Case Law Details
Jindal Power Ltd. v. ICRA Ltd. (Delhi High Court)
In order to protect the interest of investors and help them make an informed decision, SEBI has made credit rating of securities offered by Indian companies by way of public or rights issues to be mandatory. The rating signifies the ability and willingness of the issuer company for timely payment of interest and principal on a security. Ratings are provided to the issuer company by a Credit Rating Agency (CRA) on the basis of comprehensive evaluation of the strengths and weaknesses of the company fundamentals. The CRAs are required to publish and continuously monitor the ratings during the lifetime of securities by making periodic reviews of all published ratings. The functioning of the CRAs and credit rating process etc. are regulated by SEBI by way of the SEBI (Credit Rating Agencies) Regulations, 1999.
The recent case of Jindal Power Ltd. v. ICRA Ltd. [1] discusses the credit rating process and role and extent of autonomy exercised by the CRAs while granting the credit rating of securities.
Brief Facts of the Case
Jindal Power Ltd. (JPL) and ICRA have been in an agreement since 2016 for carrying out the credit rating of JPL. ICRA being a Credit Rating Agency, was bound to follow the SEBI (CRA) Regulations, 1999 while carrying out the rating. Despite the fact that all the parameters of JPL for the purposes of rating, were same in the present year, as the preceding year, ICRA decided to downgrade the credit rating from BBB+ (in 2019) to BBB (in 2020). JPL objected to the same and conveyed its non-acceptance to ICRA but ICRA continued maintaining it and published the downgraded credit rating of the company on its website. JPL hence filed a suit against ICRA seeking an injunction against the downgraded rating and to declare the rating null and void.
Contention of the Parties
The main contention of JPL was that credit rating is only for the purpose to indicate whether the company is in a position to clear its debts and does not address any other risk like the liquidity risk, market value risk or price volatility. On perusal of JPL’s parameters of last financial year as compared to the present financial year it is shown that the long term fund based term loans, long term non-fund based, short term fund based and unallocated instrument’s value all remain the same. The total bank facilities along with the non-convertible debentures also remain the same so there is no negative rationale permitting downgrading of the rating. JPL further contented that since it has protested against the revised rating, ICRA could not have gone ahead with its publishing as this violates the agreement between the companies.
ICRA in response contented that while formulating the rating it has followed the rating process in compliance with the regulations and relevant circulars issued by SEBI and has not violated any of the rating methodologies or the CRA Regulations of the RBI Master Circular. Under the rating agreement entered into between JPL and ICRA in 2016 based on the initial rating, JPL has already availed funds and thus till the funds have been utilized and not repaid by JPL, ICRA would be bound to keep a surveillance over the debt instruments.
Important Issues
This case has thus brought in light three important issues qua the credit rating process which have been discussed in detail:
1. Whether a CRA has a right to publish the credit rating despite being objected to by the issuer?
Regulation 15 of the CRA Regulations provide that the credit ratings are required to be continuously monitored unless the rating is withdrawn and the CRA is also mandated to disseminate the information regarding newly assigned ratings through press releases and websites during the lifetime of securities. Regulation 16 mandates periodic reviews of all published ratings during the lifetime of the securities, unless the rating is withdrawn. Thus if the security subsists and is pending all published ratings are bound to be reviewed periodically even if the client does not cooperate with the Credit Rating Agency and complies with its regulation. The CRA cannot withdraw a rating as long as the obligations under the security rated are outstanding unless the company whose security is rated is wound up or merged or amalgamated with the another company or as may be specified by SEBI from time to time.
Reading the CRA Regulations along with the Master Circular[2], the Delhi High Court arrived at the Conclusion that only if the initial rating is not accepted, then the same will not be published by the Credit Rating Agency. However, once an initial credit rating is accepted and published based whereon a party seeks financial facility, during the pendency of the said financial facility, the Credit Rating Agency is mandated to conduct periodic surveillance and even if subsequent rating opined by the Credit Rating Agency during the period of surveillance is not accepted by the party, the same will still be disseminated by press release on the website of the Credit Rating Agency as also intimated to the Stock Exchange/Debenture Trustees.
The right of ICRA to publish the rating has also been acknowledged by the Madras High Court in First Leasing Company of India vs. ICRA[3]:
“18. The respondent is required to disseminate information relating to the ratings and changes to earlier ratings promptly through press releases and websites, etc.; in order to provide timely information to the investors as well as the prospective investors. According to the respondent, for this purpose of continuous surveillance throughout the life of the instrument and for regular modes of dissemination to the investors, the respondent receives a mandate from its clients requesting for carrying out a credit rating exercise. Through such mandate the applicant also acknowledged the right of the respondent to publish the rating and any changes in it. Consequently, the respondent is required to give a rationale for the rating assigned to the client who acknowledged that if at any time in the opinion of the respondent based on any event or change of event, the rating, assigned to the instrument warrants revision. It is open to the respondent to make such a revision and to publish such a review in rating in any manner.”
The Court held that since JPL and ICRA entered into the credit rating agreement on 15th June 2016, the initial rating was granted in that year and since then only the monitoring of such rating is being conducted by ICRA. Thus, the change in rating in the year 2020 is the change during the surveillance rating. It held that as per the terms of the agreement between JPL and ICRA as also the CRA Regulations, Master Circular of RBI, ICRA was entitled to publish the initial rating once accepted, based whereon JPL took credit facility and thereafter ICRA is mandated to conduct surveillance of the credit rating and publish the same in the best interest of the provider of the financial facility and the other parties.
2. What are the factors required to be considered by a CRA while deciding the rating?
The credit rating provided by any rating agency is an independent opinion of an expert body on the likelihood of the issuer to reimburse the principal and pay the interest on its debt obligations on the due dates in the future. As per Regulation 2(q) of the CRA Regulations, to formulate an opinion on the credit rating, the analyst and the Rating Committee are required to consider various factures, some of which represent credit strengths and other factors which represent credit challenges. Consequently, the analysts and the rating committee balance such conflicting factors and exercise their independent professional judgment to apply these various factors to the available information, in the specific context of that point in time and consider likely outcomes.
In this case, as per ICRA, the rating methodology used for rating the facilities of JPL were; Corporate Credit Rating Methodology, Rating Methodology for Thermal Power Producers and Liquidity analysis of the entities in non-financial sector. The risk analysis framework used by ICRA for thermal power producers requires balancing of various factors such as:
(i) Business risk drivers which include operating risk; demand and tariff risk; counter party credit risk and force majeure risk. (ii) Industry risk drivers which includes regulatory risk
(iii) Financial risk drivers, which includes adequacy of future cash flows; profitability; leverage and coverage indicators; liquidity and financial flexibility; tenure mismatches and risks relating to interest rates and refinancing; foreign currency-related risks; debt transaction structure; accounting quality; and contingent liabilities/off-balance sheet exposures. Some of the other risks considered are management quality and corporate governance and parentage.
According to ICRA, some of the main reasons to downgrade the ratings of JPL were:
i. Continued pressures on its liquidity profile and debt coverage metrics, owing to its inability to secure incremental long-term/medium-term power purchase agreements (PPAs) as well as to correct its receivables position. The off take risk were heightened as lockdowns due to Covid-19 have adversely impacted the all-India electricity demand, in turn affecting its sales.
ii. JPL’s sizeable repayment obligations in the near medium term (annual repayments of more than ₹ 800 crores from FY2021 onwards).
iii. The main business of JPL is with Tamil Nadu Generation and Distribution Corporation Limited (in short ‘TANGEDCO’) and since TANGEDCO is stressed, the outstanding dues to be received by JPL are uncertain.
iv. Despite increase in repayment obligations of JPL there were still high debt levels and suboptimal capacity utilization as JPL was utilizing power only to the 1/3rd
3. Can the Court intervene in the decision of a CRA and direct it to review its ratings?
It is trite law that the evidentiary value of opinion of an expert has to be decided on the basis of the credibility of the expert and the relevant facts supporting the opinion. Therefore, the Court held that emphasis has to be given on the data on the basis of which opinion is formed by the expert. The Delhi High Court very clearly held in this case that if the opinion given by an expert is intelligible, convincing, and based on reasoning, decree declaring the said opinion as null and void, unenforceable and ineffective cannot be passed.
As a mathematical calculation of the credit rating is not possible and the same is always arrived on by considering various intelligible factors by experts, the Court will not interfere with the expert opinion of a CRA unless the opinion is perverse, arbitrary and mala fide.
The Delhi High Court refused to intervene in the decision of ICRA in the JPL case holding that the rating rationales depend on industry to industry and ICRA has taken into account the relevant rating rationales, both positive and negative in forming the opinion of downgrading the credit rating.
Conclusion
Credit Rating Agencies are independent expert bodies which consider various factors while formulating the credit rating of an instrument. Credit rating is merely an opinion of the CRA which ultimately benefits the investors as it helps them make an informed choice for the investment. It is for the investors’ interest that strict regulations have been implemented by SEBI to foresee the credit rating process by the CRA. Although the credit rating is governed by a contract between the issuer and CRA, greater autonomy is vested on the CRA, it being the expert body. If the rating provided by CRA is sound, reasonable and intelligible, then even the Courts have refused to interfere with its decision.
[1] 2020 (8) TMI 427
[2] Master Circular No.SEBI/ HO/ MIRSD/ DOP2/ CIR/P/2018/76 dated 2nd May, 2018 issued by SEBI
[3] 2000 (6) TMI 805
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