Bank guarantees are guarantees issued by a lending institution ensuring that the liabilities of a debtor will be met. In other words, if the debtor fails to settle a debt, the bank will cover it.
Bank guarantee means that the bank opens a written certificate to the beneficiary at the consignor’s request. As the guarantor, bank has the responsibilities to handle the debt or obligations instead of the consignor. The rights and obligations of both parties would be prescribed by the contract.
The subject of bank guarantees (BG’s), SBLC’s and MTN’s is confusing. To some it represents a get cash quick scheme that often ends with failure and loss of cash to the unsuspecting and uneducated.
A bank guarantee is when a bank agrees to stand surety for a party to pay a certain amount should they default on their promise and issues surety to pay the said amount. The bank usually receives a commission for standing as a guarantor.
When you read about people offering bank guarantees for sale be careful – Only banks have access to bank guarantees and anyone offering them for sale or lease online is dishonest.
Stand by Letter of Credit
A Stand by Letter of Credit (SBLC) is a document issued by a bank, guaranteeing payment on behalf of a client. This is used as a “payment of last resort” if the client fails to fulfill a contractual commitment with a third party. In all reality, the SBLC is just a piece of paper with a “value” backed by the good credit of the bank, allowing clients use a “conditional collateral” if needed.
The standby letter of credit serves a different function than the commercial letter of credit. The commercial letter of credit is the primary payment mechanism for a transaction. The standby letter of credit serves as a secondary payment mechanism. A bank will issue a standby letter of credit on behalf of a customer to provide assurances of his ability to perform under the terms of a contract between the beneficiary. The parties involved with the transaction do not expect that the letter of credit will ever be drawn upon. The standby letter of credit assures the beneficiary of the performance of the customer’s obligation. The beneficiary is able to draw under the credit by presenting a draft, copies of invoices, with evidence that the customer has not performed its obligation. The bank is obligated to make payment if the documents presented comply with the terms of the letter of credit.
Standby letters of credit are issued by banks to stand behind monetary obligations, to insure the refund of advance payment, to support performance and bid obligations, and to insure the completion of a sales contract. The credit has an expiration date. The standby letter of credit is often used to guarantee performance or to strengthen the credit worthiness of a customer. In the above example, the letter of credit is issued by the bank and held by the supplier. The customer is provided open account terms. If payments are made in accordance with the suppliers’ terms, the letter of credit would not be drawn on. The seller pursues the customer for payment directly. If the customer is unable to pay, the seller presents a draft and copies of invoices to the bank for payment.
Medium Term Notes
A medium-term note (MTN) is a debt note that usually matures (is paid back) in 5–10 years, but the term may be less than one year or as long as 50 years. They can be issued on a fixed or floating coupon basis. Floating rate medium-term notes can be as simple as paying the holder a coupon linked to Euribor +/- basis points or can be more complex structured notes linked, for example, to swap rates, treasuries, indices, etc. When they are issued to investors outside the US, they are called Euro Medium Term Notes. Issuance of MTNs to investors based in the US requires a separate US MTN program.
MTNs can be issued with a fixed maturity date (noncallable) or can be issued with embedded call or put options and triggers where the notes will redeem early based on certain parameters. MTNs are most commonly issued as senior, unsecured debt of investment grade credit rated entities which have fixed rates. MTNs offer more flexibility to the issuer and investor both in terms of structure and documentation.
These financial instruments cannot be bought or traded on the Internet. Avoid everyone offering them for sale online.
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