BDF4
Third Party Support - Guarantees and Comfort Letters
What is a guarantee?
A guarantee is a form of UNDERTAKING by one party to answer for another party’s liabilities, usually on its default.
ª In the context of a loan, the guarantor will frequently be a company in the same group as the borrower.
Þ For example, a bank might make a loan conditional on receiving a guarantee of the borrower’s obligations from its
parent company.
ª Furthermore, the company which has given the guarantee may be required to give security over its own assets to
support its potential liability under the guarantee.
ª As well as providing a second source of repayment, a parent company will also guarantee punctual performance of the
borrower’s obligations under the facility, to encourage supervision of the borrower by the parent.
Guarantee versus indemnity
Difference between guarantee and indemnity
® A GUARANTEE
Promise to be liable for the debt, or failure to perform some other legal obligation, of another party.
Þ Creates a ‘SECONDARY’ obligation which relies on there being a valid primary obligation between two parties
other than the guarantor
§ EXAMPLE: Guarantor (G) undertakes that the B will perform his obligation to the lender (i.e. repaying
the loan and paying interest repayments etc...) – if B fails to do so, G will be liable to the lender for
those obligations.
® An INDEMNITY
Promise to be responsible for another party’s loss
Þ Creates an obligation to indemnify a party for a specified loss which it may incur.
§ Unlike a guarantee, an indemnity creates a ‘stand alone’ (or PRIMARY) obligation which is
independent of the liability or default of another party.
§ In general terms, an indemnity is more ‘robust’ than a guarantee: most loan facilities therefore
contain a guarantee plus an indemnity, in case the guarantee fails
Direct comparisons
GUARANTEE INDEMNITY
Less Robust (+ for guarantor) More Robust (+ for lender)
• Must support a primary liability between two parties other than • Creates a binding obligation to indemnify a party for a
the guarantor. specified loss which it may incur.
Þ I.e. guarantee agreement is a secondary contract, will not Þ I.e. Indemnity creates a ‘stand alone’ (or primary)
create a ‘stand alone’ obligation obligation which is independent of the liability or
• Validity of obligation under guarantee will be dependent on the default of another party
guaranteed obligation. • The obligation survives the invalidity/ discharge of the
• The guarantor has given an undertaking to guarantee the original facility agreement.
performance of the borrower’s obligation. • Indemnifier has given a direct undertaking to perform the
• The guarantor's liability for the non-performance of the principal borrower’s obligation itself.
debtor's obligation is co-extensive with that obligation, i.e. If • An indemnity is more ‘robust’ than a guarantee – most loan
principal debtors obligation turns out NOT to exist, or is void, facilities combine the two.
diminished or discharged, so is the guarantors obligation in respect
of it.
• So, with a guarantee the lender can be prevented from claiming
repayment from the G when it most needs to rely on the
guarantee i.e. when the FA fails because of illegality/ is discharged
etc...
1
Third Party Support - Guarantees and Comfort Letters
What is a guarantee?
A guarantee is a form of UNDERTAKING by one party to answer for another party’s liabilities, usually on its default.
ª In the context of a loan, the guarantor will frequently be a company in the same group as the borrower.
Þ For example, a bank might make a loan conditional on receiving a guarantee of the borrower’s obligations from its
parent company.
ª Furthermore, the company which has given the guarantee may be required to give security over its own assets to
support its potential liability under the guarantee.
ª As well as providing a second source of repayment, a parent company will also guarantee punctual performance of the
borrower’s obligations under the facility, to encourage supervision of the borrower by the parent.
Guarantee versus indemnity
Difference between guarantee and indemnity
® A GUARANTEE
Promise to be liable for the debt, or failure to perform some other legal obligation, of another party.
Þ Creates a ‘SECONDARY’ obligation which relies on there being a valid primary obligation between two parties
other than the guarantor
§ EXAMPLE: Guarantor (G) undertakes that the B will perform his obligation to the lender (i.e. repaying
the loan and paying interest repayments etc...) – if B fails to do so, G will be liable to the lender for
those obligations.
® An INDEMNITY
Promise to be responsible for another party’s loss
Þ Creates an obligation to indemnify a party for a specified loss which it may incur.
§ Unlike a guarantee, an indemnity creates a ‘stand alone’ (or PRIMARY) obligation which is
independent of the liability or default of another party.
§ In general terms, an indemnity is more ‘robust’ than a guarantee: most loan facilities therefore
contain a guarantee plus an indemnity, in case the guarantee fails
Direct comparisons
GUARANTEE INDEMNITY
Less Robust (+ for guarantor) More Robust (+ for lender)
• Must support a primary liability between two parties other than • Creates a binding obligation to indemnify a party for a
the guarantor. specified loss which it may incur.
Þ I.e. guarantee agreement is a secondary contract, will not Þ I.e. Indemnity creates a ‘stand alone’ (or primary)
create a ‘stand alone’ obligation obligation which is independent of the liability or
• Validity of obligation under guarantee will be dependent on the default of another party
guaranteed obligation. • The obligation survives the invalidity/ discharge of the
• The guarantor has given an undertaking to guarantee the original facility agreement.
performance of the borrower’s obligation. • Indemnifier has given a direct undertaking to perform the
• The guarantor's liability for the non-performance of the principal borrower’s obligation itself.
debtor's obligation is co-extensive with that obligation, i.e. If • An indemnity is more ‘robust’ than a guarantee – most loan
principal debtors obligation turns out NOT to exist, or is void, facilities combine the two.
diminished or discharged, so is the guarantors obligation in respect
of it.
• So, with a guarantee the lender can be prevented from claiming
repayment from the G when it most needs to rely on the
guarantee i.e. when the FA fails because of illegality/ is discharged
etc...
1
