# Rating Methodologies > rating-methodologies - Skill: `brainbytes-dev/rating-methodologies` (Agent Skill) - Install (CLI): `npx skillmds@latest add brainbytes-dev/rating-methodologies` - Raw SKILL.md: https://api.skillmd.com/api/skills/brainbytes-dev/rating-methodologies/raw - Safety review: pending - Works with: Claude Code, Claude.ai, OpenAI Codex - Category: Coding & Dev Tools - Author: brainbytes-dev (https://skillmd.com/u/brainbytes-dev) - Updated: 2026-09-17 - Page: https://skillmd.com/skills/brainbytes-dev/rating-methodologies --- # rating-methodologies Credit rating methodologies — S&P, Moody's, Fitch approaches. ## When to Activate - Assessing a company's likely credit rating or rating trajectory - Preparing for a rating agency engagement or annual review - Understanding the impact of a transaction (M&A, debt issuance, recap) on credit ratings - Analyzing the difference between ratings from multiple agencies (split ratings) - Evaluating subordination and structural considerations for instrument-level ratings (notching) - Benchmarking financial ratios against rating category medians - Advising on actions to achieve or maintain a target rating ## Core Concepts ### Rating Scales **Investment Grade vs. High Yield:** ``` Quality S&P Moody's Fitch Category Highest AAA Aaa AAA Investment Grade High AA+/AA/AA- Aa1/Aa2/Aa3 AA+/AA/AA- Investment Grade Upper Medium A+/A/A- A1/A2/A3 A+/A/A- Investment Grade Medium BBB+/BBB/BBB- Baa1/Baa2/Baa3 BBB+/BBB/BBB- Investment Grade ---threshold--- Speculative BB+/BB/BB- Ba1/Ba2/Ba3 BB+/BB/BB- High Yield Highly Spec. B+/B/B- B1/B2/B3 B+/B/B- High Yield Substantial CCC+/CCC Caa1/Caa2 CCC High Yield Default D/SD Ca/C D/RD Default ``` - The BBB-/Baa3 to BB+/Ba1 boundary is the critical threshold — crossing it (fallen angel) triggers forced selling by investment-grade-only mandates - Modifiers (+/-, 1/2/3) indicate relative standing within a category ### S&P Methodology S&P's corporate rating framework combines business risk and financial risk: **Business Risk Profile (BRP):** 1. **Industry risk**: Cyclicality, competitive dynamics, regulatory environment, growth prospects (scored 1-6) 2. **Country risk**: Sovereign rating, economic stability, institutional framework 3. **Competitive position**: Market share, scale, diversification, operating efficiency, profitability BRP scale: Excellent, Strong, Satisfactory, Fair, Weak, Vulnerable **Financial Risk Profile (FRP):** - Core ratios: FFO/Debt, Debt/EBITDA, FFO/Interest, FOCF/Debt - S&P adjusts reported figures for operating leases, pensions, hybrid instruments, receivables securitization - FRP scale: Minimal, Modest, Intermediate, Significant, Aggressive, Highly Leveraged **Anchor rating**: Combination of BRP and FRP on a matrix produces the anchor (starting point) **Modifiers** (each can adjust up/down 1-2 notches): - Diversification/portfolio effect - Capital structure (debt maturity, currency, interest rate mix) - Financial policy (management's stated leverage target, track record) - Liquidity (adequate, strong, exceptional — or less than adequate) - Management and governance - Comparable rating analysis (final calibration versus peers) **Group/parent influence**: Subsidiary ratings adjusted for group credit profile, strategic importance, and support likelihood ### Moody's Methodology Moody's uses industry-specific scorecards combining quantitative and qualitative factors: **Quantitative factors** (typically 60-70% weight): - Scale (revenue) - Profitability (EBITDA margin, operating margin) - Leverage (Debt/EBITDA, FFO/Debt) - Coverage (EBIT/Interest, FFO/Interest) - Cash flow (RCF/Net Debt, FCF/Debt) **Qualitative factors** (typically 30-40% weight): - Business profile (market position, barriers to entry) - Revenue diversity (geographic, product, customer) - Regulatory/event risk - Financial policy (tolerance for leverage, acquisition strategy, shareholder returns) **Grid-indicated rating**: The scorecard output — a starting point subject to further judgment **Adjustments from grid-indicated to actual rating:** - Ownership structure (private equity ownership often weighs negatively — aggressive financial policy assumed) - Event risk (pending M&A, litigation, regulatory action) - Liquidity profile - Structural considerations (priority of claims) ### Key Financial Ratios by Rating Level Approximate medians for non-financial corporates (varies by industry): ``` Metric AAA AA A BBB BB B CCC FFO/Debt >60% 45-60% 30-45% 20-30% 12-20% 5-12% <5% Debt/EBITDA <1.0x 1.0-1.5x 1.5-2.5x 2.5-3.5x 3.5-5.0x 5.0-7.0x >7.0x FFO/Interest >15x 10-15x 6-10x 4-6x 2.5-4x 1.5-2.5x <1.5x FOCF/Debt >30% 20-30% 15-20% 10-15% 5-10% 0-5% <0% ``` These are indicative — actual thresholds differ by industry (e.g., utilities tolerate higher leverage, tech companies are expected to have lower leverage). ### Notching (Subordination) Instrument-level ratings are notched from the issuer rating based on priority of claims and recovery expectations: - **Senior secured**: May be notched up 1-2 notches from the issuer rating (higher recovery) - **Senior unsecured**: Typically equal to the issuer rating for investment-grade; may be notched down for high-yield issuers with significant secured debt - **Subordinated debt**: Notched down 1-2 notches - **Junior subordinated / hybrid**: Notched down 2-4 notches (including equity content adjustment) - **Recovery ratings**: S&P assigns recovery ratings (1+ through 6) estimating recovery in a hypothetical default scenario **Structural subordination**: Debt at a holding company is structurally subordinated to debt at operating subsidiaries — cash flows must service opco debt before reaching the holdco ### Outlook and CreditWatch - **Outlook (Positive, Stable, Negative)**: Indicates the direction of a potential rating change over the medium term (typically 12-24 months). Not a certainty - **CreditWatch / Review for Upgrade or Downgrade**: Indicates a near-term potential rating action, usually resolved within 90 days. Triggered by a specific event (M&A announcement, earnings miss, regulatory change) - **Rating affirmation**: Rating confirmed after review — important data point that the agency considered new information and maintained the rating ### Split Ratings When agencies assign different ratings to the same issuer: - Common causes: Different methodological emphasis, different adjustment conventions, timing of review, qualitative judgment - Market convention: Use the lower of two ratings, or the middle of three, for regulatory and index purposes - Narrow split (one notch): Not unusual and typically not concerning - Wide split (two+ notches): Investigate the specific factors driving divergence — may reveal a risk that one agency emphasizes more ## Methodology 1. **Identify the relevant methodology**: Each agency publishes sector-specific rating criteria. Download and reference the correct methodology for the industry 2. **Adjust financial statements**: Apply agency-specific adjustments (operating leases, pensions, hybrids, securitizations, captive finance) 3. **Calculate key ratios**: Compute the ratios used in the scoring grid, using the agency's definitions 4. **Assess qualitative factors**: Score business risk, competitive position, management, governance, financial policy 5. **Derive the grid-indicated or anchor rating**: Apply the scoring matrix 6. **Apply modifiers and notch adjustments**: Consider diversification, liquidity, financial policy, group support, structural subordination 7. **Benchmark against rated peers**: Compare the subject's profile to similarly rated companies in the same sector 8. **Sensitivity analysis**: Model how a rating would change under different financial scenarios (deleveraging plan, acquisition, dividend policy change) ## Templates ### Rating Assessment Summary ``` Company: [Name] Sector: [Industry] Current Rating: BBB / Baa2 Outlook: Stable / Stable S&P Framework: Business Risk Profile: Satisfactory (Strong competitive position, moderate industry risk) Financial Risk Profile: Intermediate Anchor: bbb Modifiers: Diversification: 0 (neutral) Capital structure: 0 Financial policy: -1 (acquisitive strategy, tolerance for temporary leverage spikes) Liquidity: +1 (strong — $500M undrawn RCF, no near-term maturities) Management/governance: 0 Indicative Rating: BBB (stable) Key Ratios vs. BBB Medians: Metric Company BBB Median Position FFO/Debt 28% 25% Above median Debt/EBITDA 3.1x 3.0x At median FFO/Interest 5.5x 5.0x Above median FOCF/Debt 12% 12% At median ``` ### Rating Impact Analysis (M&A Scenario) ``` Scenario: Acquisition of [Target] for $800M (60% debt funded) Pre-Deal Pro Forma Recovery (Y2) Revenue $2,500M $3,200M $3,400M EBITDA $500M $620M $700M Net Debt $1,200M $1,800M $1,550M Net Debt / EBITDA 2.4x 2.9x 2.2x FFO / Debt 32% 24% 30% FFO / Interest 6.0x 4.2x 5.0x Current Rating: BBB+ Expected Post-Close: BBB- (negative outlook) Expected Recovery: BBB (stable) within 18-24 months Mitigants: Synergies ($50M run-rate), asset disposals ($200M), no dividends during recovery Risk: Rating downgrade to BB+ if integration delays or synergies underperform by >30% ``` ### Notching Table ``` Instrument | Recovery | Notch from ICR | Instrument Rating Senior Secured Term Loan A | 1+ (95%) | +1 | BBB+ Senior Secured Term Loan B | 1 (90%) | +1 | BBB+ Senior Unsecured Notes | 3 (55%) | 0 | BBB Subordinated Notes | 5 (15%) | -2 | BB+ Junior Subordinated / Hybrid | 6 (5%) | -3 | BB ``` ## Quality Gate - [ ] Correct agency methodology identified and applied for the sector - [ ] Financial statements adjusted using agency conventions (leases, pensions, hybrids, off-balance-sheet) - [ ] Key ratios calculated on the agency's definitions and compared to published medians - [ ] Business risk / qualitative factors assessed with supporting evidence - [ ] Grid-indicated or anchor rating derived and modifiers applied with justification - [ ] Notching applied correctly for each instrument based on priority of claims and recovery analysis - [ ] Peer comparison completed against similarly rated companies in the same sector - [ ] Split rating analysis performed if multiple agency ratings differ - [ ] Outlook and CreditWatch status incorporated into the assessment - [ ] Sensitivity analysis models rating impact under at least two scenarios (upside, downside) - [ ] Rating agency engagement timeline tracked (annual review date, expected actions)