In the world today, the term credit rating is one of the most important things individuals and businesses monitor in their lives as everyone and every business has one. The difference here is that some countries lay more emphasis on credit ratings than others. That being said, everyone has a credit score. Credit ratings are determined by specific bodies which vary from country to country. For example, in Nigeria the bodies include Credit Bureau Limited, CR Services and the most common credit rating agencies in the world are Standard & Poor’s, Moody’s investors service, Fitch ratings. Now, to explore what a credit rating is.
A credit rating or score refers to the financial worthiness of an individual or organization as determined by the credit rating agency. The financial worthiness refers to how an individual or organization fulfills its financial obligations within set due dates. An individual may assume there is no need to take loans as their income adequately covers their financial obligations as they arise. However, without borrowing and paying back money, there would be no growth as regards your credit scores hence, the importance of credit cards in developed countries. Transactions are settled using a credit card and this is refunded by the user and these payments affect the rise or fall of the credit score. In these countries, the credit score is a way of life as there are some activities that an individual may not be entitled to without this rating such as renting an apartment, obtaining mortgage on a house, car loans, purchases that have installment payment options etc.
Business and organizations with little or no credit score may also be withheld from access to loans and funding. The credit rating is also used by these financial organizations to determine how much can be loaned to the businesses and at what interest. In other words, it determines the future credit risk of businesses. The credit ratings are also determined by the review of audited financial statements, annual reports, industry analysis or news articles while the credit score of individuals are also determined by total debt, repayment history, new credit, number of open accounts, types of credit i.e., mortgage, car etc.
The credit ratings organization operate by obtaining the financial information of the individual or company at a set time during the month and determine the credit rate according to the established rates and thresholds and that would be the credit rating for that month which would not be revised until the next set date in the next month. Debt instruments also have credit ratings which are reviewed periodically for existing and potential investors. Here, there are two types of credit ratings: investment grade and speculative grade. Investment grade refers to less-risk averse instruments i.e., the risk of default is low and the probability of repayment is high. Speculative grade refers to investments with high risk. The interest rates on these investments are usually higher than investment grade i.e., the higher the risk, the higher the reward.
Furthermore, countries also have credit ratings. According to Euromoney country risk (2021), the country with the highest rating is Switzerland and the riskiest country is Venezuela. Factors that affect this score includes foreign direct investment and gross domestic product per capita. They noted that the scores for Nigeria reduced in 2021 due to factors arising from civil conflicts, low agricultural and crude oil output, declining investments and rising debts which increases cost to service.
Overall, credit scores are between 300 and 850 with any score less than 660 regarded as low and any score above 700 regarded as high. Credit score is calculated as follows: payment history accounts for 35%, length of credit history counts for 15%, total debt accounts for 30%, type of credit accounts for 10% and new credit accounts for 10%.
Credit ratings can be improved by seeking professional credit repair companies for help, paying bills on time and getting more credit. Also, it is recommended to stop using a credit card rather than opting to close the credit account.
Excellent credit is very advantageous. Higher credit score means less interest rate and access to more funding. Also, for businesses, they attract new investors and serve as comfort to existing investors. In more developed countries, there are extra advantages to owning a credit card which includes a percentage of cash spent on purchases is returned to the user and some cards also accumulate points as the card is used that can be used to buy plane tickets and so on.
We hope we have been able to shed some light on what credit rating really means. Please share with friends and families, drop your comments in the comment box, and engage with us via our social media platforms @ broadstreetfinancialreview on Facebook, Instagram and LinkedIn; @ broadstreet_fin on Twitter.
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Corporate Finance Institute. (2022, January 22). Credit Rating. Retrieved April 10, 2022, from https://corporatefinanceinstitute.com/resources/knowledge/finance/credit-rating/
Global Risk Table. (n.d.). Euromoney Country Risk. Retrieved April 10, 2022, from https://www.euromoneycountryrisk.com/global-risk-table
Weltman, J. (2021, October 18). ECR survey results Q3 2021: CEE shines but Brazil, Nigeria and other EMs recoil from global investing roadblocks. Euromoney Country Risk. Retrieved April 10, 2022, from https://www.euromoneycountryrisk.com/article/b1v0ty6lpw947h/ecr-survey-results-q3-2021-cee-shines-but-brazil-nigeria-and-other-ems-recoil-from-global-investing-roadblocks