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Sep 2021

Financial and reputational damage from governance weaknesses on the rise

Source: Middle East Insurance Review | Jul 2021

Stakeholder’s tolerance for idiosyncratic governance weaknesses continues to decline raising the likelihood that governance will increasingly weigh on credit ratings, according to Fitch Ratings.
 
The special report ‘Governance and Credit Ratings’ said investors’ growing focus on ESG and better corporate disclosure will mean that governance failures are likely to have a more rapid impact on credit profiles as investors shy away from perceived governance weaknesses.
 
Governance factors remained the most relevant of all of the ESG factors for credit ratings across all analytical groups and factors tied to the issuer and broader group structure were the most prominent for the corporates and financial institutions sectors.
 
The impact of governance on non-financial corporates’ ratings has been more significant than financial institutions – a higher number of corporate issuers had Fitch’s ESG relevance scores of five (36 compared with three at end-March-2021) with multiple observed cases of corporate downgrades and defaults (including former investment grade ratings) due to governance factors. The impact on financial institutions has been limited but is growing.
 
Poor governance has an asymmetric impact on ratings making an entity more vulnerable to financial deterioration or loss of confidence, while good governance only reduces risks of negative governance events.
 
Governance failures are not exclusive to emerging markets but instances where a combination or severity of governance issues affects ratings are prevalent in those regions. Lower operating environment assessments in emerging markets often capture the systemic elements of the elevated governance risks but individual factors can increase negative influences on ratings. M 
 
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