Smaller companies use leased BG or SBLC to obtain financing, especially when they likely have exhausted all other financing options.
What is a Leased BG or SBLC?
SBLC stands for a Standby Letter of Credit, while BG refers to a Bank Guarantee. Leased BGs or SBLCs are financial instruments leased to third parties at a set cost. There is no mention of “leasing” or “leased” when receiving the BG or SBLC in this manner. The phrase leased BG or SBLC appears to be inaccurate. The appropriate term is a collateral transfer facility (see below).
The lease of BG or SBLC can be expensive, and the lease costs may be as high as 10 percent of the face value of the instrument per year. In addition, It is always necessary to pay an upfront fee, such as a transmission fee. Many people have been searching for a BG or SBLC provider that can provide a BG or SBLC without requiring them to pay an upfront fee, as they are concerned about falling victim to fraud. It seems unrealistic to demand millions of dollars with empty hands. The best way to protect an upfront fee is to place it in escrow.
Smaller companies, especially those looking to expand or fund a specific project, will only use this method to obtain financing. They have likely exhausted all other financing options.
What is a Collateral Transfer Facility, and How Does it Work?
A collateral transfer facility refers to a process in which a company lends its assets to another company. The process is usually through a BG or SBLC when a BG or SBLC Provider issues a BG or SBLC to a beneficiary in exchange for a fee, also known as the Collateral Transfer Fee.
The parties sign a Collateral Transfer Agreement, which specifies the terms and conditions of the BG or SBLC. The Provider will lease a BG or SBLC instrument and deliver it to the beneficiary receiving bank via the Swift protocol of MT760. The beneficiary can then use the instrument as collateral for borrowing a loan.
Typically, smaller businesses utilize leased BGs or SBLCs as a means of borrowing, especially when they are unable to obtain financing from another source or do not have sufficient assets to qualify for a traditional loan. Therefore, a collateral transfer is a highly effective means of raising capital to finance a company’s growth or a business project.
Providers can lease BGs or SBLCs for a minimum of five million dollars up to ten billion dollars.
Who provides the collateral transfer service?
A Provider could be a financial holding company, a hedge fund, or a private equity firm that can lease BG or SBLC to a recipient as an investment. The Provider will receive a return (the collateral transfer fee) on this investment.
In evaluating whether a beneficiary is eligible for a leased instrument, the Provider will conduct due diligence on its creditworthiness, including an examination of its credit history, its ability to repay the loan, the size of its capital investment, and the amount of the loan.
Understanding BG/SBLC monetization
The main reason for leasing BGs or SBLCs is to monetize them to obtain loans or lines of credit.
The beneficiary agrees to extinguish any encumbrance against the instrument and allow it to lapse (or return it) before expiration and indemnifies the Provider for any loss incurred from a default on a loan secured by the instrument.
Since the beneficiary can use the BG or SBLC instrument as a security for credit lines or loans, the bank is more than willing to approve the loan application.
Recent years have seen an increase in the use of collateral transfer as it allows a beneficiary to access bank credit facilities through the use of leased BG or SBLC as a form of security for the loan. It is a convenient and faster method of obtaining a loan or credit facility for a beneficiary.
If you cannot obtain a loan through the traditional banking system, a leased BG or SBLC may be an option.
Michael Choi is a senior lawyer based in Hong Kong whose background includes international trade and trade financing. Over his career, he has assisted numerous international corporate clients in raising capital and increasing their funding levels. Michael has also provided free legal advice to the public in Hong Kong since 2011 to assist those who cannot afford to pay the legal fee.
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