Solicited and unsolicited credit ratings

In addition, to examine evolution of conservatism in rating standards over time they split the sample into two sub-samples based on period: 1983-97 and 1998-2008. Estimating their regression model over these two periods, they conclude that the test variable is highly significant for the 1998-2008 subsample, suggesting that Moody’s conservatism increased during this period. They also create an interaction term between the test dummy and a time trend variable and add it to the main regression model. They find that the interaction term is negative and significant, supporting the investors’ preferences are inherent with more conservative ratings.

To sum up, the major credit agencies systematically disagree on some of their credit rating assignments on specific firms. The likelihood of split ratings is explained by both financial and governance variables. The researchers identify that Moody’s apply stricter credit standards on its ratings, and the investors ask lower yields for split-rated bonds with Moody’s superior ratings during the 1998 to 2008 period.

and equivalents, and some accounting ratios. Current ratio, quick ratio, cash ratio, and total assets and total sales as a measure of the size of a corporation, and variables for firm’s fixed assets. We can observe that in all of the studies presented, the authors tend to agree around the firm characteristic variable and the variables used to capture its influence on credit ratings.

Moreover, their findings suggest that there are significant diversities between solicited and unsolicited ratings, as a consequence Poon and Chan examine if those differences are related with the firm’s financial status. They present descriptive statistics for the aforementioned variables, and their conclusion is that highly leveraged firms, with low and uncertain profits, are more likely to assigned with unsolicited credit ratings.

Furthermore, they introduce the main regression model of this study. In order to test the hypothesis that the firm’s characteristics affect the decision of obtaining a rating are also credit rating determinants (sample-selection bias), they estimate a probit regression model of the rating decision against firm characteristics, sovereign credit, and a dummy variable coded one if the firm is based in Japan (unsolicited ratings appear only in Japan firms).

Then, they use the probability result from this model as an instrumental variable to the following regression of credit ratings against all the explanatory variables described above and the instrument.

Finally, Poon and Chan present their conclusions based on the regression analysis. They find that firm size, sovereign risk, and profitability significant, positively related with credit ratings. Also, the variables of debt and leverage are significant too, and have logical signs, suggesting that higher leverage lead to lower ratings. The instrument variable is positive and significant, indicating the existence of sample-selection bias, and that the solicited ratings are generally higher than unsolicited.

Byoun and Shin (2011) examine whether unsolicited ratings add new information to the market. Similarly, to the study by Poon, and Chan, the authors find that unsolicited ratings are generally lower, and they argue that there aren’t assessed any diversities in market reactions for downgrades between unsolicited and solicited ratings. They also investigate how the unique Japanese corporate governance mechanism affect Japanese firms’

decisions to obtain ratings. Also, they examine if solicited or unsolicited ratings can explain better the firm's future profitability, and even more which agency’s ratings are better determinants of future profitability, R&Ds (a Japanese credit rating agency) or S&P’s ratings.

Also, they find that investors and market participants in general tend to be more cautious about unsolicited ratings and especially for the lower-grade ones. Hence, their reactions are more severe in those ratings downgrades. Interestingly, most of them react in the same way for downgrades in solicited ratings of low-grade too. Finally, the authors provide evidence that market understand the downgrades on unsolicited ratings as a negative signal about firm’s future performance.

They start by setting the following hypotheses as the foundation for their research. They hypothesize that unsolicited ratings are going to be low-grade. Byoun and Shin posit that based on market efficiency unsolicited ratings will not influence firm’s value. However, they state that the investors and regulators support that the credit rating agencies’ have

the skills and the know-how to make accurate assessments of credit risk. Thus, changes to firm’s value are expected due to unsolicited ratings, and accordingly more severe reactions for lower rating classes.

Furthermore, they develop two more hypotheses to test the effects of Japanese corporate governance in solicited and unsolicited ratings. In particular, they highlight that Japanese firms with a keiretsu link, are protected significantly in a period of financial distress. The potential bailed out make those firms care less about external credit assignments. Thus, they hypothesize that firms affiliated with keiretsu doesn’t have the incentive to obtain ratings to access funding, and they subject weaker changes in their value due to unsolicited ratings announcements.

They estimate a probit regression model of the dummy variable coded one if the firm’s rating assignment is investment grade against some control variables including firm’s characteristics like debt and market-to-book ratio, dummy variables identifying the type of keiretsu linkage, and a dummy variable equals one if the firm’s rating is unsolicited.

Their findings are identical with Poon and Chan (2010) supporting that, unsolicited ratings are consistent with lower rating grades, since the latter dummy is negative and significant.

Additionally, they investigate if the investors’ reactions on rating announcements are more intense to the unsolicited ratings announcements. Thus, they calculate the abnormal returns for a specific time window and sample of announcements. Byoun, and Shin find that downgrade announcements considered as a negative sign from the investors, and they react selling or avoiding the specific securities, leading their prices to fall.

However, the market participants tend to react in the same way for unsolicited and solicited ratings for these downgrade announcements. The authors provide evidence that the market’s reaction on downgrades differentiate between rating-grades, supporting their hypothesis that is more severe on speculative-grade assignment.

Moreover, they examine how Japanese corporate governance (keiretsu) influence the firm’s decision to obtain a credit rating. They estimate a regression model of market model’s residual against the aforementioned explanatory variables and an interaction term between the dummy variable equals one for firm with unsolicited rating and dummies capturing they type of keiretsu for the firm. In addition, they estimate a regression of future profitability, as measured by return on assets, against the difference between R&I and S&P’s ratings.

In the end, the results from the former regression models support that keiretsu link is consistent with more intense market reactions on downgrade announcements in both solicited and unsolicited ratings. In other words, investors believe that the firms under this corporate governance mechanism are less transparent. From the latter regression model, they find that for solicited ratings the larger difference between R&I and S&P’s ratings, the future profitability will be significantly lower. However, for unsolicited the corresponding coefficients are insignificant, indicating that this difference does not provide any additional information about firm’s future value.