MANAGEMENT DISCUSSION AND ANALYSIS REPORT (Annexure to the Directors' Report) A. Industry Structure and Developments Despite the mild uptick in economic growth and several policy measures taken by the Government, investment activity did not show broad-based revival. As a result, the pickup in growth of bank credit in 2015-16 was modest. Apart from sluggish growth in the bank loan ratings business, bond issuances declined during the year under review as against the robust growth reported the brvious fiscal. The decline is attributable to several factors like increased risk aversion, a few high profile defaults in the corporate bond markets and weak credit growth, besides concerns over the asset quality of banks (which led to a decline in issuances from the banking sector as well). On the positive side, the trend of corporates accessing short-term financing through the commercial paper (CP) route continued to gain strength, with the CP outstandings increasing by 35% in 2015-16 over the brvious fiscal. In the small and medium enterprises (SMEs) segment, however, business suffered following a cutback in the subsidy available from the National Small Scale Industries Corporation for the rating of SMEs. During 2015-16, volumes in the securitisation market recovered (up by around 30%) while bilateral assignment of loan pools also continued to report good growth during the year under review. GDP growth is expected to improve to 7.8% in 2016-17 from 7.4% (estimated) last year. This, combined with the trend of increasing disintermediation being seen in high issuances of debt capital market instruments such as Bonds and CPs, is likely to have a positive impact on the ratings business. However, the increasing tilt of bank loan ratings towards smaller ticket issuances would also have a moderating effect on growth in this segment. (An overview of the market for rating services, including discussions on the various segments that comprise this market, is brsented in the section titled "Review of Operations" in the Directors' Report.) B. Opportunities and Threats Opportunities Opportunities in the ratings business are a function of the interplay of several factors and developments, some of which arise from the initiatives taken by a rating agency and its strengths, while the others emanate from the environment that it operates in. Some of the environmental, or external, factors that ICRA sees as offering opportunities for growth of its business are a gradual pickup in the economy following increased governmental spending in certain infrastructure sectors (which should increase overall resource mobilisation); expansion of bank credit; and continued implementation of Basel III norms. The private investment cycle is also expected to pick up gradually, the pace depending inter alia on the revival in the global as well as the domestic economy. In the longer run, opportunities are expected to arise from governmental initiatives in developing the domestic debt market, and greater market penetration by players such as insurance companies and pension funds. ICRA is well placed to exploit the opportunities arising from each of the factors stated, given its competitive strengths and strategic initiatives. We believe that our competitive strengths primarily include the rich database and research support that our products and services draw upon; our proven ability to make product and service innovations; the demonstrated track record of our ratings; our experienced and strong management team and pool of high-quality employee talent; and our close association with the Moody's Group, besides our technical services agreement with Moody's Investors Service. Threats The threats confronting our business have their foundation in such risks and concerns as are discussed in Section E of this report. C. Segment-wise or Product-wise Performance Details on the performance of the Company's operating activities are brsented in the section titled "Review of Operations" in the Directors' Report. D. Outlook The long-term outlook for the ratings business remains positive, given the large funding requirements and the gradual uptick in bond issuances both by highly rated corporates as well as financial sector entities. With the banking system facing challenges on the capital adequacy front, they would also need to raise more bonds subject to investor appetite. Also,given the trend of softening interest rates and the need to diversify funding sources, more corporates including the higher rated ones in the infrastructure sector are expected to refinance through the bond markets. Your Company continues to take initiatives to retain its competitive edge and is confident of meeting the challenges posed inevitably by changing business requirements. E. Risks and Concerns (1) Business Risk Your Company is engaged primarily in the business of providing rating and grading services, any economic slowdown in India may impact the volume of bank credit or debt securities issued in the domestic capital markets, and hence, have an adverse impact on your company's business and revenues. Your Company's services are dependent on the condition of the financial markets in India. Any increase in interest rates and credit sbrads, foreign exchange fluctuations, defaults by significant issuers/borrowers, and other market and economic factors, both domestic and global, may negatively impact the issuance of credit-sensitive products and other financial services. A sustained period of volatility or weakness or downturn in the financial markets domestically or internationally could have a materially adverse effect on our business and financial results. Specifically, the bank loan rating business would get impacted if there is a credit slowdown or change in rating related regulation resulting in transition to internal rating models for providing capital. The domestic debt capital market, on the other hand, is skewed towards higher-category credit-ratings. This may continue to constrain the volume of issuance in the Indian debt market. Currently, accessing overseas debt markets by certain Indian borrowers/issuers is regulated, and any change in the brvailing regulatory regime liberalising access to overseas markets for the raising of debt funds may adversely impact issuance of debt instruments in the domestic market. Further, our market share or profitability may be affected by competition, which remains intense. In the event that our competitors come up with newer products and services, better anticipate customer requirements using more sophisticated technology, and offer innovative solutions to our clients or offer more competitive prices, we may not be able to maintain our market share, which may adversely affect our results of operations and financial condition. Additionally, our business is largely dependent on the recognition of our brand and our reputation. In this regard, prominent investment-grade defaults or failure to appropriately assess the creditworthiness of instruments rated by us could negatively affect our reputation and, hence, our positioning as a quality credit rating agency. This, in turn, may adversely affect our business, operations, and financial condition. Risk mitigation • To mitigate business risks arising from changes in economic and market conditions and in regulations that influence the volume of debt issuance, the Company constantly monitors developments on these fronts and adjusts its business strategies accordingly. • The Company evaluates itself periodically against its peers to mitigate competition-related risks. To brvent brand dilution, the Company remains focused on maintaining the robustness of its ratings and gradings while at the same time promoting brand ICRA through seminars, and conferences, apart from the publication of research reports. • The Company keeps a close watch on key regulatory developments in order to anticipate changes and their potential impact on its business. • The Company, both unilaterally and through its participation in industry forums, responds to consultation papers and discussions initiated by the regulators, government and other policymakers on any key regulatory changes that have an impact on its business. (2) Liquidity Risk/Financial Risk The extent of liquidity/financial risk is influenced by various factors such as maturity of liabilities and degree of reliance on secured sources of funding. Risk mitigation • The Company has remained debt-free ever since it was incorporated, and has always sought to finance all its expansion and diversification plans with internal accruals. • A sound liquidity position makes it possible for the Company to discharge all its payables within the stipulated time. (3) Investment Risk The Company has made, and intends to continue making, investments in bonds, debentures, mutual funds, and other marketable securities, the returns on which would be impacted by changes in interest rates and volatility in the financial markets. Besides, the Company has made investments in subsidiaries, the return from which depend on their individual performance. Risk mitigation • The Company has set up an investment committee, which periodically reviews the performance of its investment portfolio. • The Company makes provision for diminution in the carrying value of investments if the diminution in the fair market value of any long-term investment is considered permanent, and regularly evaluates changes in the financial markets. (4) Legal and Statutory Risk The Company complies with all the applicable laws, rules and regulations, and makes business decisions on the basis of combrhensive advice provided both by its own officials and by acknowledged external specialists. Legal risks arise because of changes in corporate laws, SEBI credit rating regulations, accounting standards, tax laws, and/or any other applicable rules and regulations as may be amended from time to time. Risk mitigation • The Company has put in place a combrhensive compliance framework to manage compliance-related issues. Compliance Officers track regulatory and statutory requirements and notify changes to stakeholders periodically. Detailed checklists are available with the compliance officers to ensure compliance with the legal requirements applicable. • Compliance Officers of the Company endeavour to keep themselves abreast of all amendments in the various laws applicable. • The Company also makes provisions in the balance sheet when required and regularly evaluates the adequacy of such provisions for legal risks relating to past events. • The Board of Directors is informed periodically about compliance with the various laws and rules in force. • Regulatory and statutory audits are conducted to ensure compliance with the relevant provisions of the applicable laws and regulations. • The Company obtains legal advisory services and seeks legal advice wherever necessary to avoid any non-compliance with the applicable laws, rules and regulations. (5) Operational Risk/Technology Related Risk The Company has to rely on clients/third parties for the adequacy and accuracy of information (relating to such clients), which may not always be independently verifiable. While we do have a systematic feedback method using which we gather this information, even so, we have to depend largely on clients and third party sources to obtain information relating to them. We may also rely on rebrsentations as to the accuracy and adequacy of the information obtained. Inadequacy or inaccuracy of information may expose us to the risk of assigning an inappropriate rating or grading. This may in turn affect our business, reputation and operations. The Company's ability to conduct business may be adversely impacted by a disruption in the infrastructure that supports its businesses. This may include a disruption involving physical or technological infrastructure whether due to human error, hardware failure, natural disasters, power loss, telecommunication failures, break-ins, sabotage, intentional acts of vandalism, acts of terrorism, political unrest, war or otherwise. With the complexity of our business increasing, sound information system controls are needed, and we have established these in our organisation. The risks involved here are of systems failures, loss of data, and other internal organisational risks. Risk mitigation • To mitigate such risks and thereby the losses arising from business disruptions because of electrical or telecommunications failure or natural disasters, the Company has established appropriate backup facilities. The security policies and effective functioning of all major systems are monitored regularly by the Systems Analyst, in coordination with the information technology coordination team. (6) Policy Risk Material changes in the regulations that govern us or our businesses could affect the results of our operations. Most of the revenues of the Company come from rating services, which are influenced by regulatory requirements. In the event that there are changes in the regulatory requirements of compulsory rating for certain instruments or for certain investors to invest in rated instruments, or there are such changes in regulations that negatively impact the level of issuance of debt instruments in the domestic market, there may be a decrease in the demand for rating. This in turn may affect our business, revenues and financial condition. (7) Political Risk Political instability could adversely affect general economic conditions in India, which in turn could impact our financial results and prospects, as could adverse changes in specific laws and policies pertaining to banking and finance companies, foreign investment and other matters affecting investment in securities. Additionally, any adverse change in the economic liberalisation policies—a major factor encouraging private participation in infrastructure—could have a significant impact on infrastructure development, business and economic conditions in India, and this in turn may affect our financial results and prospects. (8) Attrition Risk Our performance and success depend largely on our ability to nurture and retain the continued service of our management team and skilled personnel. We also face a continuing challenge to recruit and retain a sufficient number of suitably skilled persons, particularly as we continue to grow. There is significant competition for management and other skilled persons in the financial services industry. Further, our competitors and other financial services entities may offer better compensation and incentives. If we are unable to attract talented persons, experience high attrition or are unable to motivate our existing employees, our business and operations may be affected. Risk mitigation • We are committed to providing the best possible work environment and facilities to employees at all levels. To attract, motivate and retain our valuable talent we reward employees based on performance and merit. Deserving employees are eligible to participate in the Long term/ deferred incentive plan focused on retaining critical talent in the Company. We continually benchmark the compensation package we offer against those that the industry and competition offer. Our compensation package is so structured as to be stable while also providing incentives for continuous improvement in performance. F. Internal Control Systems and their Adequacy The Management is responsible for establishing and maintaining controls and procedures for the Company following review by the Audit Committee and the Board of Directors. Accordingly, the Management has designed such controls and procedures, or caused such controls and procedures to be designed under its supervision, as to ensure that material information relating to the Company, including its subsidiaries, is made known to the Management by others within those entities; and designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under its supervision, as to provide reasonable assurance regarding the reliability of the financial statements. The financial statements of the Company are brpared and brsented under the historical cost convention on a going concern basis on an accrual basis of accounting and in accordance with the provisions of the Companies Act, 2013, and accounting principles generally accepted in India. Further, the financial statements comply with the accounting standards specified under Section 133 of the Companies Act, 2013, read with Rule 7 of the Companies (Accounts) Rules, 2014, to the extent applicable. (An overview of Internal Control Systems and their adequacy, is brsented in the section titled "Internal Control Systems and their adequacy" in the Directors' Report.) G. Discussion on Financial Performance with respect to Operational Performance The key features of the Company's financial performance for the year ended March 31, 2016 are brsented in the accompanying financial statements, which have been brpared under the historical cost convention on the accrual basis of accounting in accordance with the accounting principles generally accepted in India ("GAAP") and comply with the Accounting Standards specified under section 133 of the Companies Act, 2013 (the "Act"), read with Rule 7 of the Companies (Accounts) Rules, 2014, the other relevant provisions of the Act (including provisions of Companies Act, 1956 which continue to remain in force, to the extent applicable), pronouncements of the Institute of Chartered Accountants of India, guidelines issued by the Securities and Exchange Board of India ("SEBI"), to the extent applicable. ICRA's Management accepts responsibility for the integrity and objectivity of these financial statements. The financial information discussed in this section is derived from the Company's audited financial statements. Non-operating income Non-operating income consists mainly of interest received on deposits with banks, interest received on loans to subsidiaries, gain on sale or redemption of investments and rental income. During the financial year 2015-16, the Company's non-operating income was lower by 5% over the brvious fiscal, mainly due to lower capital gains on redemption of mutual fund investments Employee benefits expenses increased 9% to Rs. 83.33 crore in 2015-16 from Rs. 76.24 crore in 2014-15. The increase is primarily on account of increase in the average cost per employee because of annual increments, and promotions given to the existing members of staff during the year under review. Employee benefit expenses as a percentage of total revenue increased from 37% during 2014-15 to 38% during 2015-16. Debrciation and amortisation expenses decreased 4% during 2015-16 over the brvious fiscal. The decrease in debrciation and amortisation expenses during the year under review was mainly due to higher debrciation was charged during 2014-15 because of revision in the debrciation rates on tangible fixed assets in accordance with the useful life specified in Part 'C' of Schedule II of the Companies Act, 2013. However, there was no change in debrciation and amortisation expenses as a percentage of total revenue during the period under review as compared with brvious fiscal year. Other expenses increased 12% during 2015-16 over the brvious fiscal. Increase in other expenses is mainly because of substantial increase in bad debts written off (net of provisions). The Company for the financial year 2015-16 spent Rs. 1.30 crore towards Corporate Social Responsibility (CSR) as brscribed under Section 135 of the Companies Act, 2013, however, during 2014-15, no amount was spent on the CSR. Other Expenses as a percentage of total revenue increased from 15% during 2014-15 to 16% during 2015-16. Net trade receivables were Rs. 16.49 crore as on March 31, 2016 as against Rs. 21.61 crore as on March 31, 2015. The decrease in trade receivables was mainly due to higher provisions and write offs during the year under review due to change in billing practice for surveillance fee in respect of bank loan ratings. Trade Receivables as a percentage of Operating Income decreased from 12% during 2014-15 to 8% during 2015-16. Cash and bank balances as on March 31, 2016 mainly consisted of Rs. 180.05 crore in bank deposits, Rs. 0.81 crore in current accounts, Rs. 0.07 crore as earmarked balance with bank (unpaid dividend), and Rs. 0.07 crore as cash on hand. The bank deposits have grown with the surplus funds generated from the internal accruals of the Company. Other non-current assets as on March 31, 2016 consist of bank deposits of Rs. 16.74 crore with maturity for more than 12 months as against Rs. 7.91 crore as on March 31, 2015. Long-term loans and advances declined 4% at the end of fiscal 2015-16 primarily because of repayment of long term loan by subsidiary company. Net short-term loans and advances declined 3% at the end of fiscal 2015-16 over the brvious fiscal primarily because of repayment of short term loan by subsidiary company. H. Material Developments in Human Resources/Industrial Relations, including Number of People Employed The Company, with a total employee strength of 426 as of year-end 2015-16, continues to accord high priority to human resource development, with emphasis being placed on improving skill, competence and knowledge through regular training and in-house/external professional development programmes. Besides, the Company has a consultative and participative management style, and is committed to providing the best possible work environment and facilities to employees at all levels. As a result, the relation between the employees and the Management of your Company has remained harmonious till date. Besides, performance incentives and deferred incentives are provided to eligible employees of the Company so as to encourage and reward superior performance. Further, the Company continually benchmarks the compensation package it offers to employees against those that the industry and competition offer. The compensation package is so structured as to be stable while also providing incentives for continuous improvement in performance. On behalf of the Board of Directors (Arun Duggal) Chairman DIN: 00024262 Date : May 19, 2016 Place : Gurgaon |