Financial determinants of corporate credit ratings: An Indian evidence

Abstract

AbstractCredit rating is a vital tool in the hands of investors and other users. Standard mathematical formulas do not exist for determining credit ratings. Instead, rating agencies exercise their judgment and use their experience to determine what information is to be important in providing a rating. Thus, knowledge and understanding about factors influencing credit ratings is very crucial for companies being rated and other users. Most of the prior studies in related context have used developed countries' data, and the effect in emerging markets, especially in Indian context, is still unclear due to lack of such studies. So, this study attempts to identify the long‐term and short‐term financial determinants of credit ratings issued to Indian companies and examines their impact on credit ratings on the basis of panel data and cross‐sectional approaches. Ordered probit analysis is used with credit ratings as the dependent variable and six financial factors as the independent variables. Results indicate that size, profitability and leverage have a significant relationship with corporate credit ratings in both panel data and cross‐sectional approaches. Also, size has the highest impact on credit ratings followed by leverage and profitability in both the approaches. The major contribution of present study is that two different mathematical models are framed which have a reasonably well correct prediction percentage. These models can be used by the investors' academicians, practitioners and other users for predicting the rating categories of various companies and to get a fair idea about their creditworthiness and safety.