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"Roadmap for risk" in NZ listed debt market

Rapid Ratings creates "roadmap for risk" in NZ listed debt market

Rapid Ratings has released its first NZDX Report. The Report is a comparative assessment of listed debt securities on the New Zealand Stock Exchange's DX market. The Report rates 28 issuers and 58 capital notes issues, and was developed to assist market participants in analysing risk and return in the NZ listed debt markets. Dr Patrick Caragata, CEO of Rapid Ratings noted "With the NZDX Report, I believe we have created a "roadmap for risk", that will enable investors, traders and issuers to identify whether or not a security is being appropriately priced relative to the underlying level of risk."

Companies rated in the report include: AHH (Accor), ANZ Banking Group, BIL International, Blue Star, Capital Properties NZ, ECNZ, Feltex Carpets, Fernz Corp, Fletcher Building, Goodman FF (Burns Philp), GPG Plc, Infratil, Mission Contact Finance (Edison International), Montana Wines (Allied Domeq), NZ Dairy Foods, NGC Holdings, NPT Capital, Nuplex Industries, Powerco, Provenco, Richmond, Sky City, Sky TV, Trans Tasman Properties, TCNZ Finance, Tower Corp, Trust Power, Vector Ltd.

Issue ratings shed some light on risk/return disparities Dr Caragata said the NZDX Report provided some critical insights into where price disparities were occurring within the market, "In constructing the Report, we developed an optimal yield curve for the NZ listed debt market. The curve has shed some important light on market inefficiencies, enabling us to identify quite a few capital notes which appear to be under or overshooting the level of credit risk." Said Dr Caragata, "The curve is based on three independent modelling exercises of risk and return both in the NZ and global market. We are developing a real time version of this curve to provide our clients with even more rapid, relevant market pricing insights."

TCNZ Finance, Sky City top issuer list, Fletcher Building continues recovery Two companies achieved low risk ratings. TCNZ Finance, the highest ranked issuer, scored an A3 (refer Table 2: Rapid Ratings Scale) and Sky City with the second highest ranking scored an A4. TCNZ Finance and Sky City issues also lead the capital note rankings.

Meanwhile, Fletcher Building continues to recover, achieving an investment grade rating for the second year in a row. Fletcher Building had been rated an E2 (12 notches below investment grade) in 2001/02 period when the Company was struggling financially. The Company has made significant improvements in its financial performance. With a lift in upstream and downstream profitability, as well as improvements in debt service management, leveraging and cost structure, the Company returned to investment grade with a B1 rating in both 2002 and 2003 and a positive rating outlook.

Table 1: Top 5 Issuers Company Rating score Rating based on financial data for the period* TCNZ Finance (Telecom NZ) A3 88 30 June 2003 Sky City A4 81 30 June 2003 Australasian Hotel Holdings (Accor Group) A4 80 12 December 2002 Fletcher Building Ltd B1 79 30 June 2003 Trust Power Ltd B1 79 1st 6 months of year ending 31 March 2004 * These ratings are viable for a 12-month period from the balance date of the company, unless six-monthly or quarterly returns have been utilized to update the rating. A rating based on only 3 or 6 months of data may not fully reflect the company's potential (positively or negatively) for the full financial year. Hence, the reader is urged to exercise caution in interpreting these ratings.

Richmond, Feltex, Provenco, NGC show biggest rating leaps among NZDX issuers Over the past 12 months, general improvements across the board resulted in a significant lift to Richmond Ltd, which saw its ratings rise to C1 from a high risk rating of D4. Richmond is now considered borderline investment grade - although remains two notches below investment grade (B3 is the cut-off) and three notches below its peak of B2 in 2001. Other strong improvements were registered by Feltex, Provenco, and NGC.

Mission Contact Financial continues to decline Meanwhile, Mission Contact Financial's rating deteriorated 6 notches or 46%, dropping below investment grade to D1 (from B3 the previous year). The Company, which is a special purpose finance vehicle for Edison International has seen its rating swing from B4 in 1999, to A4 in 2001, B3 in 2002 with further decline to its current below investment grate rating. Dr Caragata noted, "Because Mission Contact is a special purpose vehicle operating as a finance company for Edison International, we have based our ratings on its parent company."

Finance company ratings posed a challenge "One of the challenges we faced in developing this Report was how to tackle the listed non-bank finance companies (NBFCs), since we rate many unlisted finance companies already in New Zealand" said Dr Caragata. "Out of the 28 issuers we rated, six were identified as NBFCs created purely for the purposes of providing finance for their parent company. These include TCNZ Finance, Fletcher Building Ltd, GPG Finance, Mission Contact Finance, Goodman Fielder and BIL International. While the vehicles themselves enable parent companies to source lower cost financing, from an investor perspective, the financials presented by these firms are not always representative of the underlying fundamental risk (which in many cases stems from the parent company itself). Our policy with respect to rating these entities is as follows: where a finance company is a special purpose vehicle (SPV) and has no other purpose than to channel financing to the parent, Rapid Ratings will rate the parent and not the SPV. "

A scientific approach, avoiding errors and bias Rapid Ratings' NZDX Report employs output from Rapid Ratings' detailed credit reports to build a comprehensive overview of issuer ratings, trends and relative rankings. "Our detailed company reports utilize a scientific, robust and rigorously tested approach that avoids errors and bias found in other methodologies." Dr Caragata noted, "In fact, our industry-specific models avoid over 20 forms of commercial and academic model input and output bias. "

An excellent track record Bias avoidance is one of the key factors contributing to Rapid Ratings' successes, and international recognition of its track record in delivering accurate ratings assessments is growing. For example, CFO Magazine recently published an article on the demise of Parmalat contrasting Rapid Ratings' success at identifying weakness in Parmalat with other well known rating agencies. In November 1999, Rapid Ratings' rated Parmalat a D4 (long-term rating) - or nine notches below investment grade. CFO writes:

"To summarise, Rapid Ratings' assessment of Parmalat's creditworthiness... remained at a steep discount to investment grade, between 1998 and 2003. S&P maintained its investment grade rating for the company for most of 2000-2003. In September last year S&P began signalling its concerns about the company's health, before slashing the rating by four notches to B+ in December. By that time, Parmalat had already defaulted on a US$185 million bond payment, and had its accounts queried by auditor, Deloitte Touche Tohmatsu. Later in December, S&P lowered the rating again, to D (for "default"). What makes the credit rating angle so interesting is the fact that both ratings agencies had access to the same publicly available information about the company."

Other examples of Rapid Ratings' successes include early warnings (several years in advance) on problem companies such as AMP, HIH, One Tel., Air NZ and Enron. All were identified as sub-investment grade well ahead of the market and well ahead of their subsequent decline or demise.

A good source of leading indicators of a company's financial health Although some of the ratings provided in the Report are based on data from previous financial years, according to Dr Caragata, "even if 6-11 months goes by before an update, our forecasting record for looking over the horizon is quite accurate. Hence our ratings have strong predictive power 1-5 years ahead of the distress or demise of a company and 6-18 months ahead in the case of turnarounds or upturns. Therefore the need to update every day, week or month can be a red herring."

Table 2 - Rapid Ratings Ratings Scale RISK RATING: One year Outlook EXPLANATION: with respect to the degree of risk of non-payment of corporate debts and/ or the degree of risk of insolvency. ASSET QUALITY BRAND(tm) (AQB) RATING TIER A A1 Minimal risk of non-payment and insolvency Exceptionally high quality A2 Exceptionally low risk Very high quality A3 Very low risk High quality A4 Low risk but there are some concerns Moderately high quality TIER B B1 Moderate to low risk and somewhat subject to fluctuations in market conditions Very good quality B2 Generally moderate risk Good quality B3 Moderate risk / more subject to market conditions Reasonably good quality B4 Moderate risk that can worsen with market conditions Moderately good quality TIER C C1 Medium to moderate risk and generally subject to fluctuations in market conditions Satisfactory quality C2 Generally medium risk Reasonable quality C3 Medium risk / more subject to market conditions Still medium quality C4 Medium risk that can worsen with market conditions Periodic concerns TIER D D1 High to medium risk and very subject to fluctuations in market conditions Questionable quality D2 Moderately high risk / increasingly at risk Seriously questionable D3 Still higher risk Speculative D4 High risk of non-payment Very speculative TIER E E1 High risk of failure which is unlikely to improve with better market conditions Exceptionally poor quality E2 Very high potential for payment default Seriously impaired E3 Still trading but likely under extreme creditor pressure Bad & doubtful E4 Still trading but possibly insolvent Non-performing

* Rapid Ratings is a new generation corporate ratings agency, employing proprietary web-based software to analyse audited, available financial data to generate reliable and timely credit ratings.

* Rapid Ratings is 70% owned by Collection House Limited (, one of Australasia's leading receivable management agencies. Collection House is listed on the Australian Stock Exchange (CLH.ASX).

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