Initial Public Offerings Rating

The Ghana Stock Exchange (GSE) is determined to improve transparency and disclosures by companies raising funds from the public. IPO grading is one way to improve transparency and disclosures which assist investors to make informed decisions leading to healthy growth of capital markets.

Beacon Ratings’ IPO grading is an assessment of the fundamentals of a corporate entity and its public issue, covering operating environment, industry growth prospects, supply chain partners, operating and financial performance, liquidity and financial flexibility, infrastructure and technology, solvency and leverage, risk management, sustainability and competition, parent entity support, corporate governance and management quality. Effectively, the grading is an independent opinion on the fundamental strengths of the IPO.

The grading is communicated to investors through a grading report which provides information on grading rationale, key rating drivers (strengths or weaknesses), and financial indicators/highlights.

Beacon Ratings’ IPO grading is a comprehensive analysis of factors that affect the issuer and the issue and includes interaction with senior management to understand and assess key aspects of the IPO.

• Operating environment assessment provides a clue of the setting in which Issuer operates, determining current state and prospects for development.
• Regulatory environment set out the framework for business practices, policies and incentives for products that have significant effect on operations of Issuer.
• Sound and transparent regulatory framework with independent and credible regulator with best practices, promotes healthy industry environment.

The industry growth prospect is assessed to determine performance and associated risks of the industry. Industry parameters are:

• Growth prospects: Growth prospects of an industry affect earnings and returns of entity operating within it. 
• Industry dynamics have significant effect on Issuer’s operating position, product, market, pricing strategies and long-term core profitability.
• Cyclicality: Cyclical industries are categorized into two: those that are influenced by the performance of the economy - real estate, and those influenced by the level and volatility in commodity prices - agriculture.
• Competitive intensity: High level competition in an industry reduces Corporate entities’ capability to grow revenues and increase profits.
• Regulatory risk: Regulatory intervention in multiple forms, including taxation, duties and subsidies, price controls, import/export restrictions, outright bans.

Corporate entities that have relatively strong positioning and high market share have competitive advantage. The following are assessed:

• Products and services profile
• Timely availability of raw materials, manpower and utilities
• Bargaining power with key customers and suppliers
• Value addition in the product and services
• Product and service distribution networks and channels
• Business contracts with customers and order quantities
• Relative scale: large scale is associated with operational efficiency

Operating activity and efficiency are assessed using financial ratios such as:

• Cost of production per unit compared to competitors
• Stock turnover
• Debtors’ collection period
• Creditors’ payment period
• Turnover to total assets
• Current capacity utilisation
• Operating expense to income
• Sensitivity of key drivers, selling prices and input costs

• Competitive position: This results from solid control over distribution channels, suppliers, other business partners, and easy access to target markets.
• Market share arises from solid position per market and product, client recognition, brand name, strong niche.
• Size of operation: Large entities are sustainable and competitive. Medium and small entities - in terms of asset size or gross revenue - can enjoy a significant competitive advantage when sustainable market positions are taken in niche segments.
• Business franchise: Franchise may arise from brands and products to meet the range and varying needs of clients. Solid business franchise leads to strong market position, market growth, core profitability and internal capital generation.

Corporate entities use of modern technology infrastructure to achieve efficient production cycle, reduce wastes, sustain quality products and demonstrates willingness of management to grow the business within changing times.

Profitability is a measure of earnings generated as against the resources deployed.

• Expense ratio
• Gross profit margins
• Net profit margins
• Return on assets
• Return on equity

Borrowed funds have obligations in the form of interest and principal repayments, irrespective of the cash flow generation. Gearing and debt coverage indicators such as:

• Debt to total assets
• Debt service coverage
• Interest coverage

• Capacity to raise funds at short notice from banks
• Bank lines for working capital, revolving credit facilities
• Treasury bills and other short-term notes
• Cash or encumbrance-free fixed deposits in banks

Liquidity measures of an entity’s capability to meet its short-term cash obligations

• Current ratio
• Quick ratio
• Cash ratio

Cash flows analysis is critical in assessing creditworthiness as it provides indication of whether operations are capable of funding itself or relying on external sources.

• Cash flow from operating activities
• Cash flow from investing activities
• Cash flow from financing activities
• Free cash flows

Sustainability of Issuers is heavily influenced by policies and support provided by governing board over time. Parameters considered include:

• Board compositions and committees
• Oversight responsibilities
• Board practices and track record
• Board support for management
• Board composition and independence

Management quality is a differentiating factor in the performance of Issuers. Parameters considered include:

• Senior management stability 
• Senior management pro-activeness
• Senior management’s credibility and track record
• Depth, breadth and succession plans
• Capability of second layer of management

• Employee relations
• Human rights
• Stakeholder relations
• Health and safety
• Air pollution and water pollution
• Product and service responsibility

Issuers in most cases are affiliates of larger business groups hence any form of implicit or explicit support available from parent/sponsors serves as credit enhancement. Financial strength of the parent entity is considered:

• Financial position of parent entity
• Sources of operating cash flows
• Commitments and allocation of funds
• Strategic significance to parent entity