When your business approaches a bank or financial institution for a loan, the conversation quickly turns to one critical number: your credit rating. But that rating isn’t plucked from thin air—it’s the product of a rigorous evaluation process designed to measure one thing: your ability (and likelihood) to repay. Therefore making it a critical element of evaluation for the lenders.
Credit rating agencies use structured methodologies to assess a business’s credit rating, usually across six core categories of risk:
- Industry Risk
- Business Risk
- Financial Risk
- Management Risk
- Regulatory & Legal Risk
- Liquidity Risk
Let’s look at these individually.
The Six-Pillar Framework That Shapes Your Borrowing Power
1. Industry Risk: Your Sector Shapes Your Stability
The first lens is industry-level analysis. This helps the lenders decide whether your business sector is stable, scalable, and predictable—or cyclical, volatile, and saturated. Giving a broad perspective of the industry your business is in.
Key Evaluation Areas:
- Is the industry fragmented or consolidated?
- Is demand predictable or seasonal?
- Are input prices stable?
- How exposed is the industry to global or regulatory changes?
Example:
A company in the FMCG sector will be seen as operating in a stable, cash-generative industry. A mining or real estate company, however, may be tagged as high-risk due to policy dependence and economic cyclicality.
Impact:
Even a strong company in a fragile sector is rated cautiously. Industry headwinds can overpower internal strengths.
2. Business Risk: How Strong Is Your Operating Model?
This risk evaluates how your business fares within the industry. It’s about your competitive advantage, scalability, and internal resilience.
Key Factors:
- Market share and brand equity
- Diversification of products, geographies, customers
- Operational efficiency and margin trends
- Supply chain resilience
Example:
A logistics company with a national footprint, diversified clients, and proprietary tech systems will have lower business risk than a single-route fleet operator with low asset utilization.
Impact:
A strong, well-run business with multiple revenue levers earns better ratings and borrowing terms.
3. Financial Risk: The Numbers That Back Your Story
This is the most scrutinised part of credit assessment. It measures your capital structure, cash flow health, and ability to meet financial obligations.
Metrics Rating Agencies Use:
- Leverage: Debt-to-Equity, TOL/TNW
- Coverage: Interest Coverage, DSCR
- Profitability: EBITDA margin, PAT, ROCE
- Working Capital Cycle: Receivables, Payables, Inventory days
Example:
A company with DSCR >1.5x, EBITDA margins above peers, and a comfortable current ratio will be rated stronger than one with erratic cash flows and high dependence on short-term debt.
Impact:
Financial metrics tell the hard truth. Regardless of intent or optimism, if the cash doesn’t cover the loan, risk rises.
4. Management Risk: Who’s at the Helm?
This pillar assesses the quality of promoters and leadership. It’s a qualitative but critical factor.
Evaluation Areas:
- Promoters track record and credibility
- Succession plans at different levels
- Transparency and corporate governance guidelines within the company
- Audit quality and disclosure norms followed by the business unit
- Strategic decisions in past downturns
Example:
A firm led by experienced professionals, with clean audits, structured governance, and clear delegation, scores better than one with opaque ownership or past defaults.
Impact:
Good governance and ethical leadership often prevent financial missteps. Poor management can destroy value even in strong businesses.
5. Regulatory and Policy Changes Risk:
This test establishes how vulnerable your business is to shifts in regulation, taxation, or litigation. How Exposed The Business Is to Policy Changes?
The effect is more pronounced in certain sectors than others. In sectors like finance, healthcare, education, infrastructure, and energy, where a sudden change may completely leave a business susceptible the lender assigns a higher risk value hence lower credit rating.
Key Risk Indicators:
- Dependency on government schemes or licenses
- Frequency of litigation or compliance notices
- History of tax or environmental disputes
- Sector exposure to policy volatility
Example:
A solar EPC contractor dependent on state subsidies will carry higher regulatory risk than a B2B SaaS firm with minimal compliance requirements.
Impact:
Policies change overnight—especially in India. Regulatory blind spots can derail otherwise sound businesses.
6. Liquidity Risk: Can You Handle the Rainy Days?
Liquidity risk zooms into your short-term cash flow strength. It’s about whether you have enough ready capital to service debts, even during stress.
Key Metrics:
- Cash & cash equivalents
- Current ratio and quick ratio
- Availability of unutilized bank lines
- Match between debt repayment schedule and cash inflows
Example:
Two firms may have similar profit profiles, but the one sitting on ₹10 crore in liquid cash and ₹5 crore in undrawn limits is far more secure than one with ₹1 crore and no headroom.
Impact:
Loans don’t wait for receivables. Liquidity crunches are the main reasons for defaults—even among profitable companies.
Putting It All Together: How Ratings Are Finalized
Agencies assign scores or grades in each risk category, then weigh them differently based on sector, instrument, and borrower type. For example:
| Risk Factor | Typical Weight (SME borrower) |
|---|---|
| Financial Risk | 35–40% |
| Business Risk | 25–30% |
| Industry Risk | 10–15% |
| Management Risk | 10–15% |
| Regulatory & Legal | 5–10% |
| Liquidity Risk | 10–15% |
The final rating reflects not just your current performance, but how well you’ll hold up under stress scenarios.
Why Credit Ratings Should Matter to You
Whether you’re a large corporate or a ₹10 Cr SME, your credit rating affects:
- Loan interest rates and charges
- Loan limits and tenure
- Insurance premiums
- Vendor and customer perception
- Investor interest and valuation
To evaluate your rating before you approach lenders, take a demo of BankKeeping today
Improving Your Credit Rating: A Practical Playbook
- Optimise your financial ratios tight: Control leverage, ensure strong DSCR, and maintain profitability.
- Build a sturdy operating model: Diversify customers, digitize operations, and boost capacity utilization.
- Books must show liquidity strength: Maintain a buffer and keep some lines undrawn.
- Comply and disclose: Be on time with ROC filings, GST, stock statements, etc.
- Avoid regulatory blind spots: Understand sector laws and plan proactively.
- Use sophisticated SaaS tools like BankKeeping: Automate sanction compliance, detect loan overcharges, and maintain lender-ready documentation.
Because the best time to fix your rating is before you need it.
Final Thought: Credit Ratings Aren’t a Verdict. They’re a Roadmap.
Your credit rating reflects how the financial world sees your ability to weather storms. It’s not meant to intimidate—it’s meant to inform.
And now that you know how it works, the power is in your hands to improve it.
To understand how to improve your rating, schedule a Demo of BankKeeping today.