahangirnagar University. During Internship program a student undergoes practical learning process in an organization. It is a good blend of theoretical and practical knowledge. This Internship Program gives the students an opportunity to get ourselves introduced to the corporate world. It works as an ice-breaking before they step into their working life.

The report on “Impact of Credit Rating on Corporate & Banking Sectors of Bangladesh- A Qualitative Study Based on Ratings of Credit Rating Agency of Bangladesh Limited (CRAB) is prepared as an internship report under supervision of Ms. Tasnima Aziza, Assistant Professor of Institute of Business Administration, Jahangirnagar University and Razib Ahmed, Assistant Vice President of Credit Rating Agency of Bangladesh Limited (CRAB).

1.2 Objectives of the Report
This report is prepared to analyze the impact of credit rating service on corporate and banking sectors of Bangladesh. This analysis is conducted based on some objectives which are-
1. To understand Credit Rating Service practiced in Bangladesh.
2. To know the impact of credit rating on banking sector of Bangladesh.
3. To know the impact of credit rating on corporate sector of Bangladesh.

1.3 Background
Credit Rating is comparatively new concept for Bangladesh. To stabilize and control trade and business as well as the overall economy there are different regulatory bodies. Bangladesh Bank, Bangladesh Security and Exchange Commission, Ministry of Commerce etc pose good influence on the business sector of the country. Credit rating agencies are regulated by Bangladesh Bank and seemed to be as agents of Bangladesh Bank to ensure credibility of repayment of bank loans. Bangladesh’s business or trade and commerce are diversified and banking and corporate sectors are the two vital sectors. Credit rating agencies start their rating project through banks. A credit rating agency approaches a bank first. Then that bank suggests the name of the rating agency to its clients to be rated by that particular rating agency. Realizing the importance of banking sector this report includes the sector as its part. On the other side, the biggest portion of the banks’ clients in case of loaned amount is the corporate clients. That is why this report consists of corporate sector as its element.

1.4 Methodology
The essential part of any report is research methodology. The work of preparing this report is qualitative in nature. The study has required both secondary and primary data

Data Collection:
Data used for this report is mainly secondary data. In some cases primary data is also used to prepare this report. Secondary data is collected from CRAB’s archive, publications of different regulatory bodies like Bangladesh Bank, Security & Exchange Commission, Board of Investment of Bangladesh, journals, newspapers and different websites. The primary data is collected through unstructured interview; more likely conversations, with not more than 10 financial analysts of Credit Rating Agency of Bangladesh Ltd (CRAB). Data Analysis
Data gathered from different sources is assessed to find how the credit rating service is contributing to the corporate and banking sectors of the country. Here corporate and banking sectors are the two categories segmented by CRAB to provide rating services to their clients. This report is prepared using one of the interpretive techniques, which is Recursive Abstraction. Recursive Abstraction is used to the data instead of using Coding because the report would not result any quantitative outcome. In this method, the data is summarized and the summaries are then further summarized to create a concise overview.

1.5 Scope of the Report
In this report, first there will be a brief discussion on the organization where the intern has done internship which is Credit Rating Agency of Bangladesh Limited (CRAB). The organization part also covers the concurrent situation of credit rating service in our country. Later, overviews of corporate and banking sectors are presented. And finally there is a discussion on how credit rating is impacting on our country’s corporate and banking sector.

1.6 Limitations
The limitations faced while preparing the report are Information was not sufficient to prepare a more-than-usual report. Less knowledge about the service has kept qualitative analysis limited.
2.0 Overview of Credit Rating Agency of Bangladesh Limited (CRAB)

2.1 About CRAB
Credit Rating Agency of Bangladesh (CRAB) Ltd. is one of the leading credit rating agencies of Bangladesh, providing rating, grading, advisory and information services. The Company was incorporated as a public limited company under the Registrar of Joint Stock Companies in August, 2003 and it received certificate for commencement of business in November, 2003. CRAB was granted license by the Securities & Exchange Commission (SEC) of Bangladesh for operating as a credit rating company in February 2004. The formal launching of the company was held on April 05, 2004. CRAB has been accredited as an External Credit Assessment Institution (ECAI) by Bangladesh Bank in 2009, which status gives it the eligibility to provide rating of bank credit exposures for risk weighted capital adequacy calculation.
CRAB is an independent and professional company established in technical collaboration with ICRA Ltd (Hyperlink) of India. CRAB is a leading provider of investment information and credit rating services in Bangladesh. CRAB’s shareholders include individuals and institutions including Investment Corporation of Bangladesh (ICB) and IDLC.
To serve to the growing market demands, CRAB has been proactive in widening its service offerings, executing assignments including credit ratings, equity ratings, project ratings, performance grading, advisory services and mandated studies in different industrial sectors. CRAB offers its services under the following banners: Rating Service. Advisory & Consulting Service.

2.2 Mission & Objectives

2.2.1 Mission
CRAB’s mission is to Effect significant contribution towards qualitative development of the money and capital markets and enhancement of transparency of financial information and credibility of the corporate sector in Bangladesh for helping in the growth of investment.
2.2.2 Objectives To perform the credit rating of various debt instruments as Commercial papers, Bonds and Debentures, Islamic bonds, Preference shares, Equity instruments, Rights issue, Mutual fund units etc. To perform grading of various institutions as banks, non banking financial institutions, insurance companies, corporations, non-corporations, societies, trusts or individuals or their clients for purposes requested clients or required by authorities. To accumulate, process and offer information services in broad areas for the use of organization and clients at different levels. To provide consultancy and advisory services in broad areas to their clients at different levels. To act as trustees of any debentures, bonds, securities, commercial papers or any other obligations and to exercise the powers of executor, administrator, receiver, treasurer, custodian in respect of such debts and securities.
2.3 CRAB’s Collaboration
CRAB is a member of the Association of Credit Rating Agencies in Asia (ACRAA), established in 2001, is a federation of domestic rating agencies of the Asian continent- including those of Japan, Philippines, Uzbekistan, Sri Lanka, Malaysia, Indonesia, Korea, India, Pakistan, Taiwan, China, Thailand and Bangladesh formed with support and cooperation of the Asian Development Bank (ADB). As a member, CRAB participates in all the activities of this association. As of April 2009, membership number increased to 25 members from 14 of ACRAA.
CRAB has a technical collaboration Agreement with ICRA ltd. of India, one of the leading credit rating agencies of region. ICRA is a leading provider of investment information and credit rating services in India. This collaboration has provided CRAB with facility for development of rating methodologies, for performing rating assignments and for training of its professionals. ICRA-CRAB collaboration facilitates sharing of resources and information base and professional expertise between the two organizations.

2.4 CRAB’s Services

2.4.1 Rating services
Ratings, usually expressed in symbols, are a simple and easily understood tool helping the investor to make judgments on investment decisions in different securities including debt and equity instruments on the basis of their underlying quality. Rating of an equity instrument indicates the current opinion on prospects of return from the equity. Credit rating of debt instruments indicates the current opinion of the relative capability of the issuer to service its debt obligation in a timely fashion, with specific reference to the instrument being rated. Thus rating is focused on communicating to the investors, the relative ranking of the default loss probability for a given investment, in comparison with other rated instruments. In case of equity instruments, judgment is made on the sensitivity of the return from the equity instruments to changing market conditions and offers the greatest stability of returns to shareholders. Debt rating is based upon the relative capability and willingness of the issuer of the instrument to service the debt obligations (both principal and interest) as per the terms of the contract.
Besides equity and debt instruments rating, the range of rating has further expanded to other areas such as entity rating (measuring the overall strength of an organization), financial strength/claims paying ability rating of insurance companies, corporate governance & stakeholders value addition rating etc.

2.4.2 Grading Service
CRAB is equipped to offer specialized evaluation methodologies addressing exclusive and area specific requirements under the umbrella of Grading services. The services are meant for evaluation of different activities and entities belonging to multi-faceted industries. CRAB’s grading service is designed to provide an objective, credible and independent opinion on the quality of entities being examined with specific reference to parameters and issues unique to the sector/sub-sector. Construction and real-estate development activities, hospitals and diagnostic services, are examples of such sector/sub-sectors. CRAB intends to establish strategic association with reputable and specialized bodies associated with the sector/sub-sector to develop and offer specialized grading products.
The following grading methodologies will illustrate the scope: Real Estate Developers Grading: Designed to make the investors (end user/buyer of property) aware of the risks involved in the developer’s ability to deliver as per specified terms and quality parameters and transfer of ownership on time. Also facilitates the overall growth of the real estate sector by providing the developers with guidance and incentives to conform to legal requirements and fair trade practices. Health Care Institutions Grading: Evaluates capability of the diagnostic and treatment providers to deliver quality care from the user’s (patient’s) perspective. Grading is designed to evaluate the two most important dimensions of care, viz. technical and interpersonal care, reflecting both infrastructure facilities and processes. Other Grading Services: CRAB is working in developing more grading services to other related areas and is equipped to design new services upon requirements of the clients.

2.4.3 Advisory & Consulting Service
The Advisory & Consultancy Services will offer wide ranging management advisory services which include strategic counseling, restructuring solutions, financial feasibility, financial structuring/modeling, client specific need-based studies in the banking and financial services, corporate and other core sectors. CRAB is prepared to extend sophisticated Credit Risk Management services for banks and other lenders. CRAB advisory services are also available for project preparation, evaluation and execution.
CRAB is also ready to offer advisory/consulting services to clients who are seeking to be more competitive in their operating spheres. Such advisory services will be useful for a variety of clients - corporate entities, regulatory authorities, banks/financial service organizations, industry associations, local governments, government organizations, and multi-lateral agencies, through selective tie-ups with reputed organizations having expertise in specific sectors.
2.5 Requirements of Rating by CRAB
The Credit Rating Companies Rules 1996 issued by the Securities & Exchange Commission of Bangladesh requires that the following instruments be rated prior to making issuance, and that the information on rating be incorporated in the prospectus of offer documents : Public Offer of all Debt Instruments: Bond, Debenture, Commercial Paper, Structured Finance (Asset/Mortgage Backed Securities), and Preference Shares. Public Issue of shares at a premium. Issue of Right Shares of a public company at a premium
SEC (Asset Backed Security Issue) Rules, 2004 requires that the Credit Rating Report for the asset pools to be securitized be compiled along with the application for consent of the commission for issuance of Asset Backed Securities

Bangladesh Bank through its circulars requires mandatory credit rating for the followings: Initial Public Offerings of all Commercial Banks Initial Public Offerings of all Non Banking Financial Institutions Rating of all Commercial Banks on an annual basis with arrangement for continuous surveillance.

Chief Controller of Insurance through its circulars requires mandatory rating for the followings: General Insurance Companies on an annual basis Life Insurance Companies on biennial (once in every two years) basis

2.6 CRAB’s Rating Services
CRAB is a full service credit rating agency offering ratings of all kinds of financial instruments and entities including those required by regulatory authorities. Their services cover ratings of securities issued by manufacturing companies, corporate bodies, commercial banks, non-bank financial institutions, investment banks and mutual funds, among others. The obligations include long term instruments such as bonds and debentures, medium term instruments such as fixed deposit programs, and short term instruments such as commercial papers. CRAB also offers ratings of structured obligations and sector specific debt obligations such as instruments issued by Power, telecom and Infrastructure companies. The other services offered include Credit Assessment of large, medium and small scale units for obtaining specific lines of credit from commercial banks, financial institutions and financial services companies. CRAB offers the following Rating Services:

Entity Ratings
Entity ratings are a measure of a company’s intrinsic ability and overall capacity for timely repayment of its financial obligations. They are mandatory ratings required for any regulatory compliance or voluntary ratings that may be sought by companies to enhance corporate governance and transparency. These ratings are useful for benchmarking a company against its peers, enhancing investors’ confidence, market profiling, reducing time for future debt ratings, enhancing a company’s standing for counterparty risk purposes and facilitating credit evaluation for bank borrowings and bank lines

Financial Institution Ratings
These ratings will assess the creditworthiness of financial institutions, i.e. commercial and merchant banks, non-banking finance companies, housing finance companies etc. While each of these entities have the same function, i.e. leverage on own funds and lend to others on a cost plus basis, there are significant differences in terms of scale of operations, products and services offered, product delivery, regulatory aspects, and their internal control systems. Ratings of financial institutions focus on the risks that can possibly affect the operations of a finance company - operating risks, financial risks and management risks.
Corporate Debt Ratings: Such ratings specifically assess the likelihood of timely repayment of principal and payment of interest over the term to maturity of such debts as per terms of the contract with specific reference to the instrument being rated. A missed or delayed payment by an issuer in breach of the agreed terms of the issue is considered as default. The rating is based on an objective analysis of the information and clarifications obtained from the issuer, as also other sources considered reliable.
Equity Ratings (Initial public Offerings and Right Offerings): Equity rating makes assessment of the relative inherent quality of equity reflected by the earnings prospects, risk and financial strength associated with the specific company. The rating is not intended to predict the future market price of the stock of a company, but to evaluate the fundamentals of a company.

Structured Finance Ratings
Structured Finance Ratings are opinion on the likelihood of the rated structured instrument servicing its debt obligations in accordance with the terms. An SFR is generally different from the corporate Credit Rating of the originator and is based on the risk assessment of the individual components of the structured instrument. These components include legal risk, credit quality of the underlying asset, and the various features of the structure.
Insurance Companies Rating/Claims Paying Ability Rating: Such ratings assess the ability of the insurers concerned to honor policy-holder claims and obligations on time. Rating provides an opinion on the financial strength of the insurer, from a policy-holder's perspective which may act as an important input influencing the consumer's choice of insurance companies and products. The rating process involves analysis of business fundamentals, competitive position, franchise value, management, organizational structure/ownership, and underwriting and investment strategies. Mutual Funds Schemes Rating: Mutual Funds Schemes rating is designed to provide Investors, Intermediaries and Fund Sponsors/Asset Management Companies with an independent opinion on the performance and risks associated with various Mutual Fund Schemes. Funds ratings incorporate various qualitative and quantitative factors affecting a fund's portfolio.

Corporate Governance & Stakeholder Value Addition Rating
Corporate governance & stakeholder value addition rating assesses the level to which an organization accepts and follows the codes and guidelines of corporate governance practices, reflected into the distribution of rights and responsibilities among different participants in the organization such as the Board, management, shareholders and other financial stakeholders and the rules and procedures laid down and followed for making decisions on corporate affairs.

Clientele Rating for Banks/Financial Institutions
Clientele rating service has been designed to assist the management of the loan portfolios of banks/financial institutions by bringing in the present and prospective clients under continuous evaluation and monitoring of CRAB’s rating unit. Clientele rating provides banks/financial institutions on a continuous basis with opinions on the relative credit risks (or default risks) associated with the existing and/or proposed loans of the clients.

2.7 Rating Process of CRAB
Rating is an interactive process with a prospective approach. It involves a series of steps. The main steps are described as follows:
(a) Rating Request: Ratings in CRAB are usually initiated on formal request (or Mandate) from the prospective Issuer. An undertaking is also obtained on a Taka 150 non-judicial Stamp Paper before commencement of a Rating assignment; which spells out the terms and conditions of the engagement of credit rating agency.

(b) Team: The Rating team usually comprises two members. The composition of the team is based on the expertise and skills required for evaluating the business of the Issuer. The team is usually led by the lead analyst with adequate knowledge of the relevant instrument to be Rated.

(c) Role of the Lead Analyst: The lead analyst shall arrange to finalize the Rating report and send the same to the Rating Committee members. The lead analyst shall arrange to make a presentation before the Rating Committee. The lead analyst will make sure that all the relevant and material issues that may have an impact on the credit quality of the issuer (including, but not limited to those which are related to the program being Rated) are presented before the Rating Committee for discussion. The lead analyst will ensure communication of the Rating decision to the Issuer and initiate all the necessary actions consequent to the reaction of the issuer depending on the circumstances.

(d) Information Requirements: Issuers are provided with a list of information requirements and broad framework for discussions. These requirements are derived from the experience of the Issuers business and broadly conform to all the aspects, which have a bearing on the Rating.

(e) Secondary Information: CRAB draws on the secondary sources of information including its own in-house research and information obtained through meetings with the Issuers’ bankers, auditors, customers and suppliers among many other relevant market participants. CRAB also has a panel of industry experts who provide guidance on specific issues to the Rating team. The secondary sources generally provide data and trends including changes in industry structure, sector outlook, global trends and government policies, etc. for the industry.

(f) Management Meetings and plant visits: Rating involves assessment of number of qualitative factors with a view to estimate the future earnings prospects of the Issuer. This requires intensive interactions with the Issuers’ management specifically with a view to understanding the business plans, future outlook, competitive position and funding policies, etc.

(g) Other Meetings: The CRAB analyst team may also decide to meet the auditors (accounting policies followed, quality of internal controls, standard of disclosures, etc.), bankers / lenders (relationship, reputation, dealings in the past in respect of timeliness of servicing obligations) lawyers (if there are major litigations pending which may have serious impact on credit quality), trade union leaders (if industrial relations is a sensitive issue), key functional executives as well as a few investors, customers and suppliers, depending upon the circumstances to get a direct feedback from different stakeholder.

(h) Meeting with the Issuers’ CEO /CFO: This would be a very important meeting (usually, the last meeting) when the Rating team would discuss all the critical issues / findings that may impact the Rating decision with the CEO / CFO of the Issuer (in the absence of CEO / CFO, with a senior executive nominated by the Issuer for this purpose).

(i) Internal Review Committee Meeting: Once the draft report is prepared by the Analysts team, it is placed before the Internal Review Committee Meeting. The committee comprise of senior analysts. The committee reviews the draft rating report and analysis made by the analysts. Committee also reviews the due diligence, documents, meetings, site visits etc.

(j) Rating Committee Meeting: The authority for assigning Ratings is vested in the Rating Committee of CRAB. The Rating reports are sent by the analyst team in advance to the Rating Committee members. A presentation about the Issuers business and the management is made by the Rating team to the Rating Committee at the meeting. All the key issues are identified and discussed at length during the meetings and all relevant issues, which influence the Rating, are considered. The differences if any arise during the discussion are taken note of. Finally, a Rating is assigned either by a consensus or by majority votes.

(k) Surveillance: It is obligatory on the part of CRAB to monitor Accepted Ratings (including the Ratings treated as Deemed Acceptance) over the tenure of the Rated instrument or till any amount is outstanding under the program(s) Rated. The Issuer is bound by the agreement to provide information to CRAB to facilitate such monitoring. In case the Issuer do not co-operate by way of providing information, etc, for the purpose of surveillance, CRAB may on its own carry out the surveillance on best efforts basis based on the available information and possible interactions after giving the Issuer adequate notice requesting him to co-operate. The Ratings are generally reviewed every year, unless the circumstances of the case warrant an earlier review due to changes in circumstances or major developments that were not anticipated / factored in the Rating decision. The Ratings may be Upgraded, Downgraded or retained after the surveillance. The CEO, at his sole discretion, may give one opportunity to the Issuer to represent his case if he is not satisfied with the Rating decision after the surveillance process. However, the Issuer would not have any option of not accepting the Rating after the surveillance.

Figure 1: Rating Process of CRAB

Source: CRAB brochure, Credit Rating Agency of Bangladesh Limited (CRAB)

3.0 Concept of Credit Rating

3.1 Credit Risk
Risk is the element of uncertainty or possibility of loss that prevail in any business transaction in any place, in any mode and at any time. In the financial arena, enterprise risks can be broadly categorized as Credit Risk, Operational Risk, Market Risk and Other Risk. Credit risk is the possibility that a borrower or counter party will fail to meet agreed obligations. Globally, more than 50% of total risk elements in banks and Financial Institutions (FIs) are Credit Risk alone. Thus managing credit risk for efficient management of a business organization has gradually become the most crucial task.

3.2 Credit Rating
The Credit Rating (CR) is a collective definition based on the pre-specified scale and reflects the underlying credit-risk for a given exposure. It deploys a number/ alphabet/ symbol as a primary summary indicator of risks associated with a credit exposure. Credit Risk Rating is the basic module for developing a Credit Risk Management system.

Credit ratings are opinions about credit risk. Standard & Poor’s ratings express the agency’s opinion about the ability and willingness of an issuer, such as a corporation or state or city government, to meet its financial obligations in full and on time. Credit ratings can also speak to the credit quality of an individual debt issue, such as a corporate or municipal bond, and the relative likelihood that the issue may default. Ratings are provided by credit rating agencies which specialize in evaluating credit risk. In addition to international credit rating agencies, such as Standard & Poor’s, there are regional and niche rating agencies that tend to specialize in a geographical region or industry. Each agency applies its own methodology in measuring credit worthiness and uses a specific rating scale to publish its ratings opinions. Typically, ratings are expressed as letter grades that range, for example, from ‘AAA’ to ‘D’ to communicate the agency’s opinion of relative level of credit risk.

Credit ratings are opinions about relative credit risk though Credit ratings are not investment advice, or buy, hold, or sell recommendations. They are just one factor investors may consider in making investment decisions. Credit ratings are not indications of the market liquidity of a debt security or its price in the secondary market. Credit ratings are not guarantees of credit quality or of future credit risk rather forward-looking opinions about credit risk.

3.3 History of Credit Rating
The three renowned rating companies of today’s world are Fitch Ratings, Moody’s and Standard & Poor (S&P). The history of credit rating is similar to the history of forming and adopting credit rating services by these companies.

John Knowles Fitch founded the Fitch Publishing Company in 1913. Fitch published financial statistics for use in the investment industry via "The Fitch Stock and Bond Manual" and "The Fitch Bond Book." In 1924, Fitch introduced the AAA through D rating system that has become the basis for ratings throughout the industry. With plans to become a full-service global rating agency, in the late 1990s Fitch merged with IBCA of London, subsidiary of Fimalac, S.A., a French holding company. Fitch also acquired market competitors Thomson BankWatch and Duff & Phelps Credit Ratings Co. Beginning in 2004, Fitch Ratings began to develop operating subsidiaries specializing in enterprise risk management, data services and finance industry training with the acquisition of Canadian company, Algorithmic, and the creation of Fitch Solutions and Fitch Training. (For information bond ratings systems see Bond Ratings Agencies: Can You Trust Them.)

John Moody and Company first published "Moody's Manual" in 1900. The manual published basic statistics and general information about stocks and bonds of various industries. From 1903 until the stock market crash of 1907, "Moody's Manual" was a national publication. In 1909 Moody began publishing "Moody's Analyses of Railroad Investments", which added analytical information about the value of securities. Expanding this idea led to the 1914 creation of Moody’s Investors Service, which, in the following 10 years, would provide ratings for nearly all of the government bond markets at the time. By the 1970s Moody's began rating commercial paper and bank deposits, becoming the full-scale rating agency. Moody's ratings represent the opinion of Moody's Investors Service as to the relative creditworthiness of securities. As such, they should be used in conjunction with the descriptions and statistics appearing in Moody's publications. Reference should be made to these statements for information regarding the issuer. Moody's ratings are not commercial credit ratings. In no case is default or receivership to be imputed unless expressly stated.

Henry Varnum Poor first published the "History of Railroads and Canals in the United States" in 1860, the forerunner of securities analysis and reporting to be developed over the next century. Standard Statistics formed in 1906, which published corporate bond, sovereign debt and municipal bond ratings. Standard Statistics merged with Poor's Publishing in 1941 to form Standard and Poor's Corporation, which was acquired by The McGraw-Hill Companies, Inc. in 1966. Standard and Poor's has become best known by indexes such as the S&P 500, a stock market index that is both a tool for investor analysis and decision making, and a U.S. economic indicator. (See A Trip through Index History to learn more about Standard & Poor's Indexes.

3.4 Credit Rating in Bangladesh
Bangladesh credit rating industry started its journey with the mandatory requirement of having credit rating for all public debt instruments, right offer issues and shares issued at a premium before the same were offered to the public. In the year of 2002, Credit Rating Information & Service Limited (CRISL) started its operation as the first registered credit rating agency of Bangladesh. The second rating agency, Credit Rating Agency of Bangladesh Limited (CRAB) went to its operation on 2004, thus, making the sustainability more difficult for two rating agencies.

Credit Risk Grading Manual of Bangladesh Bank was circulated by Bangladesh Bank vide BRPD Circular No. 18 dated December 11, 2005 on Implementation of Credit Risk Grading Manual which is primarily in use for assessing the credit risk grading before a bank lend to its borrowing clients. By that time CRISL rating reports were appearing to be very useful for the users; specially CRISL rating report on the then Al Baraka Bank convinced the Bangladesh Bank of the need of credit rating and it took the initiative to make mandatory for all banks to have credit rating before it goes for public offering. The banking regulator further decided to make it mandatory for all banks to submit credit rating reports to the regulator within six months after the finalization of accounts.
Following the example of the central bank, the insurance regulator also came up with the requirement to make rating mandatory for all general insurance companies every year and for the life insurance companies bi-annually. The Dhaka Stock Exchange, while issuing the direct listing regulations, made the credit rating mandatory before a company apply for direct listing. The above regulations created an enabling environment for credit rating in the country’s capital and financial markets.

The concept of client rating by the rating agencies to support capital adequacy of the banks came up in view of the need for implementation of Basel II capital adequacy framework by Bangladesh Bank. According to Basel II framework, BB adopted a standardized approach for credit risk in which the services of rating agencies were required under certain strict terms and conditions. Bank client rating is a very sensitive issue in view of the fact that most of the private sector companies, enjoying banking facilities, are not maintaining standard financials for appropriate evaluation. Unless and until all the above factors are properly evaluated through sector wise studies, the ratings are bound to give wrong signals. Security and Exchange Commission of Bangladesh (SECB) allows 2% default rate of the credit rating agencies. There are certain penalties in case default rate of more than 2% including cancellation of license of the defaulter rating agency as the highest penalty by SECB.
Other credit rating companies National Credit Ratings Ltd and Emerging Credit Rating Ltd started their journey on 2010. ARGUS Credit Rating Services Ltd. is on operation since 2011. Lastly, new four credit rating companies have come to operation on 2012 which are WASO Credit Rating Company (BD) Limited, Alpha Credit Rating Limited, The Bangladesh Rating Agency Limited and WASO Credit Rating Company (BD) Limited. A list of credit rating companies operating in Bangladesh is attached with the report as Appendix.

According to Association of Credit Rating Agencies of Asia, Bangladesh has the highest number of credit rating companies. India; one of the largest economy of Asia has only two credit rating companies. On the other hand China, another largest economy is continuing its economic growth with a single credit rating company.
The rating industry In Bangladesh is now considered to be a parentless industry. The behavior of the regulators towards nourishing this industry does not appear to be rational. The rating agencies are still defined by the SEC rules as an investment advisory company. This has not changed over a long time. The paid-up capital still remains at Tk. 5.0 million (50 lakh), to start a rating agency by any group of sponsors.

3.5 Limitations of Credit Rating
Some limitations of credit rating are- Rating could be biased depending on the relationship between the credit rating agency and rated company. The "Big Three" global credit rating agencies--U.S.-based Standard and Poor's, Moody's, and Fitch Ratings--have been under intense scrutiny since the 2007-2009 global financial crises. They were initially criticized for their favorable pre-crisis ratings of insolvent financial institutions like Lehman Brothers, as well as risky mortgage-related securities that contributed to the collapse of the U.S economy. Credit rating requires a fine knowledge about the rated company. Analyst needs to know about the company, its operation properly which is time consuming and requires a very good effort. Several meetings and conversations over phone are done to ensure that. Once a company is rated by a financial analyst of a credit rating agency and after that if that financial analyst switches his/ her job, new analyst faces a lot of troubles while performing surveillance of the company. As ratings are designed exclusively for the purpose of grading obligations according to their credit quality, they should not be used alone as a basis for investment operations. For example, they have no value in forecasting the direction of future trends of market price. Market price movements in bonds are influenced not only by the credit quality of individual issues but also by changes in money rates and general economic trends, as well as by the length of maturity, etc.

4.0 Basel II Accord

4.1 Understanding Basel II accord
The world financial market is an extremely complex system that involves many different participants from local banks to the central banks of each nation and even the investor. Due to its importance on the global economy and our everyday lives it is vital that it is functioning properly.
One tool that helps the financial markets run smoothly is a set of international banking agreements called the Basel Accords. These accords coordinate the regulation of global banks, and are "an international framework for internationally active banks". The accords are obscure to people outside banking, but they are the backbone of the financial system; the Basel Accords were created to guard against financial shocks, which is when a faltering capital market hurts the real economy, as opposed to a mere disturbance.
Basel II is recommendatory framework for banking supervision, issued by the Basel Committee on Banking Supervision in June 2004. The objective of Basel II is to bring about international convergence of capital measurement and standards in the banking system. The Basel Committee members who finalized the provisions are primarily representatives from the G10 countries, but several countries that are not represented on the committee have also stated their intend to adopt this framework.
Basel II is the second accord of the Basel Committee on Bank Supervision's recommendations, and unlike the first accord, Basel I, where focus was mainly on credit risk, the purpose of Basel II was to create standards and regulations on how much capital financial institutions must have put aside. Banks need to put aside capital to reduce the risks associated with its investing and lending practices

4.2 Basel Committee
The Basel Committee on Banking Supervision (BCBS) is a committee of banking supervisory authorities that was established by the central bank governors of the Group of Ten countries in 1974. It provides a forum for regular cooperation on banking supervisory matters. Its objective is to enhance understanding of key supervisory issues and improve the quality of banking supervision worldwide. The Committee also frames guidelines and standards in different areas - some of the better known among them are the international standards on capital adequacy, the Core Principles for Effective Banking Supervision and the Concordat on cross-border banking supervision. The Basel Committee formulates broad supervisory standards and guidelines and recommends statements of best practice in banking supervision (see bank regulation or "Basel III Accord", for example) in the expectation that member authorities and other nations' authorities will take steps to implement them through their own national systems, whether in statutory form or otherwise.

4.3 Basel II in Bangladesh Bangladesh Bank in December 2008, issued guidelines on the New Capital Adequacy Framework (BRPD Circular 09) for banks operating in Bangladesh, based on the Basel II framework. These guidelines inform that BB suggests implementation of Basel II with the following approaches Standardized approach for calculating Risk Weighted Amount (RWA) against credit risk Standardized approach for calculating RWA against Market Risk
Basic indicator approach for calculating RWA against Operational Risk

Basel II is implemented from January 2009. In this regard a quantitative impact study (QIS) to assess the preparedness for implementing Basel II as well as the bank’s view on the optional approaches for calculating Minimum Capital Requirement (MCR) as stated in Basel II was carried out in April-May 2007. Study & subsequent discussion with few related banks revealed that bankers should be more acquainted with the New Capital Accord (Basel-II). To address this challenge capacity building of concerned implementing & supervisory officials were given first priority in the Action Plan/Roadmap.
Under standardized approach for measuring credit risks, the risk grades are determined on the basis of ratings assigned by External Credit Assessment Institutions (ECAIs).

Table 1: Risk weights of Corporate Claims under Basel II

Claims on Corporate (Excluding equity exposure) Bangladesh Bank Rating Grade Equivalent CRAB Rating Risk Weight (%) 1 AAA 20 2 AA_1,AA_2
50
3, 4 AA_3,A_1,A_(2,) A_3, 〖BBB〗_1,〖BBB〗_2,〖BBB〗_3
100
5, 6 BB_1,〖BB〗_2,BB_3,B_1,B_(2,) B_3,〖CCC〗_1,〖 CCC〗_2,〖CCC〗_(3,) CC, C, D 150 Unrated 125
Source: CRAB brochure. Credit Rating Agency of Bangladesh Limited (CRAB)

5.0 Corporate Sector of Bangladesh

5.1 Defining Corporate Sector
Corporate sector includes business entities which are Public Limited Companies and obtained consent from the Commission to raise paid up capital of more than 1.00 crore. Bangladesh corporate sectors are still in its initial stage. Most of the companies depend on the banks as their major source of financing. Capital market in Bangladesh is still at an emerging stage with market capitalization amounting to only 6.5% of GDP with low investor confidence on corporate governance and financial disclosure practices in many companies listed in the stock exchanges. The neighboring countries are well ahead vis-à-vis Bangladesh in terms of depth of capital market. For example, in India, Pakistan and Sri Lanka, the market capitalization is 56%, 30% and 18% of their GDP respectively. However, Awareness of the importance of corporate governance in Bangladesh is growing.
Securities and Exchange Commission of Bangladesh (SECB) issued a notification on Corporate Governance Guidelines (CG Guidelines) for the publicly listed companies of Bangladesh under the power vested on the Commission by Section 2CC of the Securities and Exchange Ordinance, 1969.

5.2 Corporate ownership structures
All corporate governance (CG) systems revolve around four core principles: Fairness, accountability, responsibility and transparency. The specific challenges of upholding these principles depend on the ownership structure of the corporate sector. However, in Bangladesh, general practice is that the corporate structure is dominated by family members. Such practice hinders the level of fairness, accountability and transparency. Inadequate Bankruptcy Laws: Bankruptcy laws and processes are inadequate in terms of provisions and not strong in terms of enforcement in Bangladesh. No country can have good CG standards with poor bankruptcy laws and processes. Besides, inefficient
Foreclosures and securitization processes have compounded the problems in Bangladesh. Lack of initiatives to drive for CG from the International Investor Community; Most companies in Bangladesh have a pessimist approach in attracting foreign investment. As a result, there is a lack of drive from the international investor community for better corporate governance.

5.3 Accounting standards, audit and disclosure
The scenario of internal audit; accounting standards and disclosure and its impacts on CG and management practices in Bangladesh are mixed. There are now elements of both positive scopes and new challenges and risk for the corporations in these areas. Bangladesh accounting standards rely on Generally Accepted Accounting Principles (GAAP) developed by accounting profession. These principles are primarily shareholder oriented and are independent of tax considerations. In Bangladesh the companies have to make disclosure of information required by law. Disclosure requirements for Initial Public Offerings are defined by the Companies Act and the orders under the Securities and Exchange Ordinance, 1969.

5.4 Categories of Corporate Sector
Bangladesh has a thriving industrial sector with a diverse range of sectors outperforming global growth rates. The abundant natural resources of the country combined with competitive high quality labor and a business friendly environment, make Bangladesh a compelling proposition for companies investing in the region.
Below are five broad business categories of special opportunity: Quality garment design and production ICT and business services Pharmaceuticals and life sciences Agribusiness Leather products

Quality garment design and production
From spinning to weaving, from knitwear to leisurewear and high street fashions, the textiles and clothing industry is Bangladesh’s biggest export earner with over USD 9.3bn of exports in 2007. Their factories design and produce for the world’s leading brands and retailers. A good number of reasons are mentionable behind the growth of this sector are lower cost but quality products, on time delivery, skilled labor, training and technical development facilities that support the industry etc.
ICT and business services
Businesses ranging from inbound call centers to the latest in Web 2.0 software development can be successfully operated in Bangladesh. Widespread use of English helps to make Bangladesh a fast emerging option for the global business services industry.

Pharmaceuticals and life sciences
Pharmaceutical companies worldwide can benefit from setting up a facility in Bangladesh. The country has tremendous potential to build a pharmaceuticals and life sciences workforce for international companies. Bangladesh is developing a strong manufacturing and technically experienced industrial base with growth in excess of 10% most years.
Thanks to the country’s quality of its tertiary education, the scientific talent pool is not only plentiful but also offers excellent cost/quality opportunities. Bangladesh also offers significant potential for R&D, contract research outsourcing (CRO) and clinical trials development.
Agribusiness
Over 90 varieties of vegetable are grown in Bangladesh, yet for such a fertile land there are huge gaps in local resources and under-utilization of the country’s agricultural capacity. This presents many opportunities for investors seeking to export agricultural products, or to meet the rapidly growing local demand.
Leather products
Bangladesh has a long established tanning industry that already produces around 2-3% of the world’s leather from a ready supply of raw materials. Bangladesh is therefore an established and attractive location to source and outsource the manufacture of finished leather products. Three key enabling business factors are: Attractive export incentives Tariff and quota free access to major markets such as the EU A skills pool and rural/industrial locations to support foreign investors

6.0 Banking Sector of Bangladesh

6.1 Defining Banking Sector of Bangladesh
Banks are the financial institutions which work as intermediaries between the two parties one is the party has surplus of money and the other party is in a need of money. After independence of Bangladesh, there were only six nationalized banks and one specialized bank. The first private commercial bank came into being in 1982. Before the private banks entered the scene, the people of Bangladesh, who were directly or loosely related with the banking sector, were not in a position to realize the benefits offered by real banking. As AB Bank Limited, the first-ever private commercial bank in Bangladesh, began operating in the market, the banking scenario took a new shape. The nationalized commercial banks (NCBs) witnessed a new era of competition in course of time.
Now, banks in Bangladesh are primarily of two types: Scheduled Banks: The banks which get license to operate under Bank Company Act, 1991 (Amended in 2003) are termed as Scheduled Banks. Non-Scheduled Banks: The banks which are established for special and definite objective and operate under the acts that are enacted for meeting up those objectives, are termed as Non-Scheduled Banks. These banks cannot perform all functions of scheduled banks.
There are 47 scheduled banks in Bangladesh who operate under full control and supervision of Bangladesh Bank which is empowered to do so through Bangladesh Bank Order, 1972 and Bank Company Act, 1991. Scheduled Banks include 4 State Owned Commercial Banks (SOCBs), 4 Specialized Banks (SDBs), 30 Private Commercial Banks (PCBs), 23 Conventional PCBs, 7 Islami Shariah based PCBs and 9 Foreign Commercial Banks (FCBs).
There are now 4 non-scheduled banks in Bangladesh which are Ansar VDP Unnayan Bank, Karmashangosthan Bank, Probashi Kollyan Bank and Jubilee Bank.

6.2 Governing Body of Banks
The central bank took initiatives to streamline the assets of the banks according to their quality through issuing Banking Regulation and Policy Department (BRPD) circular No-14 regarding loan classifications and provisioning. It was the first fruitful initiative taken by the Bangladesh Bank (BB). If the central bank of Bangladesh had not taken this remarkable initiative, the banking sector would have been affected by repeated volatilities.
While banks have benefited from an overall good economic growth over the last decade, strong supervisory role by Bangladesh Bank (BB), setting up of credit information bureaus, internal improvements such as upgrade of technology infrastructure , tightening of the appraisal and monitoring process and strengthening of the risk management platform have also contributed to the improvement.

6.3 Current situation of Banking Sector
Banks in Bangladesh, the dominant financial intermediaries, have made good progress over the last seven years, as is evident from several parameters, including annual credit growth, profitability and trend in gross non-performing loans(NPLs).
An extensive expansion has been achieved in the capital base of the country’s banking sector in the last four years, according a Bangladesh Bank release. According to Basel II accord, banks had to maintain risk based capital adequacy up to 2008. As per this accord, the total amount of actual capital maintained by banks was tk 20, 578 crore at the end of 2008. The figure has gone up to Tk. 56, 201 crore over the last four years (upto June 2012). In other words banking sector as a whole has witnessed a gross increase of Tk. 35,623 crore in capital base. That means, overall growth of capital has been 173 percent over the last four years with yearly growth of about 49 percent.
The capital base has increased due mainly to response to risk sensitive Basel II accord and due to the transfer of a larger proportion of profit of banks into capital. As a result, the base of banking system becomes stronger, according to the central bank.
This is why for strengthening of the capital base of banks, Basel II accord relating to capital adequacy has been fully implemented by the central bank following the international best practices rules and regulation.
The BB also said necessary steps have been taken for implementing the Basel III accord in near future. According to Basel II, banks are required to maintain capital at 10 percent of risk weighted assets, but in reality the banks have been able to maintain more than the required level which is now 11.31 percent.
Risk management systems are expected to be centralized, thereby ensuring uniform credit evaluation standards across the bank. It will also help banks better manage their growing consumer credit business, where the current delinquency levels at a few banks are sometimes significantly higher than the best in the Bangladeshi industry. The introduction of improved technology, including interconnectivity among branches, and ‘core banking’ software, is expected to drive such changes. Other aspects include a reappraisal of the existing credit risk measurement parameters, tempering the weights of the qualitative factors, and appropriately valuing collaterals. Introducing specialized loan monitoring groups and early warning systems are proactive measures to control delinquencies. These steps will also help banks meet some of the requirements of the internal ratings-based (IRB) approach of the new Basel capital accord.
Most Bangladeshi banks have recently focused on improving their risk management systems, and a few of the ‘new’ private sector banks are ahead in terms of technology and skill levels compared with the public sector and the old private sector banks. Most banks will, however, need to upgrade their existing technology and skill levels before they can be considered compliant with the IRB approach of the new Basel capital accord.

6.4 Challenges for Banking Sector
Currently banks face several challenges such as increase in interest rates on saving deposits, a tighter monetary policy, a large government deficit, increased stress in some sectors such as utilities, real estates, restructures loan accounts, increasing infrastructure loans (power sector) and implementation of Basel II and looking forward for Basel III.
Over the last two years the Bangladesh financial markets have witnessed wide ranging changes a fast pace. Intense competition for business involving both the assets and liabilities, together with increasing volatility in the domestic interest rates, foreign exchange rates as well as capital market, has brought pressure on the management of banks to maintain a good balance among spreads, profitability and long term viability. These pressure call for structured and comprehensive measures and not just ad hoc action. The management of banks has to base their business decisions on a dynamic and integrated risk management system and process, driven by corporate strategy. Banks are exposed to several major risks in the course of their business- credit risk, interest rate risk, foreign exchange risk, equity/ commodity price risk, liquidity risk and operational risks.

7.0 Impact of Credit Rating on Corporate & Banking Sectors

7.1 Impact of Credit Rating on Corporate Sector
Rating assesses the level to which an organization accepts and follows the codes and guidelines of corporate governance practices. It is evaluated from the system of distribution of rights and responsibilities among different participants in the organization such as the board, management, shareholders and other financial stakeholders, and the rules and procedures have lay down and followed for making decisions on corporate affairs. Credit rating is not mandatory under Basel II. However banks are likely to save capital if they get their counterparties/ loan portfolios rated. If a bank chooses to keep some of its clients/ loans unrated, it may have to provide a risk weighted of 125% for credit risk on such loans. That is why banks push their clients to be rated by credit rating agencies. For the same reason credit rating agencies reach corporations or other business organizations through their banks.
CRAB’s corporate rating methodology is developed for analysis of non-financial organizations operating in manufacturing, assembling, service sector etc. The generic factors are common for all entities/ issuers, while criterion specific for different industries are used for rating. The criterions used for corporate rating are Industry Risk Analysis, Business Risk Analysis, Operating Environment, Strategy & Financial Policies, Security Risk Analysis, Management Evaluation, Corporate Governance, Operating Performance, Financial Strength and Relationship Risk Analysis. Among these Security Risk Analysis and Relationship Risk Analysis are considered as generic risk factors, others are considers as corporate rating factors. A chart of corporate rating factors and rating definition are presented in the appendix part of the report.
Impact on Bangladesh Bank has made credit rating mandatory to all the business entities who have bank loan exposure of BDT 10 million or more. The impacts of credit rating on the corporate sector of our country are as following- Credit rating work as a reward for managing budget and finances responsibly. This qualifies a company for the best credit offers, including low interest. Good credit ratings allow the companies to easily borrow money from financial institutions or public debt markets. Credit rating may help in stabilizing issuers; access to the market even when the market price of listed equities is relatively unfavorable in the prevailing market conditions.

Credit ratings of Entities would grant upon the companies a greater confidence of the market and enhance a greater access to the financing sources. Rating opinion would facilitate the investors to decide their portfolios by choosing investment options in the market according to their profiles and preferences which gradually help a corporation to raise capital from shareholders. A better rated company gets priority while applying for a loan to a bank or a financial institution. Pricing of fresh loans supposed to be effected by the rating of the borrower. Higher rated companies in particular will benefit from this. Good credit rating qualifies for insurance at preferred rates. Good credit rating makes an organization look more attractive to employers as well. Credit rating would also be relevant for surveillance and monitoring, internal MIS and assessing the aggregate risk profile. It is also relevant for portfolio level analysis. Credit ratings may facilitate the process of issuing and purchasing bonds and other debt issues by providing an efficient, widely recognized, and long-standing measure of relative credit risk. Investors Other market participants may use the ratings as a screening device to match the relative credit risk of an issuer or individual debt issue with their own risk tolerance or credit risk guidelines in making investment and business decisions.

7.2 Impact of Credit Rating on Banking Sector

Bangladesh Bank has made credit rating mandatory to all scheduled banks and insurance companies on an annual basis. With a view to managing various risks in a prudent manner, scheduled banks are hereby instructed to follow the attached risk management guidelines. The document should be treated as Supplement to, and not a substitute for, existing core risks guidelines.

Banks have to prepare a risk management paper and must place the same in the monthly meeting of the Risk Management Unit. The minutes of the meetings should contain specific decisions based on the analyses/recommendations made in the risk management paper. Banks have to submit risk management papers (hard & soft copies for successive months of each quarter) along with the minutes of the meetings within 10 days of each quarter end to the Department of Off-site Supervision of Bangladesh bank.

In case of banks clients who have loan exposure of 10 million or above are required to be rated. The eight credit rating companies are involved in the process. Banks can be rated by more than one credit rating Company. In that situation lowest rating should be considered as per rule of BB.
CRAB’s ratings assess the creditworthiness of financial institutions, i.e. commercial and merchant banks, non bank finance companies, housing finance companies etc. CRAB focuses on the factors while rating a bank are- Profitability, Earnings & Volatility, Asset Quality, Capital Adequacy, Liquidity & Funding, Investment Quality, Asset Quality & Provisioning, Controls & Risk Management, Corporate Governance, and Earning Diversification. Rating definition and rating methodology for banks practiced by CRAB is presented in the Appendix part of the report.

Credit Rating has 2 types of impact on Banks which are When Banks themselves are rated and how they are using these ratings- Bank as borrower. The ratings of banks’ clients and how banks are using those ratings- Bank as lender.

7.2.1 Impact while Bank is a Borrower
According to a very general thought banks are here to lend money. But banks sometimes need to borrow money to meet its monetary necessity. Banks borrows this money either from other banks or from other financial institutions. When bank is a borrower bank is rated by credit rating agencies and bank can use that rating to get loans for its operation. The impact of credit rating on a bank while it is a borrower are- The main advantage of a credit rating is being rewarded for managing budget and finances responsibly. This qualifies a bank for the best credit offers, including low interest. Good credit ratings allow borrowers to easily borrow money from financial institutions or public debt markets. A better rated company gets priority while applying for a loan to a bank or a financial institution. Pricing of fresh loans supposed to be effected by the rating of the borrower. Higher rated companies in particular will benefit from this. Good credit rating qualifies for insurance at preferred rates Good credit rating makes an organization look more attractive to employers as well. Risk grading would also be relevant for surveillance and monitoring, internal MIS and assessing the aggregate risk profile. It is also relevant for portfolio level analysis.

7.2.2 Impact while Bank is a Lender At the pre-sanction stage, credit rating helps the banks to decide whether to lend or not to lend, what should be the pricing for a particular exposure, what should be the extent of exposure, what should be the appropriate credit facility and the various risk mitigation tools. At the post-sanction stage, the bank can decide about the depth of the review or renewal, frequency of review, periodicity of the grading, and other precautions to be taken. Banks enjoy a facility while maintain capital reserve requirement of Bangladesh. Basel II accord allows banks to maintain capital reserve requirement according to the risk weight which saves capital of the bank and increase capital base of overall banking sector.
An illustration of capital-saving potential by banks on a loan of Tk. 1000 million is as following

Table 2: illustration of capital-saving potential by banks on a loan of Tk. 1000 million
Rating Risk Weight Capital Required
(in million BDT) Capital Saved
(in million BDT)
AAA, AA_1,AA_2, AA_3
20% 20 80
A_1,A_(2,) A_3,
50% 50 50
〖BBB〗_1,〖BBB〗_2,〖BBB〗_3,BB_1,〖BB〗_2,BB_3
100% 100 0
B_1,B_(2,) B_3,〖CCC〗_1,〖 CCC〗_2,〖CCC〗_(3,) CC, C, D 150% 150 -50
Unrated 125% 125 -25
Source: Basel II: New Capital Adequacy Framework, Credit Rating Agency of Bangladesh Ltd.

8.0 Conclusion
Credit ratings are opinions by rating agencies about relative credit risk of an organization rather investment advices, indications of the market liquidity of a debt security or guarantees of credit quality or of future credit risk rather forward-looking opinions about credit risk. Fitch introduced credit rating services; following the footsteps many credit rating agencies are formed and providing the service globally as well as in Bangladesh. With 8 credit rating agencies our country is the Asian country having the highest number of credit rating agencies operating and contributing in its economy. The two major sector of trade and business of the country, corporate and banking sectors have remarkable impact of credit rating. The most general impact of credit rating is it helps a bank or any business organization to borrow money from a bank. And credit rating allows a bank to understand its clients and helps while making a loan sanction or extension decision. Along with all other impacts credit rating is contributing remarkably in expansion of capital base of banks as well as boosting investments and developments of the country. Implementation of Basel II accord made the rating more valuable for the business organizations. Credit Rating assists in qualitative development of the money and capital markets and enhancement of transparency of financial information and governance of the corporate sector in Bangladesh. At the same time it assists the regulators in promotion and enhancement of the precision of the financial markets. As credit is just an opinion and the entity is not liable at all if the rating proves wrong or the rated company defaults; so, the industry requires well supervision and control from the highest authority, the Securities and Exchange Commission of Bangladesh. At the same time the necessity of 8 credit rating agencies for a small economy of ours should also a matter of great concern of the policy makers of the country to uphold or improve the current lucrative state of foreign investment.

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Appendix

A1. List of Credit Rating Companies
Sl. No. Name of the Company Date of Issuance of Registration Certificate
01. Credit Rating Information and Services Ltd (CRISL) 21 August, 2002
02. Credit Rating Agency of Bangladesh Ltd (CRAB) 24 October, 2004
03 National Credit Ratings Ltd 22 June, 2010
04 Emerging Credit Rating Ltd 22 June, 2012
‘05. ARGUS Credit Rating Services Ltd. 21 July, 2011
06. WASO Credit Rating Company (BD) Limited 15 February, 2012
07. Alpha Credit Rating Limited 20 February, 2012
08. The Bangladesh Rating Agency Limited 7 March, 2012

A2. Rating Methodology of CRAB for Corporate

A3. CRAB’s Rating Definition for Corporate

Long Term

AAA (Triple A) Have extremely strong capacity to meet financial commitments. Judged to be of the highest quality, with minimal credit risk.
AA1, AA2, AA3 (Double A) Have very strong capacity to meet financial commitments. Judged to be of very high quality, subject to very low credit risk.
A1, A2, A3 (Single A) Have strong capacity to meet financial commitments, but susceptible to the adverse effects of changes in circumstances and economic conditions. Judged to be of high quality , subject to low credit risk.
BBB1, BBB2, BBB3 (Triple B) Have adequate capacity to meet financial commitments but more susceptible to adverse economic conditions or changing circumstances. Subject to moderate credit risk. Possess certain speculative characteristics.
BB1, BB2, BB3 (Double B) Have inadequate capacity to meet financial commitments. Have major ongoing uncertainties and exposure to adverse business, financial, or economic conditions. Have speculative elements, subject to substantial credit risk.
B1, B2, B3 (Single B) Have weak capacity to meet financial commitments. Have speculative elements, subject to high credit risk.
CCC1, CCC2, CCC3 (Triple C) Have very weak capacity to meet financial obligations. Have very weak standing and are subject to very high credit risk.
CC (Double C) Have extremely weak capacity to meet financial obligations. Highly speculative and are likely in, or very near, default, with some prospect of recovery of principal and interest.
C (Single C) Highly vulnerable to non-payment, have payment arrearages allowed by the terms of the documents, or subject of bankruptcy petition, but have not experienced a payment default. Typically in default, with little prospect for recovery of principal or interest.
D Default. Will also be used upon the filing of a bankruptcy petition or similar action if payments on an obligation are jeopardized.

Short Term

ST-1: Highest Grade. Highest capacity for timely repayment of obligations.
ST-2: High Grade. Strong capacity for timely repayment of obligations.
ST-3: Average Grade. Average capacity for timely repayment of obligations.
ST-4: Below Average Grade. Below average capacity for timely repayment of obligations.
ST-5: Inadequate Grade. Inadequate capacity for timely repayment of obligations.
ST-6: Lowest Grade. High risk of default or are currently in default.

A3. CRAB’s Rating Definition for Banks
Long Term
AAA (Triple A): Have extremely strong capacity to meet financial commitments, maintains highest quality, with minimal credit risk.
AA1, AA2, AA3 (Double A): Have very strong capacity to meet financial commitments, maintains very high quality, with very low credit risk.
A1, A2, A3 (Single A): Have strong capacity to meet financial commitments, maintains high quality, with low credit risk, but susceptible to adverse changes in circumstances and economic conditions.
BBB1, BBB2, BBB3 (Triple B): Have adequate capacity to meet financial commitments but are susceptible to moderate credit risk. Adverse changes in circumstances and economic conditions are more likely to impact capacity to meet financial commitments.
BB1, BB2, BB3 (Double B): Have inadequate capacity to meet financial commitments and possess substantial credit risk, with major ongoing uncertainties and exposure to adverse business, financial, or economic conditions.
B1, B2, B3 (Single B): Have weak capacity to meet financial commitments and are subject to high credit risk. Currently meeting the financial commitments, but adverse business, financial, or economic conditions are likely to impair capacity to meet obligations.
CCC1, CCC2, CCC3 (Triple C): Currently vulnerable, and are dependent upon favorable business, financial, and economic conditions to meet financial commitments. Have very weak standing and are subject to very high credit risk.
CC (Double CC): Currently highly vulnerable, highly speculative and are very near to default, with some prospect of recovery.
C (Single C): Currently very highly vulnerable to non-payment, may be subject of bankruptcy petition or similar action, though have not experienced payment default. C is typically in default, with little prospect for recovery.
D Default: 'D' rating also will be used upon the filing of bankruptcy petition or similar action if payments on an obligation are jeopardized.

Short Term
ST-1: Highest Grade. Highest capacity for timely repayment of obligations.
ST-2: High Grade. Strong capacity for timely repayment of obligations.
ST-3: Average Grade. Average capacity for timely repayment of obligations.
ST-4: Below Average Grade. Below average capacity for timely repayment of obligations.
ST-5: Inadequate Grade. Inadequate capacity for timely repayment of obligations.
ST-6: Lowest Grade. High risk of default or are currently in default.
A4. Factors in Bank Rating by CRAB