Innovation of the Year: Rapid Ratings

Its subscription-based tools are gaining broader acceptance in the energy industry and are increasingly seen as an alternative to the ratings produced by Standard & Poor’s (S&P), Moody’s and Fitch, which have come under heavy criticism in recent years, most notably after they failed to foresee the bankruptcy of Lehman Brothers in 2008.

The New York-based alternative rating agency has developed a quantitative way to assess firms’ creditworthiness and express it as a financial health rating (FHR), a score from zero to 100. Rapid Ratings’ model takes more than 60 ratios into account, weighting them differently depending on a company’s industry; the FHR is automatically recalculated whenever companies release new financial statements. One key strength of that approach is that it lets Rapid Ratings rate both publicly traded and privately held firms on the same basis. At present, there are FHRs available on more than 8,000 public entities, as well as thousands of private companies that are rated confidentially for clients.

“Our ability to rate private companies on exactly the same basis as public companies is a very key distinction between us and others,” says James Gellert, chief executive of Rapid Ratings.

That has helped Rapid Ratings make inroads into the energy sector, where counterparties are often private firms. Over the past year, Rapid Ratings has doubled its number of energy clients. It now has around two dozen subscribers in the energy space, including oil and gas producers, refiners and utilities. That user base has shown loyalty – in 2011, Rapid Ratings had a 90% renewal rate – and some clients have even begun to use FHRs as triggers in contracts, according to Gellert.

“We use Rapid Ratings for our initial credit screening of counterparties and as an ongoing credit monitoring tool,” says Steve Sladoje, chief operating officer of Nasdaq OMX Commodities Clearing Company, which has used Rapid Ratings since August 2010. “With Rapid Ratings, we are able to evaluate and monitor public as well as private companies using the same rating methodology. This flexibility allows us to benchmark our credit portfolio risks against a wider base of companies within the utility power and gas industry.”

Another reason clients like Rapid Ratings, Gellert says, is because its business model avoids conflicts of interest that have eroded trust in S&P, Moody’s and Fitch. Unlike the ‘big three’ rating agencies, which receive money from debt issuers, Rapid Ratings is paid by subscribers seeking information on counterparties. That has helped draw attention to Rapid Ratings at a time when both government and industry have been seeking to reduce their reliance on the established rating agencies.

Although Rapid Ratings’ history goes back to 1991, the past 12 months have been a breakthrough year for the company as it expanded its client base and won favourable publicity. Gellert repeatedly appeared on Bloomberg TV and Fox News and testified on Capitol Hill to discuss the shortcomings of the big three. Most recently, he addressed law makers on the collapse of MF Global.

Gellert argues that the bankruptcy of MF Global was a perfect example of why Rapid Ratings produces a better product than the big three. In contrast to S&P – which still had an investment-grade rating on MF Global on the morning of October 31, 2011, the day the futures brokerage filed for bankruptcy – Rapid Ratings had assigned MF Global a ‘high risk’ FHR of 36 more than two years earlier. 

“For me, what MF Global says is that, when you are looking at a consistent number of inputs across companies, you’re going to see things that are going to be overlooked in a qualitative, subjective environment,” Gellert says. “The large rating agencies were not timely, they were captured by the star power of Jon Corzine coming in as the senior manager of MF Global, and in the face of serious deterioration at that company, it never occurred to them to downgrade its ratings… whereas our system did it, and did it as a matter of course.”