Policy For Recognition of Default
Beacon Ratings’ policy for recognising default in various instances is outlined below.
- When Beacon Ratings’ rated instrument is in default: In all such cases, the outstanding rating is revised to “D” irrespective of the extent of default (what portion of the debt service obligation is not met) or the period of default (for how many days has the debt service obligation not been met).
This means, the rating will be revised to “D” at the first instance of the first pesewas of default. This approach applies to all capital market debt instruments, corporate credit rating, fixed deposit and term loans availed from the banks.
Treatment of default in case of technical delay/dispute
There are however instances of delays or missed payments due to non-credit reasons, purely attributable to operational issues or administrative errors. Such instances may include, but are not limited to, operational lapses at the end of the lender(s), failure of accounting systems and processes, and human errors. In such instances, Beacon Ratings will apply reasonable judgment to assess whether the delays were on account of non-credit factors. In doing so, it evaluates whether there was willingness, ability (also including availability of funds), and intent of the issuer, to make the respective payment on the due date, and if the delay is solely attributable to operational issues. Furthermore, Beacon Ratings shall ascertain if the delay is expected to correct in few business days and whether the issuer has taken corrective measures to avoid such instances in future.
Thus, in situations where Beacon Ratings believes the delays are purely on account of non-credit reasons, the missed payment will not be regarded as a default, as the instance does not reflect a material weakening in credit quality.
Thus, Beacon Ratings shall examine the reasons for default as put forward by the rated entity, duly corroborated by the investor/lender. If the delay was not caused by liquidity stress at the issuer level but due to some technical problem, then default is not recognised. However, based on the assessment, severity and frequency of such incidences, the rating may be reviewed.
Default recognition for bank loan ratings
- For term loans, failure to repay in full on the due date is construed as a default on the rated facility.
- For working capital facilities such as cash credit and overdraft, which do not have scheduled maturity/repayment dates, Beacon Ratings recognises the event as a default only if the facilities remain continuously overdrawn for more than 30 days, without the express written consent of lenders. Though over-utilisation of a facility by a few days may not necessarily indicate stress in the borrower’s credit quality, facilities overdrawn for more than 30 days indicate credit weakness.
- For non-fund facilities such as bank guarantees and letters of credit, the devolved amount is classified as default if remains unpaid beyond 30 days.
- For working capital facilities such as packing credit and bill discounting, the devolved amount is classified as default if remains unpaid beyond 30 days.
When the Beacon Ratings’ rated instrument is rescheduled: If investors of a rated instrument grant a formal consent for revision in the terms of repayment sufficiently prior to the repayment date, Beacon Ratings will factor the revised schedule in its analysis, along with the presumably adverse factors that necessitated the rescheduling.
- Bank loan facilities rescheduled: Beacon Ratings shall follow the same principle for bank loan facilities that have been rescheduled. Until lenders formally approve the request for restructuring prior to the due date, default shall be considered from the original repayment dates. Where, the bank loan is restructured prior to the due date, revised payment dates will be considered for default recognition.
- When issuers with Beacon Ratings default on unrated instruments: When issuers/entities with outstanding rated instruments default on other debt/loan facilities not rated by Beacon Ratings (such as vehicle loans availed from financial institutions), the outstanding rating will be lowered to near-default status. This is because factors that cause an interruption in servicing debt on one instrument have a very strong likelihood of interrupting debt servicing on other instruments. Unless there are very strong mitigating factors, such as the presence of external credit enhancements exist to conclude that an instance of default on one instrument will not occur with other instruments.
- When the instruments backed by guarantee are in default: When instruments backed by guarantee from a third party with clear payment mechanism default, the guarantor should make payment within the time stipulated in the payment mechanism when the trustee/banker invokes the guarantee, otherwise, the guaranteed instrument shall be downgraded to default category.
- Treatment of default in case of hybrid instrument ratings:The terms of the hybrid instrument may allow deferment of principal and/or interest payment in case of invocations of certain pre-agreed clauses. Any delay in payment of interest/principal (as the case may be) following the invocation of the lock-in clause, is considered an event of default as per Beacon Ratings’ definition of default.
Curing period post default
Once a default is cured and the debt instrument/bank loan facility payment is regularised, Beacon Ratings monitors the continues regularized payments (principal and interest obligations) in a timely manner for at least 90 days (from the date of regularisation) before upgrading the rating. Generally, the rating should move to non-investment grade category, after the default is cured. Further, the rating may be upgraded to investment grade, after 365 days from the date of regularisation. The rating movement from non-investment category to investment category will be based on extent, frequency, severity and the date of occurrence of delay. Factors determining the upward revision in the rating includes:
- Sustainable improvement in business risk profile
- Sufficient liquidity to meet working capital requirement
- Sufficient liquidity to meet continuous debt obligations
- Improvement in financial risk profile for the medium term
- Restructuring of loans to ease repayment obligations