14 | The Lion King
Specific or Continuing Guarantee:
If the guarantor in giving the guarantee,
takes up responsibility only for a
particular transaction between the
debtor and the bank and limits it to a
specific sum, that guarantee is specific.
There is also a continuing guarantee of
a limited sum, in which the guarantor
guarantees the debtor’s liability to the
bank, though for a specified sum, but
beyond a specific transaction.
A guarantee is not the same thing as
an indemnity. Whereas a guarantee
contemplates the secondary liability
of the guarantor, an indemnity gives
to the person to whom it is made, the
immediate right to the indemnor, for
satisfaction of the obligation in respect
of which the indemnity is given. This can
be illustrated thus: if a party states, “If
you supply goods to A, I will see you get
paid” that is an indemnity. However,
if he had stated, “If A does not pay
you, I will pay you” that would be a
guarantee.
Bank guarantees.
Apart from accepting guarantees
as collaterals for the facilities they
grant to customers, banks do also
issue guarantees, in which they take
up responsibility for the payment or
performance of an obligation by the
their customers. Where a bank is to
issue a guarantee, it would usually have
convinced itself that it is protected
against the risk of non-performance
or unsatisfactory performance by
that contractor, because although
a bond or guarantee is a contingent
liability; there is indeed a chance that it
crystallizes.
Advance Payment Guarantee
One variety of a guarantee regularly
issued by banks is the Advance
Payment Guarantee (APG). An APG
assures an organization paying out
an advance payment on a contract
that the payment will be utilized by the
contractor for the purpose for which the
payment is made.
It is limited to a specified amount. Its
validity is usually subject to the effective
receipt by the bank of the advance
payment into the contractor’s account
with the guarantor-bank.
Although the bank may accept other
suitable and realizable collateral or
collaterals and even opt for milestone
releases based on effective monitoring
of the execution of the contract, its
first choice is to warehouse the cash
(the APG proceed) as collateral for its
exposure on the guarantee. This is why
a clause is usually incorporated on the
APG limiting the liability of the bank to
the value of the proceeds actually paid
to and received by the bank.
Scenarios on APG transactions
The proceeds of an advance payment
guarantee are not automatically
available to the contractor. During
the life span of the guarantee, the
bank may only release the advance
payment to the contractor on terms
and conditions agreed between
them, usually taking into account the
need for the bank’s exposure to be
secured since indeed an advance
payment guarantee is a liability, even
if contingent. One of various situations
therefore arises in an advance
payment guarantee transaction:
APG scenario A
The bank warehouses the proceeds
as security for the guarantee it has
issued and does not release it to the
contractor until or unless discharged
by the passage of time or discharged
by the employer (the guarantee
beneficiary). In which case, the
contractor utilizes some other fund
for the required or guaranteed
performance.
APG scenario B
The bank warehouses the proceeds,
and then disburses a fresh credit,
on terms agreed with the customer-
contractor, including the provision of
suitable collateral arrangement and
disbursement of credits in milestones,
to enable the customer- contractor
finance the required performance of
the contract.
APG scenario C
The bank releases the proceeds to the
customer- contractor, usually based on
the bank’s rating and appraisal of that
customer, and in most cases, based on
milestones monitored by the bank or
some other consultants. In this instance,
the terms and conditions for both the
issuance of the guarantee and the
release of the advance payment are
usually conveyed in a single letter of
offer, which the customer-contractor
should duly accept.
When does the liability of the bank on
an APG cease?
APGs are discharged or determined
by expiry of tenor (if of a fixed tenor)
or performance by the customer-
contractor of the contract guaranteed.
The mere return of the original APG to
the bank does not constitute a formal
discharge except it is expressed on the
APG that it should so be.
How can the bank be satisfied that
the contract it guaranteed has been
performed?
The performance of the guaranteed
contract may be established by
presentation of a letter from the
Employer addressed to the bank
confirming the extent of performance
(in which case, the bank is authorised
to release APG proceed to the extent
of the value of work done); which
letter should be confirmed by an
Internal Control Officer of the bank. A
Certificate of Work done addressed
to the bank and authenticated by an
Internal Control Officer of the bank
may also be relied upon as proof of
performance of the contract and
therefore as a basis for discharge of the
relevant guarantee.
Bonds can be distinguished
from guarantees
Although the terms “bond” and
“guarantee” are often used
interchangeably, they can be
distinguished. Like guarantees, a bond
is an undertaking given by a third
party in support of the obligations of
another party. It is an assurance to the
beneficiary that the contracting party
will perform its obligations and that if
the contracting party fails, the party
giving the bond shall pay.
The key feature of bonds that distinguish
them from guarantees is exemplified in
the specie of bond called on demand
or unconditional bond. An on demand
bond is expressed such that a particular
sum of money will be paid by the
bondsman “on demand”, without
further conditions. Where a bond is
conditional, the beneficiary of the bond
needs to establish that the contractor
has defaulted before any payment can
be made by the bondsman. Bonds are
usually more frequently issued by banks,
insurance companies or some other
companies.
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