Credit Rating

ORIGIN The origin of credit rating can be traced to the 1840s when following the financial crisis of 1837 the first mercantile credit agency was set up in New York b Louis Tappan in 1841. The agency rated the ability of merchants to pay their financial obligations. The first rating guide was published in 1859. John Bradstreet set similar agency in 1849, which published its ratings book in 1857. These two agencies were later merged to form Dun & Bradstreet in 1933, which acquired the Moodys Investors Service in 1962. It is interesting to note that Moodys have a long history in the rating business, spanning over a period of more than hundred years. Securities the rating of utility and industrial bonds in 1914 followed this, along with the rating of bonds issued U.s cities and other municipalities in the early 1920s. Exhibit 1 clearly brings out the history and growth of credit rating agencies the world over chronologically: Exhibit 1 Growth of Credit Rating Agencies Year 1841 1900 1916 1922 1924 1933 1941 1966 1972 1974 1975 1975 1977 1978 1980 1987 1991 1994 1996 Credit Rating Agency Mercantile Credit agency Moodys Investors service Poor Publishing Company Standard Statistics Company Fitch Publishing Company Dun & Bradstreet Standard & Poor McGraw Hill Canadian Bond Rating Service Thomson Bank watch Japanese Bond Rating Institute McCarthy Crisanti & Maffei Dominican Bond Rating Service IBCA Limited Duff & Phelps Credit Rating Company CRISIL ICRA CARE Duff and Phelps Credit Rating India (P) Limited

DEFINITION OF CREDIT RATING The process of assigning a symbol with specific reference to the instrument being rated, that acts as an indicator of the current opinion on relative capability on the issuer to service its debt obligations in a timely fashion, is known as credit rating. Ratings are usually expressed with alphabetical symbols. They are simple and easily understood. Which enables the investor to differentiate debt instruments on the basis of their underlying credit quality? The main focus lies in communicating to the investors the relative ranking of the default loss probability for a given fixed income investment, in comparison with other rated instruments. According to the Moodys, A rating is an opinion on the future ability and legal obligation of the issuer to make timely payments of principal and interest on a specific fixed income security. The rating measures the probability that the issuer will default on the security over its life. Which depending on the instruments may be a matter of days to 30 years or more? In addition, long term ratings incorporate an assessment of the expected monetary loss, should a default occur. According to Standard & Poors. Credit ratings help investors by providing an easily recognizable, simple tool that a possibly unknown issuer with an informative and meaningful symbol of credit quality. FEATURES Following are the characteristic of credit rating: Specificity This rating is specific to a debt instrument. It is intended as a grade and an analysis of the credit risk associated with that particular instruments. Rating is neither a general-purpose evaluation of the issuer. Nor an overall assessment of the credit risk likely to be involved in all the debts contracted by such an entity. Relativity The rating is based on the relative capability and willingness of the issuer of the instrument to service debt obligations (both principal and interest), in accordance with the terms of the contract. Guidance The rating primarily aims at furnishing guidance to investors/creditors in determining a credit risk associated with a debt instrument/credit obligation. Not Recommendations The rating does not provide any sort of recommendation to buy, hold or sell an instrument since it does not take into consideration. Factor such as market prices, personal risk preference and other considerations which may influence an investment decision. Broad Parameters The rating process is based on certain broad parameters of information supplied by the issuer, and also collected from various other sources, including personal interactions with various entities.

No guarantee The rating furnished by the agency does not provide any guarantee for the completeness or accuracy of the information on which the rating is based. Quantitative and Qualitative While determining the rating, both quantitative as well as qualitative factors are employed. The judgment is qualitative in nature, and the role of quantitative analysis is limited to assist in the making of the best possible overall judgment.

ADVANTAGES Credit rating offers the following advantages. To Investors 1. Information service Rating information allows for the communication of the relative ranking of the default loss probability for a given fixed income investment in comparison with other rated instruments. The credit rating system allows for the recognition of risk perception by the common investor via-a-vis debt instruments and makes the investor familiar with the risk profile of debt instruments. 2. Systematic risk evaluation For the efficient allocation of resources, a systematic risk evaluation is an essential requirement. Rating helps the corporate issuer of a debt instrument to offer every prospective investor the opportunity to undertake a detailed risk evaluation. It helps a heterogeneous group of investors to arrive at a meaningful and consistent conclusion regarding the relative credit quality of the instrument, especially when they do nota possesses the requisite skills of credit evaluation. 3. Professional competency A credit rating agency, equipped with the required skills, competence and credibility provides a professional service, making it possible to use ellresearched and scientifically analyzed opinions regarding the relative ranking of different debt instruments according to their credit quality. 4. Easy to understand Credit ratings are symbolic and are therefore easy to understand. The rating seeks establish a link between risk and return. Investors use the rating to assess the risk level of the instrument by making a comparison of the offered rate of return with the expected rate of return (for the particular level of risk) with a view to optimizing the risk-return preference. 5. Low cost The rating as provided by a professional credit rating agency, is of significance not just for the individual /small investors, but also for an organized institutional investor. It provides a low cost supplement to their own in-house appraisal system. 6. Efficient portfolio management Large investors may use the credit rating for portfolio diversification selecting appropriate instruments from a broad spectrum of investment options. Such investors could use the information provided by rating agencies, by carefully watching upgrades and downgrades, and altering their portfolio mix by operating in the secondary market. Banks in some developed countries use the rating of other bank and financial intermediaries for making decisions regarding inter-bank lending, swap agreements, and other counter-party risks. 7. Other benefits The investor community, in general, also benefits from the other services offered by credit rating agencies, namely, research in the form of industry reports, corporate, seminars, and open access to the analysis of the agencies.

To Issuers 1. Index of faith Credit rating acts as an ideal index of faith placed by the market in the issuers. This eventually also acts as a guide for investment decisions. 2. Wider investor base Credit rating offers the advantage of a wider base compared to unrated securities. Rating arms a large section of investors with specific skills to analyze every investment opportunity and helps them make a very considered decision about their investment. 3. Bench mark The opinion of a rating agency enjoys a wide investor confidence. This could enable the issuers of highly rated instruments to access the market even in adverse market conditions. Moreover, a credit rating by investors a basis for determining the additional return (over and above a risk-free return), which is required by investors as a compensation for the additional risk borne by them. This could be a useful benchmark for issue pricing as well. The different in pricing could lead to significant cost saving for highly rated instruments. To Intermediaries 1. Efficient practice Rating serves as an effective tool for merchant bankers and other capital market intermediaries in the process of planning, pricing, underwriting and placement of issues. 2. Effective monitoring Stock exchange intermediaries like broker and dealers could use ratings as an input for monitoring their risk exposure. Regulators in some countries specify capital adequacy rules linked to credit rating of securities in a portfolio. Merchant bankers also use credit for pre-packaging issues through asset securitization/structured obligations. To Regulators Credit rating has facilitated regulatory authorities around the world to issue mandatory rating requirement. For instance, specific rules restrict the entry of new issues that are rated below a particular grade. Moreover, they also stipulate different margin requirements for the mortgage of rated and unrated instruments, and hence prohibit institutional investors from purchasing from purchasing of holding instruments that are rated below a particular level.

DOMESTIC CREDIT RATING AGENCIES Credit rating coverage in India started only recently. It was in the late eighties (1987) that the first rating agency, CRISIL (Credit Rating and Information Services of India), was established. At present, there are three rating agencies namely, CRISIL, ICRA Ltd (Investment information and Credit Rating Agency of India Limited) and CARE (Credit Analysis and Research). The fourth rating agency is a joint venture between Duff & Phelps. Us and Alliance Capital Limited Calcutta. CRISIL was jointly promoted by ICICI, nationalized and foreign banks and insurance companys in1987. It went public in 1992, and is the only listed credit rating agency in India. Since 1995, in strategic alliance with standard & Poors, it has extended its credit rating services to borrowers from the overseas market. The services offered are broadly classified as rating, information services, infrastructure services, and consultancy. Rating services cover the rating of long, medium and short-term debt instruments, securitized assets and builders, information services include corporate research reports and the CRISIL500 index. The

infrastructure and consultancy division provides assistance on specific sector such as power, telecom and infrastructure financing. ICRA was promoted in 1991, by IFCI and 21 other shareholders comprising of nationalized and foreign banks and insurance companies. It is the second rating agency to be established in India. The services offered can be broadly classified as rating services, advisory services and investment information services. The rating services comprise rating of debt instruments and credit assessment. Advisory services include strategic counseling, general assessment such as restructuring, and services specific to sectors. Such as for power, telecom, ports, municipal rating, etc.

RATING PROCESS AND METHODOLOGY Rating Agreement and Assignment of Analytical Team the Process of rating starts with the issue of the rating request letter by the issuer of the instruments and the signing of the rating agreement. On receipt of the request, the credit rating agency (CRA) assigns an analytical team, comprising two/more analysts who have expertise in the relevant business area are responsible of carrying out the rating assignments. Meeting with Management Prior to meeting with the issuer, the analytical team obtains and analyses information relating to its financial statements, cash flow projections and other relevant information detailed below: (i) Annual reports of the past five years and interim reports for past three years --- if annual reports do not include cash flow statements, then cash flow statements should be provided for the above periods; --- if the interim reports do not contain sheets, these should be provided. (ii) Two copies of the latest prospectus offering statements and applications for listing on any major stock exchanges (iii) Consolidated financial statements for the past three fiscal years by principal, subsidiary or division. (iv) Two copies of the statements of projected sources and application of funds, balancesheets and operating statements for at least next three years, along with assumptions on which projections have been based. (v) Copies of exiting loan agreements, along with, recent compliance letter, if any. In the case of outstanding public debt issues, copies of compliance letters required by indenture of such debt should be also furnished. (vi) A certified copy of the resolution adopted by the board of the company authorizing the issuance of commercial paper and or other short-term debt instrument, including the name of authorized signatories. (vii) List of the banks, showing lines of credit and contact officers for each, along with duly completed short-term borrowings from them in the prescribed format. (viii) If applicable, the name of commercial paper dealer of the company, the planned use of proceeds from the sale of commercial paper, the amount of commercial paper to be use, and a specimen copy of the commercial paper note; (ix) Biographical information on the companys principal officers and the names of the board members.

There is no prescribed format for supplying above information but any format could be flexibly used to cover all the required information adequately. A Complete brief followed by a discussion on management philosophy and plans should also be obtained. There are certain important aspects which should be known since this impact the credit quality of the instruments being rated. Discussion with the management might reveal more information as such discussion should cover the following matters: (a) Discussion on the management philosophy and plant should camouflage the financial and operation data of the past five years and three to five years for future projections; (b) Discussion on projections should reveal management objectives and future plan that is future growth plan of the company should be crystallized. These projections are supposed to reflects managements best estimates of future financial posture of the company and incorporate under lying economic assumptions for the future as well as growth objectives, marketing strategies, spending plans and financing need and alternatives. The financial projections play significant role in the rating process as they indicate a management plan for the future. They7 illustrate the financial strategies of the company in terms of anticipated reliance on internal cash flow or outside fund; (c) Discussions must help reveal the risks and opportunities which affect credit quality over the period covered under projections. Other key factors that the issuer believes will have an impact on the rating, including business segments analysis, portfolio analysis and so forth, should also be discussed. The analytical team then proceeds to have detailed meeting with the companys management. To best serve the interest of the investors, a direct dialogue is maintained with the issuer as this enables the CRAs to incorporate non-public information in a rating decision and also enables the rating to be forward looking. The topics discussed during the management meeting are wide ranging, including competitive position, strategies, financial policies, historical performance and near and longterm financial and business outlook. Equal importance is place on discussing the issues, business, risk profile and strategies, in addition to reviewing financial data. The rating process ensures complete confidentiality of the information provided by the company. All information is kept strictly confidential by the rating group and is not used for any other purpose or by any third party other than the CRAs. Rating Committee After meeting with the management, the analysis present their report to a rating committee which then decides on the rating. The rating committee is the only aspect of the process in which the issuer does not participate directly. The rating is arrived at after a composite assessment of all the factors concerning the issuer, with the key issues getting greater attention from the rating committee. Communication to the Issuer After the committee has assigned the rating, the rating decision in communicated to the issuer, along with reasons or rationale supporting the rating. For a rating to have value to an issuer or to an investor, the CRA must have credibility. The thoroughness and transparency of its rating methodology and the integrity and fairness of its approach are important factors in establishing and maintaining creditability. The CRAs are, therefore, always willing to discuss with the management, the critical analytical factors that the committee focused on while determining the rating and also any factors that the company feels may not have been considered while assigning the rating. In the event that the issuer disagrees with the rating outcome, he may appeal the decision for which new additional information, which is material to the appeal and

specifically addresses the concerns expressed in the rating rationale, need to be submitted to the analysts. Subsequently, a note is put up once again before the rating committee where the rating may not undergo a change. The client has the right to reject the rating and the whole exercise is kept confidential. The rating process, from the initial management meeting to the assignment of the rating, normally takes three to four weeks. However, when required, the CRAs deliver the rating decision in shorter time frames. Dissemination to the Public Once the issuer accepts the rating, the CRAs disseminate it, along with the rationale, through print media. Rating Review for Possible Change In the case of reared instruments, the rated company is on the surveillance system of the credit rating agency and from time to time the earlier rating is received. The CRA constantly monitors all ratings with reference to new political, economic and financial developments and industry trends. All this information is reviewed regularly to identify the companies for potential rating changes. The CRA prepares annual review proposals for rating review committee. The following steps are necessary in the rating process for review cases. New Data of Company The analysis the new information or data available on the company which might be sent to it by the company or it might have been procured through routine channels as strategic information under its surveillance approach. If the new information is crucial for rating decisions, then analysts take action to collect more information as may be available from different sources and study the same from the angle of relevance and authenticity. Rating Change On preliminary analysis of the new data, if the analysts feel that there is a possibility for changing the rating, then the analysts request the issuer for a meeting with its management and proceed with a comprehensive rating analysis. The rest of the procedure of presenting the rating opinion to a rating committee and so on is the same as is followed in the cases of new issues discussed above. Credit Rating Watch During the review monitoring of surveillance exercise, rating analysts might become aware of imminent events like merger and so on, which affect the rating and warrants rating change. In such a possibility, the issuers rating is put on credit watch indicating the direction of a possible change and supporting reasons for a review. Once a decision to either change or present the rating has been made, the issue will be removed from credit watch. The duration of credit watch is for 90 days. In case the rating is modified, the same procedure of presentation to me rating committee, and so on are followed. Credit watch indicated four situations for changing the rating namely (1) Negative change indicating the possibility of a downgrade; (2) Positive change indicating an upgrade; (3) Stable implying no change in rating and (4) Developing implies an unusual situation in which the future events are so unclear that the rating may be changed either in negative directions.

UNDERWRITING:
When shares are issued by a company in the capital market, some times all of them may not be taken by the public. If the company fails to receive minimum subscription, it will have to return the application money. Every company has to face such uncertainties when they make new issues. The help such companies, some specialized agencies have come up into the field. They are generally called underwriters. In the case of underwriting, the underwriter guarantees that the shares underwritten by him will be sold. In case these shares are not taken by the public, he will himself purchases the remaining shares and thus the company will be able to obtain subscription for all the shares issued. Underwriting agreement, as quoted by Gere Stenberg from an English case, is an agreement entered into before the shares are brought before the public that in the event of the public not taking up the whole of them or the number mentioned in the agreement, the underwriter will, for an agreed commission, take an allotment of such part of the shares as the public has not applied for. Underwriting agreements are mainly of three types: 1. The underwriters may undertake to purchase their securities which are offered by the issuing company to the public and are not purchased by the investing class within a stipulated time. 2. The underwriters may purchase the issue outright for the purpose of resale through their organization. 3. When the issue is very large, a single underwriter may not be able to underwriter the whole issue. Under such circumstances, few underwriter will jointly underwrite the issue. This is known as syndicate underwriting. In India, underwriting can be classified into: (i) (ii) Institutional and Non-institutional underwriting

Institutional Underwriting In India, there are a large number of institutions which undertake the underwriting of shares. They mainly underwrite shares of projects which have high national importance, for example, the projects aimed at producing steel, fertilizers etc. Institutional underwriting in India is, therefore, development oriented. But the institutional underwriters are not prevented from underwriting the issues of projects to which the public readily subscribe. In fact, their main concern is to support projects in the priority sector. In India there are a large number of institutions who guarantee the purchases of shares on a commission basis from the issuing company. The following institutions underwrite the issuing projects which have some national importance. Life insurance Corporation of India (LIC) Unit Trust of India (UTI) Industrial Finance Corporation of India (IDBI) Industrial Finance Corporation of India (IFCI) Industrial Credit and Investment Corporation of India (ICICI) General Insurance companies

Commercial banks.

In addition to underwriting, these institutions grant term finance by way of loans on debentures. The institutional underwriters are approached under the following circumstances. 1. When the issue is very large and the broker underwriter are unable to cover the entire issue. 2. When the gestation period is long. 3. When the project is weak. 4. When the project is in the priority sector and it may not be possible for its to offer and attractive return on investment. 5. When the project is promoted by technicians. 6. When the project is new to the market. Non- Institutional Underwriting There are two types of non-institutional underwriters: Brokers who are members of recognized stock exchange. Private investment trust, investment companies and individuals. Distribution The third function of the new issue market is distribution of shares. Distribution is the function of sale of shares and debentures to the investors. This job is performed by brokers and dealers in securities. They maintain regular and direct contract with the ultimate investors.

Financial Management of Sick Unit

Business sickness in India, as elsewhere, is a problem. Tens of thousands of crores of bank funds and institutional resources are locked up in sick units, large, medium, and small. These outstanding are in addition to unpaid arrears of excise duty, sales tax, provident funds, wages, power bills, and so on. The incidence of sickness, quite understandably, has been a cause of considerable concern to the government, financial institutions, and banks. This has been stated several times in the Economic Survey prepared annually by the government. As sickness leads to acute financial embarrassment, the financial manger has a special interest in getting a forewarning of sickness. Moreover, he has an onerous responsibility in steering a sick unit toward recovery.

DEFINITION OF SICKNESS There are two ways of looking at insolvency. The stock based insolvency occurs when the firm has a negative net worth implying that its assets are less than its debt. The flow based insolvency occurs when the operating cash flows of the firms are not enough to meet its obligations. Some of the definitions of sickness, as used in India by various agencies, are given below. The Reserve Bank of India defined a sick unit as One which has incurred cash losses for one year and, in the judgment of the financing bank, is likely to incur cash losses for the current as well as the following year and/ or there is an imbalance in the units financial structure, that is current ratio is less than 1:1 and dept. equity ratio (total outside liabilities as ratio of net worth) is worsening. The Companies (Second Amendment) Act, 2012 Defines a Sick Company as in: a) Which has accumulated losses in any financial Year equal to 50 percent or more of its average net worth during four years immediately preceding the financial year in question, or b) Which has failed to repay its debts within any three consecutive quarters on demand for repayments by its creditors? An examination of the above definitions suggests that regulatory authorities in India have by and large defined sickness in terms of well-defined financial indicators. While such an approach may be motivated by a desire to ensure that the agencies involved in handing sick units operate within a uniform framework, it seems deficient because sickness cannot always be captured so healthy by quantitative financial indicators. We are inclined to offer a broader definition along the following lines: A business firm may be regarded as sick if (It it faces financial embarrassment (arising out of its inability to honor its obligations as and when they mature), and (ii) viability is seriously threatened by adviser factors.

CAUSES OF SICKNESS: A firm remains healthy if it (i) operates in a reasonably favorable environment, and (ii) has a fairly efficient management, when these conditions are not satisfied; the firm is likely to become sick, hence sickness may be caused by: Unfavorable external environment Managerial deficiencies Unfavorable External Environment The firm may be affected by one or more of the following external factors over which it may hardly have any control. Shortage of key inputs like power and basic row materials Change in government policies with respect to excise duties, customs duties export duties, reservation etc. Emergence of large capacity leading to intense competition Development of new technology Sudden decline in orders from the government Shifts in consumer preferences. Natural calamities. Adverse international developments. Reduced lending by financial institutions. Managerial Deficiencies Management can be deficient in many ways. An attempt has been made below to classify managerial deficiencies function-wise. These shortcomings, singly or in combination, can induce sickness. Production Improper location Wrong technology Uneconomic plant size Unsuitable plant and machinery Inadequate emphasis on R & D Poor quality control Poor maintenance Marketing Inaccurate demand projection Improper product-nix Wrong product positioning Irrational price structure Inadequate sales promotion High distribution costs Poor customer service Finance Wrong capitals structure Bad investment decisions Weak Management control Inadequate MIS Poor working capital management Strained relations with investors

Human Resources Ineffective leadership Inadequate human resources Overstaffing Poor organization design Insufficient training Irrational compensation

RBI Study on Causes of Sickness S Study conducted by RBI in the causes of industrial sickness, concluded as follows: A broad generalization regarding important causes of industrial sickness emerges, it is observed that the factor most often responsible for industrial sickness can be defined as management. This may take the form of poor productions management, poor labor management, poor resources management, lack of professionalism, dissensions within the management, or even dishonest management. SYMPTOMS OF SICKNESS: Sickness does not occur overnight, but develops gradually over time. A firm which as becoming sick shows symptoms which indicate that trouble lies ahead of it. Some of the common symptoms are: Delay of default in payment to suppliers Irregularity in the bank account Delay or default in payment to banks and financial institutions Non-submission of information to banks and financial institutions Frequent requests to banks and financial institutions for additional credit Decline in capacity utilization Poor maintenance of plant and machinery Low turnover of assets Accumulation of inventories Inability to take trade discount Excessive turnover of personnel Extension of accounting period Resort to creative accounting which seeks to present a better financial picture than what it really is Decline in the price of equity shares and debentures REVIAVAL OF A SICK UNIT: When an industrial unit is indentified as sick, a viability study should be conducted to assess whether the unit can be revived. Rehabilitated within reasonable period. If the viability study suggested that the unit can be rehabilitated, a suitable plan for rehabilitation must be formulated. If the viability study indicates that units is better dead than alive, steps must be taken to liquidate it expeditiously. Viability Study A reasonably comprehensive assessment of the various aspects of the working of a unit, a viability study should cover the following: Market Operations Finance Human recourses Environment

The viability study may suggest one of the following: a) The unit can be revived by adopting one the following measures: dept restructuring, infusion of funds, correction of functional deficiencies, granting of special reliefs and concessions by the government, replacement of existing management because of its incompetence and/or dishonesty. b) The unit is not potentially viable This essentially implies that the benefits expected form remedial measures are less than the cost of such remedial measures. REVIVAL PROGRAM: The revivals programme usually involves the following:

Settlement with Creditors A sick units is normally in straitened financial circumstances and is not able to honor its commitments to its straitened financial institutions, debenture holders, commercial banks, suppliers, and government authorities). To alleviate its financial distress, a settlement scheme has to be worked out which may involve one or more of the following : rescheduling of principal and interest payment; waiver of interest; conversion of debt into equity; payment of arrears in installments. Provision of Additional Capital Typically, a revival programme entails provision of additional capital, this may be required for modernization and repair of plant and machinery, for purchase of balancing equipment, for sustaining a new marketing drive, and for enhanced working capital needed to support a higher level of operations. The additional capital has to be provided on concessional terms, at least for the initials years, so that the financial burden on the units is not high. Reformulation of product-market strategy: Many a business failures can be traced to an ill conceived product-market strategy. For reviving a sick unit, its product-market strategy may have to be significantly reformulated to improve the prospects of its profitable recovery. This, of course calls for a great deal of imagination and penetrating analysis. Modernization of Plant and Machinery: In order to improve manufacturing efficiency, plant and machinery may have to be modernized, renovated and repaired. This may be essential for attaining certain cost standards and quality norms for competing effectively in the market place. Reduction in manpower: Generally, sick firms to be over-staffed. The revival programme must seek to deuce superfluous manpower. Remember an old managerial was: The leaner the organization, the greater are its chances of survival. Oftengolden handshake involving paying significant retrenchment compensation is a better proposition than carrying redundant manpower on the payroll of the unit. Strict Control over Costs: A profitable organization can afford wastefulness and laxity in its expenditures, a tottering firm. Seeking to regain its health and vigor has to exercise strict control over its costs, particularly over its discretionary expenses. A zero-base review of all the discretionary expenses may be undertaken to eliminate programmes and activates which are a drain on the finances if the firm. Streamlining of Operations: Manufacturing, purchasing, and selling operations have to be meticulously examined so that they can be streamlined Value engineering, standardization,

simplification, cost-benefit analysis, and other approaches should be exploited fully to improve the efficiency of the operations. Improvement in Managerial Systems: The managerial systems in the unit must be strengthened In this exercise, greater attention may have to be paid to the following: Environmental monitoring Organizational structure Responsibility accounting Management information system Budgetary control Workers Participation In general, worker participation in management enhances employee commitment, motivation, and morale. Further, the suggestions offered by the workers result in improvement that lead to higher manufacturing efficiency and productivity. A sick organization, which is being revived, can perhaps benefit even more from workers participation in management. During the revival phase, the dedication, commitment, and support of workers is indispensable and meaningful workers participation and involvement goes a long way in ensuring has. Change of management: A Change in management may be necessary where the present management is dishonest and/or incompetent. It has been observed that a new chief executive, who is competent, committed, and unrighteous, can often bring about dramatic result. The classic example of this phenomenon was the dramatic turnaround of Chrysler Corporation under the stewardship of Lee Iacocca. Merger with a Healthy Company: If a sick firm cannot pull itself by its own bootstraps, the option of merger with a healthy firm must be seriously explored. The healthy firm can leverage its resources to revive the sick firm.

DEBT RESTRUCTURING Mechanisms for Debt Restructuring: Financially distressed companies that have difficulty in servicing their dept resort to dept restructuring aimed primarily at reducing the burden of dept. The mechanism for dept restructuring depends on how a financially distressed company is classified. Financially distressed companies may be classified into the following categories. A. Companies that fall under the definition of a Sick industrial company (Industrial company which is more than five years old and which has accumulated losses equal to or exceeding its entire net worth) as per Section 2(0) of the Sick Industrial Companies (Special Provisions) Act 1985 (SICA)8. 7 This section draws on Chapter 14 of the book investment banking Pratap Subramanayam, published by Tata McGraw-Hill. 8 The Companies (Second Amendment) Act, 2002 amended certain provisions of the companies Act, 1956 and repealed the Sick Industries companies Act, 1985. The 2002 Act calls for the establishment of the National company Low Tribunal (NCLT) to handle all cases relating to company low natters previously handled by the Bureau of Industrial and financial Reconstructions (BIFR) and the company low Board (CLB), both of which

have been abolished, and the High Court. Since the NCLT has not been established on a full-fledged basis, the BIFR and SICA continue to be functional, although at reduced level of activity. With the passage of the Securitization and Reconstruction of financial Assets and Enforcement of Security Interest Act, or Simply the Securitization Act. Specified banks and financial institutions can enforce any security created in their favor by an NPA (non performing asset) defaulter without the intervention of the court. This too has resulted in lesser work for BIFR. B. Companies that fall under the definition of a Potentially Sick company as per section 23 of SICA. C. Companies that do not fall under both the above categories. For companies falling under A, dept restructuring becomes a statutory process under the jurisdiction of board for industrial and Financial Reconstruction (BIFR) set up under SICA. Once SICA becomes applicable, BIFR has wide ranging powers for framing rehabilitation schemes which includes dept restructuring. Companies that fall under B cannot avail of the BIFR route for dept restructuring. Such Companies have to negotiate with the exiting lenders to restructure their dept in a mutually acceptable manner. If a potentially sick company has large loan accounts (Rs.20 crore and above) which are under a consortium financing arrangement, the Corporate Debt Restructuring (CDR) Guidelines issued by the RBI are applicable. The CDR scheme facilitates a restructuring of consortium loans through a non-judicial process by creating a legally binding Debtor-Creditor Agreement (DCA) and an Inter-Creditor Agreement (ICA) which has to be ratified by lenders who have provided at least 75 percent of the loans. If the loans are not covered by the CDR Scheme of if the CDR is not possible because of inadequate support by the concerned lenders, dept restructuring may be done through a Negotiated Settlement and crystallized and becomes payable over an agreed period, usually not more that 18 months, Under an OTS the amount due is negotiated and crystallized and becomes payable within a short period of three to six months. Companies that fall under C have to negotiate with their respective lenders and follow a process which is similar to that followed for companies that fall under B. Common Elements Excluding the cases of Negotiated Settlement (NS) or a One Time Settlement (OTS), the common elements of dept restructuring schemes are as follows: Interest Rate Relief: The contracted interest rate may be reduced if the borrower is not in a position to achieve cash break-even. Deferment of past Interest Dues: The contracted interest rate may be reduced if the borrower is not in a position to achieve cash break-even. Waiver of Penalties: Penalties levied in the form of compound interest and liquidated damage for non-payment of dues on time are generally waived. Reschedulement of Loan Repayment: The loan repayment schedule is reworked, after assessing the cash flow position. Reduction in the Loan Amount: In a situation where to borrower cannot potentially service the loan, lenders may write off a portion of the loan.

Financials Management Public Sector Undertakings

INTRODUCUTION Public sector enterprises/undertaking (PSUs) are owned, managed and controlled by the Government. They have played a significant role in the growth of the Indian economy. In particular, their floe has been commendable in building basic infrastructural capabilities and in developing crore industries. These sectors were not attractive for private sector enterprises as they yielded relatively lo2w returns on the massive investment required by them. In fact, PSUs were one of the major instruments in the hands of the government used in the planned growth of the Indian economy, in conformity with the socialist pattern of society. It was believed that a dominant public sector would reduce the inequality of income and wealth and advance the general prospect of the nation. In brief, they were assigned with various social responsibilities. These unique features and social responsibilities of PSUs make their financial management different from that of private sector enterprises. Section 1. Profiles PSUs and the special features related to their accounting and finance functions. Financial decisions in PSUs are explained in section. 2. On account of their varied social responsibilities and unique features, the basis of their performance of measurement is different from that of private sector enterprises (profitability). The instrument of evaluation in India has been the memorandum of understanding (MOU) which constitutes the subject matter of section 3. In the pastliberalization phase, the focus has shifted to disinvestment, for the various reasons. The reasons as well as main elements of the disinvestment policy are explained in section. 4. The chapter is based on surveys of various public enterprises, published annually by the Department of public Enterprises, ministry of Heavy Industries & public Eterproic, Government of India. The main points are summaries in section.

THE NEED AND RATIONALE FOR DISINVESTMENT. After the announcement of the NEW Industrial Policy in July 1991, the government of India has made several moves towards privatization It is realized that without privatization, the pace of liberalization and marketisation of the' economy would not attain the take off stage. Some of the measures undertaken by the Government include 1) Permitting the entry of the private corporate sector in such core sectors as steel, ports, Airlines, Power and Telecommunication. 2) No fresh budgetary support for public sector enterprises. This will lead to a] Dilution of government: equity is most public enterprises which decide, in for new projects and expansions b] No new central public sector undertakings being set up in the country

c) Issue of equity to the public by the identified public sector undertakings. As a part of the on-going process of privatization, public sector enterprises' equity is being unloaded in the market. This is what we call disinvestment . What are the objectives of disinvestments? On account of burgeoning revenue deficit year after year due to current revenue expenditure on items such as interest payments, wages and salaries of government employees and subsidies, the government is left with hardly any surplus for capital expenditure on social and physical infrastructure. Whereas Government should be spreading on basic of education, primary health and family welfare a large amount of resources are blocked in several an strategic sectors such a hotels trading companies, consultancy Companies, chemical and pharmaceutical companies, etc, giving merger returns. The government is forced commit further resources for the sustenance of many non-viable public sector enterprises Above all, it has to service a huge amount of outstanding debt before any money is available for investment in infrastructure. Hence, this disinvestment of government stage in the public sector enterprises is absolutely imperative. The overall objective of the disinvestment policy is to raise resources from within the public sector so an to meet the following costs associated with transforming the Indian public sector namely, i] A part of the resources would be used to pay for the cast associated with the closure of comprises declared as terminally sick by the BIFR ii] A part of the revenues so raised would be used neither for restructuring those enterprises which are on the verge of becoming chronically sick but are as yet nor beyond redemption iii] A large part of the money raised from disinvestment would be used for retraining of the workers displaced or affected as a result of the closure and internal restructuring. An important objective of disinvestment policy is to create condition which is conducive to raising productive efficiency that is, by lowering costs of production improving product quality and variety improving innovative behavior and fostering investment based on prospective profitability. The basic idea is to improve the strategic performance of public sector enterprises In order to fulfill the above-mentioned objectives different models of disinvestment have been implemented in India over the last decade. They are on follows: i] Public offer: In this model which was adopted in the early 1990's equity was offered to retail investors through domestic public issues. ii] Cross-holdings, golden share and warehousing: In the case of cross holdings, the government would simply sell a part of its shares of one public sector unit to other public sector units. Under the model of warehousing, governmentowned financial institutions were expected to buy the governments' stake in selected Public sector enterprises and hold them until any third buyer emerged. In the golden share model the governmental; retains a 26 percent stake in the public sector enterprise, but a lesser stake does not make it a minority stakeholder

iii] Strategic sale: This plan is being currently pursed by the government. Its major features are a] Government: to offload above 51 percent in strategic sales; new cap fixed at 74 percent b] Disinvestment price to be marked determined and not pre-fixed. c] Structural mechanism to speed up the disinvestment process to be put in place. The public sector enterprises selected for disinvestment will be freed from administrative control of the parent ministry and placed under a new body be to created for piloting the process. As a part of this strategy, important changes have been introduced recently. Firstly, the sale of public sector undertaking' shares will be under the newly Department for Disinvestment. Secondly, the disinvestment of these shares will be delinked from the Union budget. This would lead to a medium - term disinvestment strategy as against an annual one hitherto pursued. It would also relieve the government from intermediate pressures to offload the equity notwithstanding the market realities. Several benefits expected to be derived from the disinvestment polity. They may be stated as follows: i] Disinvestment would expose the privatized companies to market discipline, thereby forcing them to become more efficient and survive on their own financial and economic strength or cease They would able to respond to the market much faster and cater to them business needs in a more professional manner. Corporate governance would be introduced in the privatized companies ii] Disinvestment world result in wider distribution of wealth through offering of shares of privatized companies to investors and employees iii] Disinvestment would have a beneficial effect on the capital market. It would investors give investors easier exit options and help in establishing more accurate benchmarks and pricing. It would also, facilitate the raising of finds by privatized companies for expansion in the future iv] Opening up the public sector to private investment would increase economic activity and have a positive impact on the economy, employment and tax revenues in the long-run. V} Consumers would be benefited as they would have more choices and would have access to cheaper and better quality products and services. This can already be seen in the telecom sector.