The credit rating process acts as a guiding light in the realm of investments, shedding light on the borrower’s ability to fulfill their financial obligations. It serves as an intricate evaluation of creditworthiness, carefully considering a multitude of factors that reflect both the willingness and capability of a borrower to timely meet their financial commitments.
In the vast landscape of business financing, companies typically rely on two fundamental avenues: equity and debt. The equity component of a company’s capital structure can stem from various sources, including promoters’ investments, internal cash flows nurtured over the years, or engaging in Initial Public Offerings (IPOs) or Follow-on Public Offerings (FPOs) to tap into the diverse financial markets.
While the attention of large banks and broker houses is primarily drawn to the equity side, scrutinizing the company’s valuation, it is in the realm of debt issuance that the credit rating process assumes paramount importance. Debt, often more cost-effective than equity, becomes a recurring choice for companies seeking financial leverage and eventual repayment. Consequently, the credit rating process assumes a pivotal role in shaping a company’s capacity to raise debt capital.
This distinctive evaluation process, facilitated by third-party credit rating agencies, entails a comprehensive analysis of bonds, stocks, securities, or companies. By delving into intricate details, the agencies ascertain the creditworthiness and reliability of the borrower, generating ratings that subsequently guide investors in their investment decisions.
Companies opt for credit rating for several reasons, which include:
Access to Capital: Credit rating plays a crucial role in a company’s ability to raise capital. When a company plans to issue bonds, debentures, or seek bank loans, potential creditors or lenders assess the company’s creditworthiness. A credit rating provides an independent evaluation of the company’s financial strength and ability to repay its debt obligations. A higher credit rating indicates lower credit risk, making it easier for companies to attract investors and secure funding at favourable interest rates.
Investor Confidence: Credit ratings provide valuable information to investors regarding the risk associated with investing in a particular company’s debt instruments. A higher credit rating signifies a lower risk of default, giving investors greater confidence in the company’s ability to meet its financial obligations. This, in turn, attracts a wider pool of investors and helps the company raise funds more efficiently.
Cost of Borrowing: Credit ratings influence the cost of borrowing for companies. A higher credit rating implies lower credit risk, allowing companies to access debt capital at lower interest rates. This reduces borrowing costs and improves the company’s overall financial position. Conversely, lower-rated companies may face higher borrowing costs due to perceived higher credit risk.
Market Reputation and Visibility: A favourable credit rating enhances a company’s market reputation and visibility. It serves as an endorsement of the company’s financial stability and reliability. A higher credit rating can differentiate a company from its competitors and instil confidence in potential business partners, suppliers, and customers.
Compliance and Regulatory Requirements: In certain cases, companies may be required by regulatory bodies or exchanges to obtain credit ratings. For example, companies issuing debt securities in the public markets may need credit ratings as part of regulatory compliance. Meeting these requirements ensures transparency and provides investors with standardised information for making informed investment decisions.
International Market Access: Companies seeking to expand their operations internationally may find credit ratings crucial for entering foreign markets. Many global investors and institutions rely on credit ratings to assess investment opportunities across borders. A favourable credit rating can facilitate market entry and attract international investors.
In the credit rating process for Teva Pharmaceuticals Industries Ltd, Moody’s would go through a comprehensive analysis covering various aspects of the company’s business and financial performance. Here’s an overview of the key areas Moody’s would focus on:
Business Profile: Moody’s would examine Teva’s business operations, core products, competition, number of employees, facilities, and client base. Understanding the company’s position in the pharmaceutical industry and its market share in the generics and branded segments would be essential.
Operating Segments and Industry Standing: Moody’s would analyse Teva’s operating segments, focusing on its generics and branded drugs divisions. Teva’s strong position in the generics market, particularly in the US and Europe, would be seen favourably. However, Moody’s would also assess the potential impact of generic competition on its branded drugs, especially considering the patent expiry of key products like Copaxone.
Business Risks: Moody’s would evaluate the risks associated with Teva’s product segments and its future portfolio plans to offset sales losses from expiring drugs. Litigations, regulatory risks (e.g., US FDA inspections), and concentration risks related to products, suppliers, and geographies will be analysed for their potential financial impact.
Historical Financial Performance: Moody’s would review Teva’s historical financial performance, including margins, revenue growth rates, cash cycles, and balance sheet strength, to assess the company’s financial stability over time.
Scale and Margins Compared to Peers: Teva’s scale as the largest generics company and its high EBITDA margin would be considered positive factors in the credit rating evaluation. However, Moody’s may adjust EBITDA calculations based on certain expenses, like litigation or restructuring charges, for more accurate comparisons.
Revenue and Margin Drivers: Moody’s would scrutinise the factors that historically drove Teva’s revenues and margins and assess their sustainability. The impact of Copaxone’s patent expiry on future revenues and margins would be a key consideration.
Cash Flow Generation Capability: Moody’s would evaluate Teva’s cash flow generation capability to ensure it can service its debt obligations, capital expenditures, and dividends. A strong cash flow generation ability is essential for maintaining financial stability and servicing debt.
Balance Sheet Analysis and Liquidity Profile: The amount of dispensable cash, working capital requirements, debt structure, and maturity profile will be analysed to determine Teva’s liquidity position and ability to manage its obligations effectively.
Financial Ratios and Peer Analysis: Ratio analysis will be performed to compare Teva’s financial metrics, such as margins, leverage, debt service coverage, interest coverage, and gearing, with those of its peers in the pharmaceutical industry.