Credit Rating Criteria for Leasing Companies

Under the umbrella of the Auditing Association of German Banks, GBB-Rating Gesellschaft für Bonitätsbeurteil mbH (hereinafter referred to as “GBB-Rating”) provides long-term credit ratings of leasing companies. GBB-Rating has published criteria for the rating of leasing companies in German on its website. Unfortunately there was (August 23, 2020) no English translation. In the following are summarized some of their criteria for rating leasing companies. Please do not confuse the representation with an official translation. The methodology is reported here in extracts. The rating agencies supervised by ESMA are obliged to disclose their methodologies, but not necessarily in English.

Ratings are based on an analysis and evaluation of essential quantitative and qualitative aspects of the financial and business profile of each leasing company. This is done by means of a system of indicators and criteria. The rating result is condensed into 22 classes (AAA to D) and expanded to include a rating outlook.

The rating outlook – positive, stable, negative and indefinite – is an early indicator of the direction in which a rating is likely to develop within the next 12 to 24 months. The rating outlook goes beyond the 12-month statement of the rating class, as it shows the development expected within the next 24 months based on the information available.

The focus of the rating process is the determination of an overall value (point value process) as a creditworthiness indicator that determines the allocation to the corresponding class. This results from weighted point contributions from the aggregated parameters financial profile and business profile. The procedure is basically geared towards assessing legally independent companies. Adjustments can be made to take appropriate account of business, legal or other particularities. GBB-Rating distinguishes between main criteria and characteristics. Analysis, assessment and evaluation of the key figures and criteria are carried out on the basis of the financial and business profile, taking into account defined internal rules and procedures. Intermediate scores arising from the analysis of the financial and business profiles are finally weighted and aggregated to obtain an overall score. Given the forward-looking nature of the business profile, it carries greater weight in the rating result.

The financial profile is assessed in a quantitative analysis of the annual financial statements based on indicators of the earnings position and capital position. In view of the very limited information furnished by the annual financial statements of leasing companies, the analysis also gives consideration to intrinsic value. Depending on the timing of the rating, current interim figures are analyzed as well.

The key figure system of GBB-Rating is based on the two essential aspects of the financial strength of a company – sustainable profitability and the substance for covering risks. A detailed rating manual supports the analysts in evaluating the financial data. In addition to taking certified figures from the annual financial statements into account in the key figure system, quarterly figures, budget figures and figures from internal reporting are included in the assessment of the financial profile. Because of the significantly limited informative value of the annual financial statements for leasing companies, the analysis must supplement them with the net asset value calculation according to the scheme of the Bundesverband Deutscher Leasing-Unternehmen e.V. (BDL, the Federal Association of German Leasing Companies) in order to record the economic equity and adequately depict the profit or loss for the period. This way the asynchronous expense and income trends typical in the leasing industry can be assessed, despite the strict periodization requirement according to the HGB principles.

The earnings situation is represented by seven key figures. In addition to gross and net profitability, these include the return on operating performance and cost (coverage) ratios. The key figures are translated into point values using individual transformation curves (polynomials). The transformed point values are subject to a specific weighting and are therefore included in the evaluation of the earnings situation to different degrees. It is not known how exactly the polynomials are calculated in GBB-Rating.

In the case of gross profitability, the return as the sum of the gross profit and the change in net asset value is compared with the risk potential in the form of the adjusted total assets. The gross profit is the result of the sales revenue plus the result from the sale of rental assets less all material and leasing expenses (including refinancing interest). In order for a result that is consistent with the period to be determined, the change in the net asset value must be added before administrative and risk costs (gross net asset value), because these costs do not reduce the gross profit. In the denominator, the main correction items of the balance sheet total are all items that prove the passing on of counterparty risks, especially the deferred income from non-recourse forfaiting (minus a margin for the remaining verity risk) and special rental payments. Forfaiting in the double-decker model, however, is not taken into account as a deduction, since the economic risk remains with the leasing company.

In the case of net profitability, the sum of the ordinary overall result and the change in the net asset value is compared with the risk potential in the form of the adjusted balance sheet total. The ordinary overall result is the sustainable overall result before taxes, adjusted for extraordinary earnings components, including the investment result. In order for a result that is consistent and consistent with the period to be determined, the change in the intrinsic value after administration and risk costs (net intrinsic value) must be added. In the denominator, the main correction items of the balance sheet total are all items that prove the passing on of counterparty risks, especially the deferred income from non-recourse forfaiting (minus a margin for the remaining verity risk) and special rental payments. Forfaiting in the double-decker model, however, is not taken into account as a deduction, since the economic risk remains with the leasing company. The operating performance return is compared to the sum of the ordinary operating result and the change in the net asset value of the operating performance. The ordinary operating result is the sustainable operating result before taxes adjusted for extraordinary earnings components. In order for a result that is consistent and consistent with the period to be determined, the change in the net asset value after administration and risk costs (net asset value) must be added. The operating performance is the result of the sales revenue plus the result from the sale of leased assets less refinancing interest.

The necessary amount of gross income is determined by the performance efficiency (operating costs) and the company’s willingness to take risks (risk costs). Both cost blocks are set in relation to the operating performance (operating and risk cost ratio) or to the value added as the sum of gross profit and change in the (gross) asset value before administration and risk costs (cost and risk-income ratio) and can therefore suit different business structures depict.

The capital ratios are represented by three key figures. These include two informational key figures and a rating-relevant figure. The key figures are translated into point values ​​using individual transformation curves (polynomials). The leasing company’s own liability is assessed using the modified equity ratio, which combines the equity and forfaiting ratio. Equity is set in relation to the company’s risk potential. The adjusted liability capital is the by non-assessable assets such as outstanding deposits adjusted equity. Without the equity capital already fully taken into account, only 50% of the net asset value is included in order to ensure that the taxed equity capital is treated equally with the untaxed net asset value. In the denominator, the main correction items of the balance sheet total are all items that prove the passing on of counterparty risks, especially the deferred income from non-recourse forfaiting (minus a margin for the remaining verity risk) and special rental payments. Forfaiting in the double-decker model, on the other hand, is not considered as a deduction, since the economic risk remains with the leasing company.

The development of the sustainable earnings situation, the sustainable capital ratios, the net asset value calculation as well as the particularities of the accounting can be assessed in the criterion “further aspects of the financial profile”. In addition to taking certified figures from the annual financial statements into account in the key figure system, quarterly figures, budget figures and figures from internal reporting are included. In order to assess a sustainable earnings situation, there is an expanded consideration of earnings factors, taking into account current developments and findings. With the aim of adequately reflecting the earnings position at the time of the rating and including deviations from the sustainable trend in business development in the rating result, the sustainable earnings position is supplemented by the analysis of current interim figures and budget figures. Changes in capital resources or structure during the year can be taken into account. Because of the significantly limited informative value of the annual financial statements for leasing companies, the analysis must supplement them with the net asset value calculation according to the BDL scheme in order to record the economic equity and adequately depict the profit or loss for the period.

The assessment of the business profile is based on an analysis of primarily qualitative and future-oriented external and internal influencing factors. Supporting key figures enable a plausibility check of the analyzes and evaluations. The assessment features are integrated according to a specified standard, which can be adapted to the specifics of the business model. In this way, the necessary objectivity and, at the same time, the necessary flexibility to be able to adequately take into account specific features are guaranteed.

The business profile is evaluated by analyzing chiefly qualitative and forward-looking external and internal influencing factors. The main criteria are market factors, organizational aspects and the risk profile. To facilitate an objective assessment, these criteria are subdivided into individual attributes. In particular when the business profile is being examined, the particularities of the individual leasing company are assessed, such as its asset portfolio and contract structures.

The business profile of the leasing rating method distinguishes the said three main criteria market, organization and risk profile. Each of these three main criteria is divided into assessment features and individual criteria. The criteria are based on fixed assessment scales. The individual assessment via the assessment scale is transformed into a point value. Only when the leading analyst and the second analyst have analyzed and assessed or checked all the criteria does the weighted point values ​​result in a decision-making overall “business profile” value. Descriptions, procedures and framework specifications for evaluation are available for all criteria in a detailed manual. The manual is subjected to a detailed check once a year to ensure that it is complete and up to date. The leading analyst uses this manual as a guide. Deviations from the requirements can only be made in justified exceptional cases after consultation with the following rating bodies. The specifications in the manual are used by the second analyst in the “Data & Controlling” department to check the plausibility of the evaluations.

The main criterion “market” is geared towards a medium to long-term time horizon. As part of an analysis of the market attractiveness, the market or markets in which the leasing company operates are analyzed (macroeconomic view). In addition to considerations of the size of the individual markets, aspects of market growth and profitability, which are determined for example by factors such as the intensity of competition, customer structures, market entry barriers, providers or substitutes, are taken into account in the assessment. Exogenous factors such as the economic development or changes in legal and regulatory provisions or the development of case law on special topics are of no insignificant importance. In addition to the leasing companies’ own statements, research by GBB-Rating is included in the assessments. In the course of a microeconomic consideration, aspects of the individual competitive position are analyzed. In this context, aspects of the market position are included in the assessment as well as the structure and scope of the range of products and services. Another important dimension is the sales policy and the associated sales channels used. A harmonious focus on the market, taking into account the available resources, an acceptable risk appetite and the specific strategic positioning (e.g. cost leadership, quality leadership, niche providers) are essential factors for a long-term successful competitive position. The strategic process can be seen as a direct bridge between the market and the organization. Its consideration includes the company’s internal processes that were set up for strategy development, implementation and monitoring.

The main criterion “organization” is based on a generally medium-term time horizon. As part of the considerations on more general criteria of corporate management, aspects such as the design of the organizational structure and personnel structure and policy are analyzed. The composition e.g. B. the supervisory body is taken into account as well as existing succession plans or potential or actual personnel dependencies or bottlenecks. The areas of controlling and planning as well as the design of accounting and IT are also examined. As part of the analysis of specific corporate management criteria, the design of the internal control systems is subjected to an assessment. The evaluation and analysis is based on the requirements of the current minimum regulatory requirements, particularly in terms of risk management. In addition to address risk management, z. B. the design and functionality of the internal audit as well as the concept for determining the risk-bearing capacity are considered.

The main criterion “risk profile” plays a crucial role when leasing companies are being rated. When the risk profile is being assessed, an inventory of all the credit, market and operational risks is produced. The experience accumulated by GBB-Rating indicates that the most critical risk types are those relating to counterparties, assets and interest rate changes. Following changes to the tax depreciation rules, accounting risks (e.g. loss-free measurement of leasing assets) are also gaining in importance.

The risk profile criterion is basically geared towards a rather short to medium-term time horizon. The risk profile is of paramount importance. When assessing the risk situation, an inventory of all credit, market and operational risks is carried out. GBB-Rating’s experience shows that counterparty, property and interest rate risks are usually of the greatest importance. Depending on the tax depreciation conditions, balance sheet risks (e.g. loss-free valuation of leased assets) also play a major role. In addition to assessing the risk situation, the analyzes of the risk profile also include a consideration of the generation of (liable) capital in terms of capital procurement potential (e.g. direct access to the capital market, retention policy) and the potential for support from the shareholder (s).

The rating result consists of the assignment to a rating class, the justification of the rating and the rating outlook. A rating class reflects the condensed credit rating on the GBB-Rating rating scale; it generally covers a forecast period of 12 months. The findings of the analysis with regard to the financial and business profile are condensed by the analysts into a proposal for the rating result, which is the international known notation (22 rating classes from AAA to D). In the justification for the rating, essential rating-sensitive factors or drivers are shown, which can influence the rating result positively or negatively in the medium term. The drivers of the rating result are analyzed and presented as part of a consideration of the essential areas and criteria with regard to their sensitivity to the rating result.