ICRA’s Grading of Initial Public Offerings (IPOs) is a service aimed at facilitating assessment of equity issues offered to the public. The Grade assigned to any individual IPO is a symbolic representation of ICRA’s assessment of the “fundamentals” of the issuer concerned on a relative grading scale. IPO Grades are assigned on a five-point point scale, where IPO Grade 5 indicates the highest grading and IPO Grade 1 indicates the lowest grading, i.e a higher score indicates stronger fundamentals. An IPO Grade is not an opinion on the price of the issue, pre- or post-listing.

The Grading Process:

ICRA starts the IPO Grading process on receipt of a formal request from the issuer company. ICRA then sends a questionnaire seeking information on the company’s existing operations as well as proposed project(s). This is followed by site visits and discussions with the key operating personnel of the company concerned. Apart from officials of the company, ICRA also meets its bankers, auditors, merchant bankers, and appraising authority (if any). If the case so merits, ICRA also obtains the views of independent expert agencies on critical issues like , for instance, the technology proposed to be used . Once all the required information has been obtained, ICRA’s team of analysts presents a detailed Grading Report to ICRA’s Rating Committee which then assigns the Grade.

Usually, the assignment of Grade takes three to four weeks after all the necessary information has been provided to ICRA. Once the Grade is assigned, the issuer company is required to disclose the same and also publish it in the Red Herring Prospectus (RHP), which is filed with the Securities and Exchange Board of India (SEBI) and other statutory authorities . ICRA does not carry out any unsolicited Grading; the process involves the full co-operation of, and interaction with, the issuer company concerned.

IPO Gradings are a one-time exercise, not subject to subsequent surveillance.

Grading Methodology:

The emphasis of the IPO Grading exercise is on evaluating the prospects of the industry in which the company operates , the company’s competitive strengths that would allow it to address the risks inherent in the business(es) and effectively capitalise on the opportunities available as well as the company’s financial position. In case the IPO proceeds are planned to be used to set up projects, either greenfield or brownfield, ICRA evaluates the risks i nherent in such projects, the capacity of the company’s management to execute the same, and the likely benefits accruing from the successful completion of the projects in terms of profitability and returns to shareholders. Due weightage is given to the issuer company’s management strengths and weaknesses and issues , if any, from the corporate governance perspective. Accordingly, ICRA’s IPO Grading methodology examines the following key variables: 

Business and Competitive Position

:: Industry prospects

Typic al factors which are assessed here includes the growth prospects of the industry, the extent of cyclicality, competitive intensity, vulnerability to technological changes and regulatory risks inherent in the business .

:: Market position

A company’s market position is indicated by its ability to increase/ protect market share, command differential pricing and maintain margins at par with, or superior to its peers. Factors evaluated would include the sources of competitive advantages like brand equity, distribution network , proximity to key markets and technological superiority.

:: Operating efficiency

The emphasis here is on evaluating the factors which could give rise to operational efficiency, depending on the industry where the company is operating and typically includes areas like access to raw material sources, superior technology, favourable cost structure and so on.

New Projects  Risks and Prospects

Key issues evaluated here are the company’s ability to successfully execute the project that is being undertaken and the potential upside to the shareholders on completion and commissioning of the project. ICRA carries out a detailed risk assessment of the project with respe ct to issues like availability of finances, technology tie-ups in place, ability to ex ecute the project without time or cost overrun , market risks arising from capacity additions and the mitigants in place to counter those risks.

Financial Position and Prospects

Ability to generate sustained shareholders’ value as reflected by trends in profitability margins , EPS growth, Return on Capital Employed (RoCE) and Return on Net Worth (RoNW) are evaluated by ICRA. While the absolute levels and the trends are important, ICRA also compares it with peers operating in the same industry to understand a company’s relative position . Complementing this is an analysis of the company’s ability to generate free cash flows in the long term . The capital structure of the company is evaluated from a perspective of balance between the cost of capital for shareholders’ and financial risks associated with higher leverage.

Management Quality

The assessment is designed to evaluate a company’s management depth, the profile of its key operating personnel, the adequacy of the organisation structure and systems in place as well as the management’s stated plans and policies towards earnings growth and shareholder returns. ICRA also evaluates t he management’s approach towards risk and long term business plans in place.

Corporate Governance practices

While IPO grading is not intended to be a detailed evaluation of a company’s corporate governance practices, broad issues like app arent quality of independent directors, quality of accounting policies and type of transactions with subsidiaries and associates is looked into.

Compliance and Litigation History

The IPO Grade assigned is the outcome of a detailed evaluation of each of the factors listed, and is a comment on the fundamentals of the company concerned and its growth prospects from a long -term perspective. The assessment involves combination of both quantitative factors as reflected in financial numbers, market shares etc as well as qualitative factors like risks associated with new projects, or the management’s ability to deliver on the promises made.

An ICRA IPO Grade does not comment on the valuation or pricing of the issue that has been Graded, nor does it seek to indicate the likely returns to shareholders from subscribing to the IPO.

ICRA’s IPO Grading Scale

• ICRA’s five -point IPO Grading scale is as follows:
• ICRA IPO Grade 5: Strong fundamentals
• ICRA IPO Grade 4: Above-average fundamentals
• ICRA IPO Grade 3: Average fundamentals
• ICRA IPO Grade 2: Below-average fundamentals
• ICRA IPO Grade 1: Poor fundamentals

What an ICRA IPO Grade Is Not:

• It is NOT a recommendation to buy sell or hold the securities Graded
• It is NOT a comment on the valuation or pricing of the IPO Graded
• It is NOT an indication of the likely listing price of the securities Graded
• It is NOT a certificate of statutory compliance

Source : ICRA Website