Credit ratings agency pays $2M+ for lack of controls

The Securities and Exchange Commission announced yesterday that the credit ratings agency Kroll Bond Rating Agency Inc. (KBRA) has agreed to pay more than $2 million to settle separate charges relating to the rating of commercial mortgage-backed securities (CMBS) and of collateralized loan obligation combination notes (CLO Combo Notes). According to the order pertaining to CMBS ratings, KBRA permitted analysts to make adjustments that had material effects on the final ratings but did not require any analytical method for determining when and how those adjustments should be made. Further, the order finds that there was no requirement for recording the rationale for those adjustments. The order finds that KBRA’s internal control structure failed to prevent or detect the ambiguity in KBRA’s record of its methodology for determining the CMBS ratings, such as a comparison of the methodology to the analysis used for specific transactions.

The order relating to CLO Combo Notes finds that KBRA’s policies and procedures were not reasonably designed to ensure that it rated CLO Combo Notes in accordance with the terms of those securities. The CLO Combo Notes included a defined “Rated Balance” amount and also directed that noteholders were entitled to receive cash flows from the underlying components of the CLO Combo Note after the Rated Balance was reduced to zero. KBRA’s ratings of CLO Combo Notes were limited to repayment of the Rated Balance amount of each CLO Combo Note and did not reflect the risk associated with any cash flows payable to holders of the CLO Combo Note over and above the Rated Balance, even though such amounts could materialize, and would be payable to the holders of the CLO Combo Note.