Now It's Moody's Turn For A Review

The Justice Dept. is probing possible antitrust violations

Moody's Investors Service Inc. is under the microscope. The Justice Dept. is in the early stages of an investigation focusing on possible antitrust violations involving the powerful credit-rating agency, a division of Dun & Bradstreet Corp. The probe centers on ratings for municipal bonds, asset-backed securities, and mortgage-backed securities and, more specifically, on instances in which Moody's made "unsolicited ratings"--when it rated bond issues even when an issuer did not seek a rating from the firm. Sources close to the investigation say the scope may be broadened to include unsolicited ratings that Moody has made on corporate debt.

The Justice Dept. will only say that it is "looking at the possibility of anticompetitive practices in the bond rating industry." But in letters and "civil investigative demands"--requests for information that are similar to subpoenas--that were sent to rating agencies Standard & Poor's (which is owned by The McGraw-Hill Companies Inc., BUSINESS WEEK's parent company), Fitch Investors Service, and Duff & Phelps in early March, Moody's was identified as the subject of the investigation. "There's no question that they're interested in certain subjects at Moody's," says George Fasel, a managing director at Moody's. "I just don't know if we're the sole subject." Sources close to the investigation say it focuses on Moody's and on whether the agency improperly pressures bond issuers to use its credit-rating services. The probe comes at an awkward time: Moody's President John A. Bohn Jr. recently resigned, citing personal reasons. He has vehemently denied any connection between his resignation and the inquiry.

NO STRANGER. Moody's is not alone in making unsolicited ratings of debt issues. The ratings business began decades ago, when fledgling rating agencies looked at information that Corporate America provided to the Securities & Exchange Commission and used it to make unsolicited ratings. Most of the controversy surrounding unsolicited ratings today centers on their use in the booming market for asset-backed and mortgage-backed securities. Of the top three rating agencies, Moody's is alone in issuing unsolicited ratings in markets for structured securities. Standard & Poor's, for example, will not rate a structured finance deal without being requested to do so, says Leo C. O'Neill, president of Standard & Poor's Rating Services. His concern centers on the complexity and adequacy of information provided about such deals.

Moody's says it would not make unsolicited ratings on such deals if it wasn't confident that it had sufficient data. Says Moody's Fasel: "We only issue ratings that we can defend, stand behind, and are confident of." Fasel says Moody's does not keep records of how many unsolicited ratings it makes. "It is a very, very small number of the total," he says. "We don't define the issue of unsolicited versus solicited as relevant." Moody's says it has never sent an issuer a bill for an unsolicited rating. Sources say that Moody's may send bills to existing clients who have elected not to ask Moody's for a rating on a new debt issue, however.

Moody's is no stranger to controversy. The credit-rating business has become increasingly competitive, and Moody's is not shy about fighting to maintain its franchise. Its aggressive style has alienated some bankers and bond issuers.

One issuer that is fuming over its experience with Moody's is the Jefferson County (Colo.) School District. It has filed suit against Moody's for "tortious interference with contract, interference with prospective business relationships, and disparagement." In the past, the school district had used Standard & Poor's and Moody's to rate its debt, but in a 1993 offering it decided to use Fitch instead of Moody's. "Moody's is traditionally more conservative about their ratings," says Lynn W. Clannin, budget and finance director for the district. On the day of the offering, Moody's put them on credit watch, says Clannin. The district suspended the sale and bought insurance, but Clannin says it cost the district $770,000. Moody's says it does not comment on pending litigation, but has filed a motion to dismiss the lawsuit.

The idea of beefing up regulation of rating agencies has been floated in Washington. Congress has also requested that the SEC consider increasing its oversight. So far, no legislation has materialized, and the SEC is still mulling rule changes. The Justice probe may shed light on whether such steps are needed.

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