Credit ratings can have many different meanings, but for the purpose of this article we will discuss their principle one, which is evaluating large financial instruments. The two companies that dominate this industry are named Moodys and Fitch. These firms place ratings on items such as corporate bonds, municipal bonds, other types of complicated financial instruments, and even on the debt of a country itself.
The importance of the credit ratings placed on these items cannot overstated enough. If a bond has a low rating, it will require the issuer of the bond to pay out a great deal more interest to have a party invest in it. Therefore, if you are a large company with a poor rating, your cost of borrowing could be much greater than your competition, which could eventually lead to your downfall.
If a company has poor credit ratings that might not even be able to sell their bonds at all. When it comes to countries, these firms also rate the risk involved with the debt they issue. The same concept applies to countries, as it does to corporations. Which is the better your credit ratings are, the lower your cost of borrowing will be.
There are many financial and economic factors that are examined that go into developing credit ratings. If it is a company, they will look at your balance sheet and determine the amount of assets, cash, and liabilities it has. They will also try and predict future sales in order to estimate your ability to pay off your debt.
Good credit ratings for companies, governments, and counties is essential if you want to be able to get financing as inexpensively as possible. In fact, much more than one firm has been put out of business by not achieving a high enough rating.