Divergent results in ratings business

Double-digit rise in CARE, ICRA operating profit in June quarter, even as Crisil grows by a mere 7.4 per cent

Three prominent rating agencies’ own operational results for the June quarter are divergent.

The operational profit of rating agencies Credit Analysis and Research (CARE) and ICRA in the June quarter shows healthy double-digit growth over a year before. That at CRISIL grew only 7.4 per cent.

The key difference was in growth of ratings revenue (see table). Those of CRISIL (29 per cent of the total) grew a flattish 1.4 per cent; those of CARE and ICRA grew 18.1 per cent and 9.9 per cent, respectively. While CARE derives most of its revenue from the ratings business, this segment contributes a little over half to ICRA’s. Also, CARE seems to have grown faster.

“The management believes CARE has gained market share from competitors in the Bank Loan Ratings/CDR (corporate debt rating) segments, as a result of which the number of assignments also increased by 55.1 per cent to 76 (in CDR) in the quarter,” says Chitvan Oza, analyst at Nirmal Bang Securities.

 

CRISIL is leader in the ratings business, with an estimated market share of 35 per cent; CARE has 28 per cent. Slower growth in CRISIL’s business here could be partly attributed to the high growth of small and medium enterprise (SME) ratings in the year-ago quarter, and also that it derives a relatively larger proportion of its ratings revenue from here.

This segment’s operating margin moved in line with revenue growth. Thus, CARE and ICRA saw healthy margin expansion here; that of CRISIL’s contracted. As ratings is a high-margin business, it is a key profitability driver for these companies. Not surprisingly, this weakness overshadowed the robust performance of CRISIL’s research business (65 per cent of revenue) in the quarter.  

All three should gain from likely demand improvement from the SME segment. Management commentaries on the overall business vary marginally.

“By CRISIL’s management, the domestic ratings segment is likely to be subdued for the next six to nine months, until there is some pick-up in private sector investment and credit offtake. However, SME has picked up from May and should start gaining traction,” write analysts at Edelweiss Securities, headed by Shradha Sheth.

The managements of CARE and ICRA expect some improvement from the second half of this financial year.

Overall, as these companies are highly levered to an improving economy, most analysts are positive on their prospects. From a valuations perspective, the Street continues to assign a hefty discount to CARE (24 times the FY17 estimated earnings), given its less diversified revenue model as compared to those of CRISIL (45) and ICRA (33). This gap could reduce, as analysts on an average expect an upside of 17 per cent for CARE versus 15 per cent for ICRA and a flattish outlook for CRISIL’s stock.