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BANK GUARANTEE

Submitted as per the requirement of Law of Contract Act II

Submitted to:
Mr. Zubair Khan
ASSOCIATE PROFESSOR, GGSIPU

Submitted by:
Hemlata, Racheeta Chawla, Shubham Rustagi, Siddhant Indrajit
and Vasu Bhushan
2nd Semester BBA LL.B. (H)
Batch: 2015-2020

GURU GOBIND SINGH INDRAPRASTHA UNIVERSITY, NEW DELHI

ACKNOWLEDGEMENT
This research paper has been made possible through the help and support from
everyone who was a part of the team. Special thanks to bankers, teachers, family,
friends, and in essence, all sentient beings. Especially, please allow us to dedicate
our acknowledgment of gratitude toward the following significant advisors and
contributors:

First and foremost, we would like to thank Mr. Zubair Ahmed Khan, Assistant
Professor, USLLS, GGSIPU for his most support and encouragement. He read
our paper and offered invaluable detailed advices on organization, and the theme of
the paper and the nitty gritties involved.

Second, we would like to thank


MR. RAJAT BUTANI, Branch Manager, Yes Bank, Piragahri Branch
HARSHVARDHAN RAI, HDFC Bank
VINAY MEENA, PUNJAB AND SINDH bank
BHAVI SETH, Barclays
to give their valuable time to us and helped in making this paper, a success.

PREFACE
This is a paper on Bank Guarantee submitted under the guidance of
Mr. Zubair Ahmed Khan, Assistant Professor, USLLS, GGSIPU by the students of
University School of Law and Legal studies, GGS Indraprastha University.

The paper talks about the stand of Bank Guarantee in India in accordance to
section 126 of the Indian Contract Act, 1872.
contract of guarantee, surety, principal-debtor and creditor.A contract of guarantee is a contract to perform the promise, or discharge the
liability of a third person in case of his default. The person who gives the
guarantee is called the surety; the person in respect of whose the default the
guarantee is given is called the principal-debtor, and the person to whom the
guarantee is given is called the creditor. A guarantee may be either oral or
written.

This paper tries to compare the various norms, rules and regulations and situation
of the various kinds of bank operating in Delhi, India.

It tries to give an overview of the prevalent practices of bank guarantee in India by


different kinds of bank i.e. public sector bank, private sector bank and international
bank. It tries to make a comparison of the requirements for getting bank guarantee
in the country!

Also, it tries to problems faced in issuance of bank guarantee, its advantages and
disadvantages among others.

This paper also talks about the commercial relationship entered into by the taking
the Bank Guarantee with some focus on some decided cases of High Court and the
Supreme Court of India on various important matters related this.

This paper also tries to some already done research in this field and also tries to
bring the point of view of media on some of the celebrated cases of the recent
times!

Table of Contents

1. ABSTRACT

2. BANK GUARANTEE AND THE LEGAL SITUATION IN


INDIA

3. FIELD WORK

4. OBSERVATION

5. CONCLUSION

6. APPENDIX

a) RESERVE BANK OF INDIA REPORT ON BANK GUARANTEE

b) NEWSPAPER ARTICLES

7. BIBLIOGRAPHY

ABSTRACT

The old days are gone when banking only meant depositing and lending and saving
money. It has become a totally different field of study with its vertical and horizontal
development over a period of time.

The banking system, which is an integral part of commerce, has evolved from the
simple acceptance of deposits and lending to its highly developed state that it is
today. Bank guarantees as well as individual guarantees are common features of
commercial transactions today in India and International Scenario.

Both individual as well as bank guarantees and the resultant liability of the guarantor
operate from a contract. A contract of guarantee as per the Indian Contract Act may be
defined as a contract to perform the promise, or discharge the liability, of a third
person in case of his default. The need for individual guarantee arises when the
banker finds that the position of the customer indebted to him is weakened due to the
depreciation in the value of the collateral security deposited thus leaving the bankers
advance inadequately secured in the event of default.

A bank guarantee on the other hand is a tripartite agreement between the banker, the
beneficiary and the person or the customer, whereby the bank gives an undertaking to
pay the beneficiary a definite sum of money, or arrange the performance of the
obligations of the client in the possible event of his default. Banks are usually

approached to give such guarantees, as they possess the financial capability to meet
such obligations.
The ingredients of a valid guarantee are
(i) it should be for a specified period or definite period
(ii) for a specified amount
(iii) for a well defined purpose
(iv) a defined period of validity
(v) grace period for enforcing rights
(vi) the events of default under which the guarantee can be enforced.

Nature Of Contract
A bank guarantee contract is distinct and independent from the underlying contract
that subsists between the beneficiary and the creditor. This is extremely important in
determining the liability of the banks in the event of default by the debtor.
There have been many landmark judgements in this.
In the case of Syndicate Bank v. Vijay Kumar the Court was required to enforce the
bank guarantee simpliciter without probing into the nature of the transactions between
the Bank and the customer that led to the furnishing of the bank guarantee. The
Supreme Court has further reiterated in the case of Ansal Engineering projects Ltd v.
Tehri Hydro Development Corporation Ltd that a bank guarantee is an independent
and distinct contract between the Bank and the beneficiary and is not qualified by the
underlying transaction and the validity of the primary contract between the person at
whose instance the bank guarantee is given. As the bank unconditionally and

unequivocally promised to pay, on demand, the Court thus held that the liability of the
bank was absolute and unconditional and could not be circumvented in any manner.

Manner of Invocation.
Invocation of a bank guarantee is dependent upon the terms of the guarantee. In UP
State Sugar Corporation v. Sumac International Ltd it was held as, above, that when
an unconditional bank guarantee is given or accepted, the beneficiary is entitled to
realize such bank guarantee irrespective of pending disputes and that a bank guarantee
constituted a bargain between the two parties, by which the banker creditor was
unconditionally required to pay the amount in question.

If the language of the guarantee entitles the beneficiary to receive payment from the
bank, the dispute between the initiating party and the bank would not be a bar for the
beneficiary to enforce the guarantee.

In the case of Road Machines India (p) Ltd v. Projects & Equipment Corporation
India it was observed that the invocation of a bank guarantee does not necessarily
have to be initiated by setting out the entire case in the form of a plaint with a specific
cause of action, and that it was a commercial document and not a statutory notice or a
pleading. It was further stated that if the bank concerned understood that the
beneficiary in terms of the guarantee was invoking the guarantee, the bank guarantee
may be invoked. It is sufficient if there is substantial compliance in terms of the
guarantee in the notice that may be issued. However, banks may even delay giving a
response to the demand for notice in the hope that the specified claim period expires.

Bank guarantees usually contain clauses to the effect that the guarantees would be
honoured only by an initial written demand without any demur and would also
mention that the principal debtor has committed default in payment of the loaned
amount. The amount demanded must be contemplated within the guarantee contract.

The contracts may also contain clauses that give the beneficiary a unilateral right to
determine the question of default of the debtor. In such cases there is no discretion on
the part of the banks and the bank guarantee essentially becomes absolute in nature.

The beneficiary must intimate the bank or the guarantor that the event for which the
guarantee was issued has happened or did not happen and that, in terms of the
guarantee, it has been invoked demanding payment. The guarantee should be invoked
within the specified period stated within the documents, and not afterwards as the
contract would have come to an end.

This paper has not only focused on the judicial precedents but has also compiled all
the important ideas, thoughts, views and has also tried to find the exact position of the
Bank Guarantee in the country and its scope.

BANK GUARANTEE AND THE LEGAL SITUATION IN INDIA


section 126 of the Indian Contract Act, 1872:
contract of guarantee, surety, principal-debtor and creditor.A contract of guarantee is a contract to perform the promise, or discharge the
liability of a third person in case of his default. The person who gives the guarantee
is called the surety; the person in respect of whose the default the guarantee is
given is called the principal-debtor, and the person to whom the guarantee is given
is called the creditor. A guarantee may be either oral or written.

Bank Guarantee
Performance guarantees given by banks are, in essence, exceptionally stringent
contracts of indemnity. They are contractual undertakings, normally granted by the
banks, to pay, or to repay, a specified sum in the event of any default in
performance by the principal-debtor of some other contract with a third party, the
creditor.1 The term bank-guarantee has been used by Indian courts to describe
such guarantees.
Conditional and unconditional performance guarantees
A conditional performance is one where the surety becomes liable to the party,
claiming under guarantee upon proof to breach terms of the underlying contract, or
on proof of both breach as well as the loss occurring from the breach,
Under an unconditional guarantee, the guarantor becomes liable to pay the
beneficiary the stated amount when the demand is made in a manner provided

th

Chitty on Contracts, 28 edn., Vol. II, at 1303, paras 44-014

for in a guarantee, without the need for that beneficiary to prove any breach or
loss; the guarantor is bound immediately upon the principal failing to perform
his contract without further steps taken by anyone, and without further
conditions to be performed.2
Where the bank unconditionally and irrevocably promises to pay on demand,
amount of liability undertaken in the guarantee without any demur or dispute under
the terms of the guarantee, the liability of the back is absolute and unequivocal.3
There is no distinction between a bank guarantee for due performance of a works
contract, and one given towards security deposit or of any other kind.4
DISTINCTION

BETWEEN

UNCONDITIONAL

GUARANTEE

AND

GUARANTEE DEFINED IN s. 126 of Contract Act


In the Contract act, under a guarantee, the suretys liability is co-extensive with
that of the party for whose performance the guarantee is given, and the surety is
liable only when the principal-debtor is liable, and to the same extent. On the other
hand, under the unconditional bank guarantee, the bank is liable when the
conditions in the guarantee has been given; and liability may arise even when such
later person has not been in default, his actual liability under that transaction would
be much less than the amount paid under the unconditional guarantee.
Bank guarantee given to courts
A guarantee given to the court for the fulfilment of a decree by a judgement-debtor
may provide for period covered by the suit itself or there may be a guarantee which
2

P. Ramanatah Aiyar, The Law Lexicon, 1997 edn., at 806

Ansal Engg. Project Ltd. v. Tehri Hydro Development Corpn. Ltd., (1996) 5 SCC 450

Oil and Natural Gas Corpn. Ltd. v. State Bank of India, AIR 2000 SC 2548

may make provision for the course of litigation, even in the appellate court; or it
may be given covering the entire period of litigation between the commencement
of suit and final conclusion of litigation in the highest Court. Where a suit is
dismissed in the trial Court but decreed in appeal, the question whether the bank
guarantee given during pendency of the suit endures to the benefit of the plaintiff
in such cases, will depend on the manner in which the bank guarantee is worded.
However, a bank guarantee given as a condition for granting leave to defend a
summary suit cannot be treated as lapsed the moment the suit is decreed, else the
exercise of granting conditional leave become futile.5

Independent and autonomous nature


In RD Harbottle (Merchantile) Ltd. v. National Westminster Bank Ltd.6, the
position of a bank assuming irrevocable obligations was considered:
It is only in exceptional cases that the courts will interfere with the machinery
of irrevocable obligations assumed by the banks. They are the life-blood of
international commerce. Such obligations are regarded as collateral to the
underlying rights and obligations between the merchants at either end of the
banking chain. Except possibly in clear cases of fraud of which the banks have
notice, the courts will leave the merchants to settle their disputes under the
contracts by litigation or arbitraton as available to them or stipulated in the
contracts. The courts are not concerned with their difficulties to enforce the
5

Kishan Gopal Jhaver v. Ramnarayan Bhattad, AIR 1986 Mad 26.

(1977) 2 All ER 862, at 870 per Kerr J, (1977) 3 WLR 752, at 761; approved in Edward Owen Engg. Ltd. v. Barclays Bank
Intl. Ltd., (1978) 1 All ER 976, at 983, (1977)(1977) 2 All ER 862, at 870 per Kerr J, (1977) 3 WLR 752, at 761; approved in
Edward Owen Engg. Ltd. v. Barclays Bank Intl. Ltd., (1978) 1 All ER 976, at 983, (1977) WLR 764.

claims; these are risks which the merchants take. In this case the plaintiffs took
the risk of the unconditional wording of the guarantees. The machinery and
commitments of banks are on a different level. They must be allowed to be
honoured, free from interference by the courts. Otherwise, trust in international
commerce could be irreparably damaged.
A bank guarantee is an independent and distinct contract between the bank and the
beneficiary, and is not qualified by the underlying transaction and the primary
contract between the person at whose instance the bank guarantee is given. In case
of an unconditional bank guarantee, the nature of obligation of the bank is absolute,
and not dependent upon any dispute or proceeding between the party at whose
instance the bank guarantee is given and beneficiary.7 Such a guarantee is
independent of the underlying contract, and is autonomous.
Although bank guarantee is an independent obligation, an interim injuction
restraining payment under the guarantee can be considered in a proceeding under s.
20 of the Arbitration Act, 1940, between the parties to the main contract, even
though the bank as is not a party in that proceeding.
Payment under a bank guarantee may be refused or restrained:
i.

Where the bank knows that the documents presented are by the beneficiary
for seeking enforcement are forged or fraudulent;8

ii.

Where a fraud by one of the parties to the underlying contract has been
established, and the bank has notice of the fraud;9

Hindustan Steel Works Constn. Ltd. v. Tarapore & Co., AIR 1966 SC 2268, (1996) 5 SCC 34; Ansal Engg. Projects Ltd. v.
Tehri Hydro Development Corpn. Ltd., (1996) 5 SCC 450
8

Bolivinter Oil SA v. Chase Manhattan Bank, (1984) 1 All ER 351; United City Merchants (Investments) Ltd. v. Royal Bank
of Canada, (1982) 2 All ER 720; Adani Exports Limited v. Marketing Service Incorporated, AIR 2005 Guj 257

iii.

Where a case of apprehension of irretrievable injustice is made out;

iv.

Where the guarantee is conditional, and the condition has not been compiled
with;10

v.

Where the conditions necessary for invoking a conditional bank guarantee


have not arisen;11

vi.

Where the purpose for which a conditional guarantee was given has been
accomplished;12

vii.

Where the period stipulated for invocation of the guarantee has been
expired.13

Fraud- the nature of the fraud that the courts talk about is fraud of an egregious
nature as to vitiate the underlying transaction. It is the fraud of the beneficiary and
not the fraud of somebody else; a fraud is that in which the beneficiary would be
claiming payment to which the beneficiary would be claiming payment to which he
knew he had no entitlement. Mere suspicion or possibility of sharp practice is not
enough. A very strong prima facie case, in support of the contention that there is
fraud or special enquiry must be made out, and the courts will not interfere with the
enforcement of the bank guarantees or letters of credit on mere allegation of fraud

Bolivinter Oil SA v. Chase Manhattan Bank, (1984) 1 All ER 351; Adani Exports Limited v. Marketing Service
Incorporated, AIR 2005 Guj 257
10

Banwari Lal RadheMohan v. Punjab State Co-op. Supply and Marketing Federation Ltd., AIR 1982 Del 357; Banerjee
and Banerjee v. Hindustan Steel Works Consm Ltd.,AIR 1986 Cal 374
11

Basic Tele Services Ltd. v. Union of India, AIR 2000 Del 1 ( bank guarantee given to cover withdrawl of bid by a bidder
during period of validity of bid could not be invoked where bidder never withdrew the bid)
12

Larson and Turbo ltd. v. Maharashtra State Electricity Board, AIR 1996 SC 334

13

Makharia Bros. v. State of Nagaland, AIR 1999 SC 3466 all

or special equity. It would certainly not be sufficient that it rests on the


uncorroborated statement of the customer-beneficiary.
The evidence of fraud must be clear, both as to fact of fraud and as to the banks
knowledge that the demand for payment is, or will be fraudulent; though it also
appears that fraud would attract an injunction only if occurred in:
i.

Entering into the underlying contract with reference to the bank guarantee;
or

ii.

In the formation or execution of the bank guarantee.

JUDICIAL INTERFERENCE.

The Supreme Court has made it clear that the liability of the bank remains intact and
does not cease with any pending disputes with respect to the primary underlying
transaction between the beneficiary and the creditor. However, this has always been
subject to a single condition in that the bank guarantee must be unconditional or
absolute in nature. The terms of the bank guarantee are crucial in determining the
nature of the bank guarantee, and whether or not it is an absolute guarantee or a
conditional one.

An irrevocable commitment either in the form of confirmed bank guarantee or


irrevocable letter of credit cannot be interfered with since frequent court intervention
would not be in keeping with the very purpose and object of bank guarantees for fear
of jeopardizing that which forms the very basis of commercial transactions. As a
general rule especially in the case of unconditional or absolute bank guarantees, the
banks must honour their commitments as per the terms of the contract, irrespective of
any dispute between the customer and the bank with respect to the primary
contract. The Courts are therefore reluctant to grant an injunction preventing
payment or interfering with the liability of the bank to pay the amount due on the
guarantee.

The Courts have culled out two exceptions to the general rule of non-interference by
the Courts, namely (i) fraud and (ii) the resulting of irretrievable injustice or harm.

The following cases further illustrate this point in detail: In the case of Bolvinter Oil
SA v. Chase Metropolitan it was stated that an injunction may be granted where it is
proved that the bank knows that any demand for payment already made or which may
thereafter be made will clearly fraudulent; though the evidence must be clear as to the
fact of fraud and as to the banks knowledge, and it cannot rest on the uncorroborated
statement of the customer or else irreparable damage can be done to a banks credit.

The Supreme Court affirming long standing jurisprudence on the subject in the
aforementioned case of UP State Sugar Corporation v. Sumac International
Ltd stated that whenever a bank guarantee is sought to be encashed by the
beneficiary,the bank is bound to honour the guarantee irrespective of any dispute
raised by the customer against the beneficiary. This is however subject to two
exceptions that is, a fraud committed in the notice of the bank which would vitiate the
very foundation of the guarantee or encashment of the bank guarantee would result in
irretrievable harm or injustice of the kind which would make it impossible for the
guarantor to reimburse himself.

FIELD WORK
Three members of our group went to different types of banks viz. Public, private and
foreign banks to get the answer to the following questions:
1. What is bank guarantee?
2. What are the advantages and disadvantages of bank guarantee?
3. What are the problems faced while giving bank guarantee to the customer?
4. Does bank guarantee ensure a better efficiency of trade in the market?
5. How much is bank guarantee different from normal guarantee?
6. Can a customer (without having a bank account) avail the facility of bank
guarantee? If yes, what is the procedure for it?
7. What are the various essential documents to be submitted to the bank for the
purpose of bank guarantee?
8. What are the various criteria where bank can act as a guarantee?
9. What is the minimum and maximum time period for a bank guarantee?
10.How is the bank guarantee provided by your bank different from the one given
by other banks?
11.What are the charges to be applied as interest rates?
12.What is the legal action taken in case of fraud and what are the mitigating
factors?
13.Who do you report to in cases of fraud?
14.What is the customers response to bank guarantee?

PRIVATE BANK
HDFC Bank
HDFC Bank Limited is an Indian banking and financial services company
headquartered in Mumbai, Maharashtra. Incorporated in 1994, it is the second
largest private bank in India as measured by assets. It is the largest bank in India
by market capitalization as of February 2016, at approximately Rs.2,56,107.95
crores. According to the Brand Trust Report 2015, HDFC was ranked 58th
among India's most trusted brands.
Total balance sheet size as of December 31, 2015 was Rs. 687,892 crores as
against Rs. 534,855 crores as of December 31, 2014.
The Banks total income for the quarter ended December 31, 2015 was
Rs.18,283.3 crores, up from Rs.14,930.7 crores for the quarter ended December
31, 2014. Net revenues (net interest income plus other income) increased by
20.7% to Rs. 9,940.7 crores for the quarter ended December 31, 2015 as against
Rs. 8,234.8 crores for the corresponding quarter of the previous year.
HDFC Bank is among the top 50 most valued global bank in terms of market
capitalization. It is Indias second-largest private lender in terms of asset size,
ranks 45th, with a market capitalization of $39 billion, Bloomberg data show.
Mr. Aditya Puri is the Managing Director HDFC Bank, and has held this
position since 1994. He was recently named in the Barrons list of Best 30
CEOs and business leader of the year by AIMA.

INTERVIEW
Interviewer: Vasu Bhushan
Interviewee : Harshvardhan Rai
1. WHAT IS A BANK GUARANTEE?
A bank guarantee is a promise from a bank or some other lending institution
that if a particular borrower defaults on a loan or some other aspect such as
performance of a contract, the bank will cover the loss. However it has to be
noted that a bank guarantee is different from a letter of credit.
For example, if the government pays Rs 120000 to a contractor to carry out
some construction work in order to safeguard itself from any default by the
contractor , the government will ask the contractor to provide them with a bank
guarantee of like amount. The contractor will get a bank guarantee issued from
his bank, with the government as the beneficiary. Now, in case of any default by
the contractor, the government may revoke the bank guarantee to recover its
losses.

2. WHAT ARE THE ADVANTAGES AND DISADVANTAGES OF A BANK


GUARANTEE?
ADVANTAGES
ECONOMICAL: Bank guarantees are cost effective as against banking loans.
Incas of loans, large sums are paid as interest, while in bank guarantees, the
bank charges a meagre amount which is as little as 0.05% of the total value of
the bank guarantee.

SAFE: Reduction of risks inherent in a transaction are reduced .


EASE: Ease of carrying out transactions between players that do not know each
other well.
Bank guarantee establishes favourable commercial conditions while avoiding
drawing too much on cash.
DISADVANTAGES.
Possible blocking of funds as a counter guarantee of the bank guarantee.
However, the customer still earns interest on this blocked counter guarantee
amount.
Often subject to fees even if not used or revoked.

3. HOW DOES A BANK GUARANTEE ENSURE BETTER EFFICIENCY IN


MARKET?
It would be hard to imagine a successful economy today, without any existence
of bank guarantee.
Had there been no concept of bank guarantee, it would have been very easy to
play frauds and run away without performing obligations. In business world,
parties not known to each other come together to create contracts.
In absence of any trust due to not knowing each other, bank guarantees role
comes into play.
Also, bank guarantee is all electronic money based. As a result, the cash of
parties is not blocked and ensures smooth cash flow for the parties involved.

4. CAN A CUSTOMER WITHOUT HAVING AN ACCOUNT IN THE SAME


BANK AVAIL A BANK GUARANTEE?
NO, you need to have an existing account in our bank. The amount for which
you require the bank guarantee is transferred from the customers current
account to a fixed deposit. .It is a lien marked by the bank. However, the
customer still earns an interest on the lien marked by the bank.

5. WHAT ARE THE DIFFERENT AREAS WHERE THE BANK CAN ACT AS
A GUARANTOR?
HDFC bank issues bank guarantee for a number of purposes .To name same,
1. Performance guarantee
2. Financial guarantee
3. Bid bond guarantee
4. Customs bank guarantee
5. Excise

We mainly deal in performance and bid bond guarantees.

6. WHAT ARE THE DIFFERENT REMEDIAL MEAURES TAKEN BY


YOU IN CASE OF ANY DEFAULT?
Not in case of default, but yes, we do take some remedial measures in order to
prevent any fraud against us. For example, we intimate the beneficiary of the

bank guarantee 3 times within a span of 10 days whenever we get a request as


to cancel the bank guarantee by the holder.

Also before providing any bank guarantee, we get the proposal between the
parties assessed by our legal cell. If we find any point that might put us at any
risk, we suggest changes. If the parties agree to incorporate these changes, then
we preo9ceed to issue the guarantee.
We request a no objection certificate from the beneficiary whenever we get a
request to cancel the bank guarantee.
In addition, while cancellation, we also require a request letter, discharge letter
and the original bank guarantee document.

7. WHAT CHARGES ARE APPLIED AS INTEREST ON BANK


GUARANTEES?
The charges vary with the type of guarantee. However on an average, we charge
around 0.05% to 0.09% of the total amount of bank guarantee as interest
charges. Hence it is a cheap way as compared to bank loans, etc.

8. WHERE DO U REPORT INCASE OF FRAUD?


At initial level, we send legal notices to the default through our legal cell if the
matter is still not resolved, then we approach the court of law.

YES BANK
Yes Bank, is India's fifth largest private sector Bank, co-founded by Rana
Kapoor in 2004 Yes Bank is the only Greenfield Bank licence awarded by the
RBI in the last two decades. Yes Bank is a Full Service Commercial Bank,
has steadily built a Corporate, Retail & SME Banking franchise, Financial
Markets, Investment Banking, Corporate Finance, Branch Banking, Business
and Transaction Banking, and Wealth Management business lines across the
country.

Yes bank performance in the Q3FY15 Financial Results. Net Profit grew by
30.0% y-o-y to 540.3 Cr in Q3FY15, Net Interest Income up 36.6% to 909.0
Cr, Non Interest Income of 536.8 Cr, Net Interest Margin expanded to 3.2%,
Advances up 32.4% to 66,606.9 Cr and Deposits up 21.0% to 82,370.0 Cr as
of 31 Dec 2014. In FY2015, the Bank has so far raised US$500 Mn Equity
through QIP and Long term Funding of US$422 Mn through Dual Currency
Syndicated Facility and US$200 Mn from Asian Development Bank
aggregating to approximately US$1.2 Bn. CASA Ratio improves steadily to
22.6% from 20.9% a year ago. SA deposits grew by 42.8% y-o-y.

Products and services

Corporate and Institutional Banking-The Corporate & Institutional Banking


(C&IB) division at Yes Bank contribute a major part of the bank with a
turnover of over 1,000 crores.

Commercial Banking

Investment Banking-Yes Bank's is a major player in Investment Banking in


India and is involved in the identification, structuring and execution of
transactions for its clients in diverse industries and geographies. Some of the
typical transactions include mergers & acquisitions, divestitures, private equity
syndication and IPO advisory.

Corporate Finance-YES BANK's Corporate Finance practice offers a


combination of advisory services and customised products to optimise risk
based on "Knowledge Arbitrage"

Financial Marketing-The Financial Markets (FM) business model provides Risk


Management solutions related to foreign currency and interest rate exposures of
clients.

Retail Banking-YES BANK has banking network of over 600 branches and
2,000 ATMs giving it a major presence in urban India. Yes bank is one of the
fastest growing private banks in India.

INTERVIEW
Interviewer: Racheeta Chawla
Interviewee: Rajat Butani, Branch Manager

1. WHAT IS BANK GUARANTEE?


A bank guarantee is a promise from bank, or other lending institution that if a
particular borrower defaults on a loan, the bank will cover the loans.

2. WHAT ARE THE ADVANTAGES AND DISADVANTAGES OF BANK


GUARANTEE?
Advantages
a) Customer (buyer) is not required to make the advance payment in cash, (in case
of bank guarantee), thus the funds are used more efficiently
b) Buyer gains reliable partner status at local and international markets, benefits
from various partnership opportunities and is able to demand more relevant
conditions from partners.
c) Seller is protected from default of buyer on payment and is able to perform
prompt sales without asking for advance payment.
d) Bank guarantee requires less number of documents, no necessity for collateral
and, as a result, the customer receives the letter of guarantee within shorter
period of time and commission fee for services is also very low.

3. WHAT ARE THE PROBLEMS FACED WHILE GIVING BANK


GUARANTEE TO THE CUSTOMER?
We at Yes Bank make every possible thing to make the transaction easier for the
customers. Customers are the king for us and we believe that they should not face
any difficulty at least in our bank.

4. HOW MUCH IS BANK GUARANTEE DIFFERENT FROM NORMAL


GUARANTEE?
This is something which I cannot answer as this is not something which I specialise
in!

5. CAN A CUSTOMER (WITHOUT HAVING A BANK ACCOUNT)


AVAIL THE FACILITY OF BANK GUARANTEE? IF YES, WHAT IS
THE PROCEDURE FOR IT?
No. The person taking a bank guarantee must have a current account in the bank
and must fulfil all the requisites like depository etc. Before getting qualified to get
a bank guarantee.

6. WHAT ARE THE VARIOUS ESSENTIAL DOCUMENTS TO BE


SUBMITTED TO THE BANK FOR THE PURPOSE OF BANK
GUARANTEE?
The following documents are required to get a Bank Guarantee:
Application form: all files should be duly filled in and acknowledged.

Self-attested copy of KYC documents: entity proof-partnership deed/ certificate


of incorporation/ establishment certificate
Copy of PAN Card of Entity, Proprietors/ partners/ Directors
Address Proof of Entity
Financials: last 3 yesr audited/ provisional financials. In case of provisional
financials, VAT returns are also required.
Current year performance and projected turnover on letterhead of the end. Last
1 year Income Tax returns of the borrowing entity.
Bank Statements (not more thn 45 days old): latest bank statements for last 6
months ( in case of First Time borrow and 12 months ( in case of Takeover
Proposals). In case of multiple bank statements covering minimum 75% of
banking turnover is to be provided.
Orders in hand and status along with order copies/ letters of intent/ contract
agreements.

7. WHAT IS THE MINIMUM AND MAXIMUM TIME PERIOD FOR A


BANK GUARANTEE?
The maximum and minimum limit for bank guarantee is fixed by the Reserve Bank
of India and we follow it strictly in our bank.
Presently, minimum tenure is 12 months and maximum tenure is 10 years.

8. HOW IS THE BANK GUARANTEE PROVIDED BY YOUR BANK


DIFFERENT FROM THE ONE GIVEN BY OTHER BANKS?
We give the best service to our customers. We have moved from old book
techniques to a tech-savvy method which has saved on the paper work required and
made this efficient hence has considerably reduced the cost associated with the
Bank Guarantee.

9. WHAT ARE THE REMEDIAL MEASURES TAKEN BY YOUR BANK


IN CASE OF DEFAULT?
First, we send reminders to the defaulter. And when the defaulter doesnt react,
then the matter is transferred to the legal cell of the bank from where a notice is
sent to the defaulter to make a payment.

10.WHO DO YOU REPORT TO IN CASES OF FRAUD?


In case of fraud, the whole case goes to the legal cell of the bank. And I dont want
to give wrong idea about it, because I dont know how they tackle such situations.

11.WHAT IS THE CUSTOMERS RESPONSE TO BANK GUARANTEE?


Customers response to our bank has been really good and positive which is why
we are not amongst the best banks in the country!

PUBLIC SECTOR BANKS


Punjab & Sind Bank
Punjab & Sind Bank is a government-owned bank (79.62%), with headquarters
in New Delhi. Of its 1466 branches spread throughout India, 623 branches are
in Punjab state. Its net profit is Rs. 121.35 crores and net NPA is 3.55% for the
year ending 2014-15. The bank's operating profit for the year ending 2014-15 is
Rs. 775.45 crores. Total business of the bank was Rs. 1,51,511 crores for the
year ending 2014-15 and Business per employee is Rs. 15.95 crore. The net
worth of the bank as on 31.03.15 is Rs. 4812 crore.

Type

Public

Industry

Banking
Financial services

Founded

24 June 1908

Headquarters

Rajendra Place New Delhi,India

Key people

S.Jatinder

Bir

Singh,

I.A.S

(C.M.D.), M.K.Jain (E.D.)


Finance, FOREX, Retail Banking

Products
Total assets

Owner

Rs. 97,753.40 crore (31.03.2015)

Rs. 94,509.15 crore (31.03.2014)


Government of India

INTERVIEW
Interviewer: Hemlata Meena
Interviewee: Vinay Meena
1. What is bank guarantee?
Bank guarantee is a type of guarantee which is given by the bank to any customer
stating that if he is not able to complete the task given or the contract bank will pay on
his part.

2. What are the advantages and disadvantages of bank guarantee?


Advantage of bank guarantee
a) 100% margin for guarantee so that bank will not suffer losses.
b) Buyer earns good image and scope for good opportunities increases.
c) Bank is safe from any default on the part of borrower.
d) Easily available of for customers.

3. What are the problems face while giving bank guarantee to the customers?
There are not many issues related to bank guarantee as bank guarantee are mostly
taken for huge amount and usually by big firms with good capital and also as there is
100% margin so there is no scope of any loss to the bank .but problems may arise if

the any old or existing customer tries to bargain then complications can arise as the
managers also need to make good customer relations

4. Does bank guarantee ensures better efficiency of trade in the market?


Yes, it does ensure better efficiency of trade in the market as
a) There is no need to make advanced payments.
b) No issues relating to handling of cash.
c) Assurance of getting the payment on time.

5. How much is bank guarantee is different from normal guarantee?


In bank guarantee, less documentation is required but in normal guarantee lots
of documentation is required.
Usually bank guarantees are taken by large governmental organizations but
normal guarantees can be taken by any individual fulfilling their terms and
conditions.

6. Can a customer without having a bank account avail the facility of bank
guarantee?
Yes, any customer can avail this facility of bank guarantee.

7. What are the various essential documents to be submitted the bank for the
purpose of bank guarantee?
At first to take the bank guarantee the customer need to complete all the know your
customer (KYC) norms. The customer needs to give his/her personal details. The
customer needs to tell the purpose for which they want bank guarantee and also they
need to shoe the offer letter to the bank sowing the purpose of contract, no of parties
involved and details of the parties.

8. What are the remedial measures taken by your bank in case of any default ?
There is no such issues related to default as bank guarantee is only given to the person
if bank is fully satisfied with the persons details and his/her reputation

9. What is the customers response to bank guarantee?


In recent times the number of people taking bank guarantees is increasing as it is a
way to assess the capacity and capabilities of the individual that is he able to do his
job efficiently and effectively.

Summary of the interview


Bank guarantee is a promise from a bank or other lending intuitions that if a particular
borrower defaults on a loan the bank will cover the loss. A bank guarantee enables
companies to make purchases that they would otherwise not be able to make.
Usually bank guarantee is for the specified amount which is a percentage of the total
money required for the contract. Example: - company xyz bag a project from say
government of Australia to build 200 power transmissions towers. in this particular
example companies all over world have applied. The selection would be made on the
bases of lowest cost and track record as submitted in the proposal form. However, the
government has limited ability to assess all companies for financial stability or credit
worthiness.
To ensure project is done satisfactorily and on time, the government puts a condition
that company xyz will have to furnish a bank guarantee given by one or more banks
.company xyz is an applicant, its bank is the issuing bank and the government of
Australia is the beneficiary. In this case, the bank will not just issue such guarantee
with its own due diligence. The bank does it own through analysis of the financial
well-being of company xyz to assess the amount of guarantee it can issue. After all,
the bank is at its own risk too,in case the client defaults, this amount is called a limit.
Also, one of the important point to remember is that the bank will issue guarantee
provided the company has not exceeded its overall limit for bank guarantees and if the
government of Australia is not satisfied with performance of contract at a later date , it

can invoke the bank guarantee. In this case the bank will have to immediately release
the amount of bank guarantee to the government of Australia.

FOREIGN SECTOR BANKS


Barclays bank
Barclays

is

British multinational banking

and financial

services company

headquartered in London. It is a universal bank with operations in retail, wholesale


and investment banking, as well as wealth management, mortgage lending and credit
cards. It has operations in over 50 countries and territories and has around 48 million
customers. As of 31 December 2011 Barclays had total assets of US$2.42 trillion, the
seventh-largest of any bank worldwide.
Barclays is organised into four core business: Personal & Corporate (Personal
Banking, Corporate Banking, and Wealth & Investment Management), Barclaycard,
Investment Banking and Africa.
Barclays traces its origins to a goldsmith banking business established in the City of
London in 1690. James Barclay became a partner in the business in 1736. In 1896
several banks in London and the English provinces, including Backhouse's
Bank and Gurney's Bank, united as a joint-stock bank under the name Barclays and
Co. Over the following decades Barclays expanded to become a nationwide bank. In
1967, Barclays deployed the world's first cash dispenser. Barclays has made numerous
corporate acquisitions, including of London, Provincial and South Western Bank in
1918, British Linen Bank in 1919, Mercantile Credit in 1975, the Woolwich in 2000
and the North American operations of Lehman Brothers in 2008.

Barclays has a primary listing on the London Stock Exchange and is a constituent of
the FTSE 100 Index. It had a market capitalisation of approximately 22 billion as of
23 December 2011, the 22nd-largest company of any company with a primary listing
on the London Stock Exchange. It has a secondary listing on the New York Stock
Exchange.

INTERVIEW
Interviewer: Racheeta Chawla
Interviewee: Bhavi Seth

Barclays Bank does not have Bank Guarantee function available for its customer in
India. It is largely into the main banking functions.
But on a closer inspection on their Barclays Bank International website
(http://www.barclays.co.uk/InternationalBanking/Guaranteesandbonds/P12426810740
55)
we found out that:
When issuing a guarantee the Bank undertakes to pay the buyer (beneficiary) a
specific sum of money, usually against presentation by the beneficiary of a
written demand. The wording of such demand is specified in the guarantee. The
Bank therefore acts as guarantor on behalf of the seller, and will be required to
pay on demand under the terms of the guarantee. In turn, the Bank will require a
counter indemnity from the seller as recourse for the full amount of the
guarantee plus all costs. Facilities for the issuance of a guarantee may be part of
the general banking facilities you may have with Barclays. Alternatively,
(additional) security may be required to support the sellers counter-indemnity
to the Bank.

Claims and Demands: In most circumstances, the demand under a guarantee


requires confirmation from the beneficiary (authenticated by their bankers) that
the seller has not complied with the underlying contract and the sum of money,

now claimed, is due to the beneficiary. Some guarantees may also call for
independently produced documents to be presented with the demand for
payment. It is important to note that if a claim is submitted under a guarantee,
the Bank will not become involved in any contractual disputes between the
seller and the buyer.

Swedbank
Swedbank is a Nordic-Baltic banking group offering retail banking, asset
management, financial, and other services.
Swedbank has 9.5 million retail customers and 622,000 corporate customers
in Sweden, Estonia, Latvia, and Lithuania. The group has 317 branches in Sweden
and more than 200 in the Baltic countries. It also maintains a presence
in Copenhagen, Helsinki, Luxembourg, Marbella, New York, Oslo, Shanghai.
Swedbank has a close cooperation with about 60 local, but still independent, saving
banks who chose not to join during the 1992-merger. These banks use FSB logos
and customers have the same access to independent banks and branches belonging
to FSB. Two relatively large independent savings banks, including the one
in Skne, have chosen not to cooperate with Swedbank and continue to use the
logo used by Sparbanken before the merger with Freningsbanken.
Together with the independent savings banks, Swedbank has branches all over
Sweden. The bank has more than 16,000 employees across its operations in
Sweden and abroad. Michael Wolf is the Chief Executive Officer and Lars
Idermark is Chairman.

ONLINE CHAT INTERVIEW


Interviewer: Siddhant Indrajit
Interviewee: Customer Care
1. WHAT IS BANK GUARANTEE?
The Bank Guarantee is an irrevocable undertaking of a bank to pay a certain
amount to the beneficiary of the guarantee within the specified limits of the
guarantee if the bank's customer who has requested the bank to issue such
guarantee - the principal - has failed to fulfil his obligations towards the
beneficiary.
Bank guarantees may be used for securing performance of obligations under
contracts announced by the state, municipal and other institutions (bid (tender)
guarantee (bond), performance guarantee, advance payment guarantee,
maintenance (warranty) guarantee, etc.), under import/export operations (payment
guarantee, performance guarantee, advance payment guarantee, customs guarantee,
etc.) as well as for any other obligations acceptable to the Bank.
For the bank to issue a guarantee upon the customers request, the customer is to
offer to the bank collateral to secure such a guarantee. Guarantees can be issued
with a validity period up to 60 months.

2. WHAT ARE POSSIBILITIES AND ADVANTAGES OF TAKING A


BANK GUARANTEE FROM YOUR BANK?
Possibilities and advantages:

Expand the customers' field of commercial activities: to participate in public


tenders, to receive orders for delivery of goods or services, to obtain services
provided by business partners, to handle customs clearance procedures, etc.

Mitigate risks in international operations.

Replace an advance payment by a payment undertaking, especially for goods to


be delivered in a longer period of time (by effecting an advance payment, the
buyer is, in fact, providing an interest-free loan from its own resources to the
seller). The buyer undertakes to effect payment by a specified date (payment
guarantee). If the buyer defaults on his payment obligations, the bank that has
issued the guarantee makes the payment upon the seller's request for payment.

Secure the beneficiary's right to the refund of the advance payment, even if his
partner fails to perform his obligations to deliver goods under an agreement,
makes only partial delivery, or fails to perform works under a contract (advance
payment guarantee).

Receive an advance payment for launching major projects or starting production


(advance payment guarantee).

Participate in tenders - the bank guarantees that its customer will not withdraw
or modify his tender and, if awarded the tender, will sign the contract. In the
event of breach of these undertakings the bank will effect payment of the sum
specified in the guarantee to the party inviting the tender (the beneficiary) (bid
bond; tender guarantee).

Support contractual performance by guaranteeing to honour the claims of the


buyer/employer if the principal - the seller/contractor - fails to comply with

terms and conditions of the contract (performance guarantee; performance


bond);

Guarantee repayment of a loan (loan/credit line guarantee).

Guarantee payment of customs duties, excise tax and/or penalties (customs


guarantee).

Depending on the customer's needs and terms and conditions of the contract, the
bank can issue also other types of guarantees. For instance, for the customers
using this product on a regular basis, it is possible to create a guarantee limit
agreement for use with Swedbank, thus simplifying further issuing of bank
guarantees.

3. What are the conditions based on which the bank gives a bank guarantee
in your bank?
The following are some of the conditions based on which our bank gives a bank
guarantee:

The customer is liable for the performance of the contractual obligations


underlying the bank guarantee. The beneficiary will claim the payment under
the guarantee only if the principal has failed to perform his obligations.

A bank guarantee can only be cancelled prior to its expiration date if the
original of the letter of guarantee has been returned to the bank or if the bank
has received a written release from its guarantee obligations.

Although its issue results from the underlying contract between the bank's
principal and the beneficiary, a bank guarantee is independent of such contract.
Therefore, upon receipt of a demand to pay, made in accordance with the terms

and conditions of the guarantee the bank will effect payment, even if the
principal claims that the beneficiary is in breach of any of his contractual
obligations.

4. To obtain a bank guarantee, you have to?

Hold a Current Account with Swedbank,

Fill in the Application form (is also available in the Internet banking service for
business clients),
o

Guarantee Application

Guarantee Application, if the guarantee is issued in favour of the State


Revenue Service

Agree with the Bank on the guarantee collateral,

The company's financial documents.


Collateral:

Cash collateral - funds in the amount of the guarantee that are transferred to a
special guarantee cover account (such funds may not be used to payment for the
goods under the contract covered by the Bank Guarantee).

A Term Deposit with Swedbank; a guarantee agreement with the Bank is signed
and the deposit is pledged in favour of the Bank. In addition you have to fill
in the Annex to this Guarantee Issuance Application.

Commercial pledge on the company's assets, mortgage and pledge on the


companys real estate registered with the State Land Service.

Account turnover (financial pledge). In addition you have to fill in the Annex to
this Guarantee Issuance Application.

Any other type of collateral acceptable to the Bank. The bank may request the
customer to submit additional documents in order to be able to take a decision
(balance sheet, statement of income, statement of cash flow etc.).

NOTE: this bank doesnt operate in India.

OBSERVATION
While making the project we got to know

What is bank guarantee?

Situation in India as per the Indian Contract Act

Difference between bank guarantee and normal guarantee

Important Precedents on Bank Guarantee

Types of bank

Policies of different banks on the Bank Guarantee

Committees and commissions and report of Reserve Bank of India

Bank guarantee Bank Guarantee is an instrument issued by the Bank in which the
Bank agrees to stand guarantee against the non-performance of some
action/performance of a party. The quantum of guarantee is called the 'guarantee
amount'. The guarantee is issued upon receipt of a request from 'applicant' for some
purpose/transaction in favour of a 'Beneficiary'. The 'issuing bank' will pay the
guarantee amount to the 'beneficiary' of the guarantee upon receipt of the 'claim' from
the beneficiary. This results in 'invocation' of the Guarantee.
Bank Guarantee is governed under section 126 of the Indian Contract Act, 1872. This
section talks of contract of guarantee, surety, principal-debtor and creditor.
Banks are of different kinds public, private, corporate and foreign banks. And each of
these kind has a role to fulfil. The main focus of public bank is to provide service at
affordable prices, whereas, the main focus of private banks is to provide the best
customer service and maximise their profits. The role of corporation bank is to benefit
the members so that they dont face any difficulties.

When talking about providing information, the public sector banks were a bit reluctant
and not willing to provide the information and in many circumstances they could not
even answer the questions and kept us waiting for long.
On the other hand, the private banks had a welcoming attitude and answered most of
our questions easily.
When talking about the foreign banks, they dont provide bank guarantee service in
the country but were really helpful when contacted through customer care services.
Reserve bank of India from time to time has been making sure that the interest of both
the bankers and customers are taken care of, by giving guidelines to the banks to work
in a particular manner.

CONCLUSION
Bank guarantees are of significance in the banking sector and are simple, flexible and
effective and play a major role in the promotion of national and international trade.

A bank guarantee operates by way of a contract or agreement, which is governed


under many Statutes, in which the bank itself stands as guarantor to a particular
advance made by a creditor to a debtor, independent of the underlying contract and the
primary contract of the person at whose instance the bank guarantee is given. It is
extremely important to note that the enforcement of the guarantee is actually
dependent on the terms of the contract subsisting between the bank and the beneficiary
and is generally not interfered in by the Courts.
Beneficiaries or the creditors may charge a rate of penal interest in the event of
delayed payment of the due amount. Hence, it is imperative that banks remain
cautious, when signing a contract of guarantee with the beneficiary, which may
contain provisions pertaining to the payment of penal interest in the event of delay in
payment on default of the principal debtor.

The paper has tried to concentrate on the actual scene of getting the bank guarantee
from different kinds of banks and has also tried to bring together the various facets
related to it in one paper.

APPENDIX

RESERVE BANK OF INDIAs REPORT ON BANK GUARANTEE

RESERVE BANK OF INDIA


www.rbi.org.in
RBI/2012-13/69
DBOD. No. Dir. BC.02 /13.03.00/2012-13

July 2, 2012
11 Ashadha 1934 (Saka)

All Scheduled Commercial Banks


(excluding RRBs)
Dear Sir / Madam
Master Circular - Guarantees and Co-acceptances
Please refer to the Master Circular DBOD.No.Dir.BC.8/13.03.00/2011-12 dated July 1, 2011
consolidating the instructions / guidelines issued to banks till that date relating to Guarantees and
Co-acceptances. The Master Circular has been suitably updated by incorporating the instructions
issued up to June 30, 2012 and has also been placed on the RBI website (http://www.rbi.org.in). A
copy of the Master Circular is enclosed.
Yours faithfully

( Sudha Damodar ) Chief


General Manager

Encl: as above

CONTENTS
Para No
A
B
C
D
1
2
2.1
2.2

Particulars

Purpose
Classification
Previous instructions
Application
Introduction
Guidelines
General Guidelines
Guidelines relating to conduct of guarantee business
2.2.1 Norms for unsecured advances & guarantees
2.2.2 Precautions for issuing guarantees
2.2.3 Precautions for Averting Frauds
2.2.4 Ghosh Committee Recommendations
2.2.5 Internal Control Systems
2.2.6 Guarantees on behalf of Banks' Directors
2.2.7 Bank Guarantee Scheme of Government of India
2.2.8 Guarantees on Behalf of Share and Stock Brokers/ Commodity Brokers
2.2.9 Guidelines relating to obtaining of personal guarantees of directors and

2.3

managerial
personnel
of borrowing concerns
2.2.10 other
Guarantees
of State
Government
Guarantees governed by regulations issued under Foreign Exchange
2.3.1 Management
Bid bonds and(Guarantees)
performanceRegulations
bonds or guarantees for exports
2.3.2 Issue of Bank Guarantee
2.3.3 Other Stipulations
2.3.4 Unconditional Guarantees in favour of Overseas Employers/ Importers
behalf
of Indian Exporters
2.3.5 on
Certain
Precautions
in case of Project Exports
2.3.6 Guarantees for Export Advance
2.3.7 Review of Banks Procedures
2.3.8 Other Guarantees regulated by Foreign Exchange Management Rules

2.4

Restrictions on guarantees of inter-company deposits/loans


2.4.1 Restriction on guarantees for placement of funds with NBFCs
2.4.2 Restrictions on Inter-Institutional Guarantees
2.5
Payment of invoked guarantees
2.6
Co-acceptance of bills
2.6.1 General
2.6.2 Safeguards
2.7
Precautions to be taken in the case of Letters of Credit
Annex1
Model Form of Bank Guarantee Bond
Annex 2
Guarantees / LoUs/ LoCs invoked by ADs
Appendix List of circulars consolidated

Master Circular - Guarantees and Co-acceptances


A.

Purpose

This Master Circular provides a framework of the rules/regulations/instructions issued by the


Reserve Bank of India relating to the conduct of guarantee business by banks.
B.

Classification

A statutory directive issued by the Reserve Bank in exercise of the powers conferred by the
Banking Regulation Act, 1949.
C.

Previous instructions

This Master Circular updates the previous instructions on the above subject contained in the
Master Circular dated July 1,2011.
D.

Application

To all Scheduled Commercial Banks, excluding Regional Rural Banks.


Structure
1

INTRODUCTION

GUIDELINES
2.1

General Guidelines

2.2

Guidelines relating to conduct of Guarantee Business

2.3

Guarantees governed by regulations issued under the


Foreign Exchange Management (Guarantees) Regulations

2.4

Restrictions on guarantees of inter-company deposits/loans

2.5

Payment of invoked guarantees

2.6

Co-acceptance of Bills

2.7

Precautions to be taken in the case of Letters of Credit

ANNEX
Annex 1 Model Form of Bank Guarantee Bond Annex 2
Guarantees / LoUs/ LoCs invoked by ADs

Appendix List of circulars consolidated

INTRODUCTION

An important criterion for judging the soundness of a banking institution is the size and
character, not only of its assets portfolio but also, of its contingent liability commitments
such as guarantees, letters of credit, etc. As a part of business, banks issue guarantees on
behalf of their customers for various purposes. The guarantees executed by banks comprise
both performance guarantees and financial guarantees. The guarantees are structured
according to the terms of agreement, viz., security, maturity and purpose. With the
introduction of risk weights for both on- Balance Sheet and off-Balance Sheet exposures,
banks have become more risk sensitive, resulting in structuring of their business exposures in
a more prudent manner. Banks should comply with the following guidelines in the conduct of
their guarantee business.
2
2.1

GUIDELINES

General Guidelines

2.1.1 As regards the purpose of the guarantee, as a general rule, the banks should confine
themselves to the provision of financial guarantees and exercise due caution with regard to
performance guarantee business.
2.1.2 As regards maturity, as a rule, banks should guarantee shorter maturities and leave longer
maturities to be guaranteed by other institutions.
2.1.3 No bank guarantee should normally have a maturity of more than 10 years. However, in view
of the changed scenario of the banking industry where banks extend long term loans for
periods longer than 10 years for various projects, it has been decided to allow banks to also
issue guarantees for periods beyond 10 years. While issuing such guarantees, banks are
advised to take into account the impact of very long duration guarantees on their Asset
Liability Management. Further, banks may evolve a policy on issuance of guarantees beyond
10 years as considered appropriate with the approval of their Board of Directors.
2.2

Guidelines relating to conduct of guarantee business

2.2.1 Norms for unsecured advances & guarantees


(i)

Until June 17, 2004, banks were required to limit their commitments by way of
unsecured guarantees in such a manner that 20 percent of a banks outstanding unsecured
guarantees plus the total of its outstanding unsecured advances should not exceed 15
percent of its total outstanding advances. In order to provide further flexibility to banks

on their loan policies, the above limit on unsecured exposure of banks was withdrawn
and banks Boards have been given the freedom to fix their own policies on their
unsecured exposures. "Unsecured exposure" is defined as an exposure where the
realisable value of the security, as assessed by the bank/ approved valuers/ Reserve
Banks inspecting officers, is not more than 10 per cent, ab-initio, of the outstanding
exposure. Exposure shall include all funded and non-funded exposures (including
underwriting and similar commitments). Security will mean tangible security properly
charged to the bank and will not include intangible securities like guarantees, comfort
letters, etc.

(ii)

For determining the amount of unsecured advances for reflecting in schedule 9 of the
published balance sheet, the rights, licenses, authorisations, etc., charged to the banks as
collateral in respect of projects (including infrastructure projects) financed by them, should
not be reckoned as tangible security. Banks, may however, treat annuities under build-operate
-transfer (BOT) model in respect of road/highway projects and toll collection rights where
there are provisions to compensate the project sponsor if a certain level of traffic is not
achieved, as tangible securities, subject to the condition that banks right to receive annuities
and toll collection rights is legally enforceable and irrevocable.

(iii)

All exemptions allowed for computation of unsecured advances stand withdrawn.

2.2.2

Precautions for issuing guarantees


Banks should adopt the following precautions while issuing guarantees on behalf of their
customers.
i.

As a rule, banks should avoid giving unsecured guarantees in large amounts and for

medium and long-term periods. They should avoid undue concentration of such unsecured
guarantee commitments to particular groups of customers and/or trades.
ii. Unsecured guarantees on account of any individual constituent should be limited to a
reasonable proportion of the banks total unsecured guarantees. Guarantees on behalf of an
individual should also bear a reasonable proportion to the constituents equity.
iii.

In exceptional cases, banks may give deferred payment guarantees on an unsecured

basis for modest amounts to first class customers who have entered into deferred payment
arrangements in consonance with Government policy.
iv.

Guarantees executed on behalf of any individual constituent, or a group of

constituents, should be subject to the prescribed exposure norms.


It is essential to realise that guarantees contain inherent risks and that it would not be in the
banks interest or in the public interest, generally, to encourage parties to over-extend their
commitments and embark upon enterprises solely relying on the easy availability of
guarantee facilities.
2.2.3

Precautions for averting frauds


While issuing guarantees on behalf of customers, the following safeguards should be
observed by banks:

i. At the time of issuing financial guarantees, banks should be satisfied that the
customer would be in a position to reimburse the bank in case the bank is required to
make payment under the guarantee.
ii. In the case of performance guarantee, banks should exercise due caution and have
sufficient experience with the customer to satisfy themselves that the customer has
the necessary experience, capacity and means to perform the obligations under the
contract, and is not likely to commit any default.
iii. Banks should refrain from issuing guarantees on behalf of customers who do not
enjoy credit facilities with them. However, BG /LC may be issued by scheduled
commercial banks to clients of co-operative banks against counter guarantee of the
co-operative bank. In such cases, banks may be guided by

the provisions of paragraph 2.3.9.2 of the Master Circular on Loans and


Advances-Statutory and Other Restrictions dated July 2, 2012. Further, banks
must satisfy themselves that the concerned co-operative banks have sound
credit appraisal and monitoring systems as well as robust Know Your
Customer (KYC) regime. Before issuing BG/LCs to specific constituents of
co-operative banks, they must satisfy themselves that KYC has been done
properly in these cases.
2.2.4

Ghosh Committee Recommendations


Banks should implement the following recommendations made by the High Level
Committee (Chaired by Shri A. Ghosh, the then Dy. Governor of RBI):
i.

In order to prevent unaccounted issue of guarantees, as well as fake

guarantees, as suggested by IBA, bank guarantees should be issued in serially


numbered security forms.
ii. Banks should, while forwarding guarantees, caution the beneficiaries that they

should, in their own interest, verify the genuineness of the guarantee with the
issuing bank.
2.2.5

Internal control systems


Bank guarantees issued for Rs.50,000/- and above should be signed by two officials
jointly. A lower cut-off point, depending upon the size and category of branches, may
be prescribed by banks, where considered necessary. Such a system will reduce the

scope for malpractices/ losses arising from the wrong perception/ judgement or lack
of honesty/ integrity on the part of a single signatory. Banks should evolve suitable
systems and procedures, keeping in view the spirit of these instructions and allow
deviation from the two signatures discipline only in exceptional circumstances. The
responsibility for ensuring the adequacy and effectiveness of the systems and
procedures for preventing perpetration of frauds and malpractices by their officials
would, in such cases, rest on the top managements of the banks. In case, exceptions
are made for affixing of only one signature on the instruments, banks should devise a
system for subjecting such instruments to special scrutiny by the auditors or
inspectors at the time of internal inspection of branches.
2.2.6

Guarantees on behalf of Banks' Directors

2.2.6.1 Section 20 of the Banking Regulation Act, 1949 prohibits banks from granting loans

or advances to any of their directors or any firm or company in which any of their
directors is a partner or guarantor. However, certain facilities which, inter alia,
include issue of guarantees, are not regarded as 'loan and advances' within the
meaning of Section 20 of the Act, ibid. In this regard, it is pertinent to note with
particular reference to banks giving guarantees on behalf of their directors, that in the
event of the principal debtor committing default in discharging his liability and the
bank being called upon to honour its obligation under the guarantee, the relationship
between the bank and the director could become one of creditor and debtor. Further,
directors would also be able to evade the provisions of Section 20 by borrowing from
a third party against the guarantee given by the bank. These types of transactions are
likely to defeat the very purpose of enacting Section 20, if banks do not take
appropriate steps to ensure that the liabilities thereunder do not devolve on them.
2.2.6.2 In view of the above, banks should, while extending non-fund based facilities such as

guarantees, etc. on behalf of directors and the companies/firms in which the


director is interested, ensure that:
i.

adequate and effective arrangements have been made to the satisfaction of the

bank that the commitments would be met out of their own resources by the party on
whose behalf guarantee was issued, and
ii. the bank will not be called upon to grant any loan or advance to meet the liability,

consequent upon the invocation of guarantee.


2.2.6.3 In case, such contingencies arise as at (ii) above, the bank will be deemed to be a

party to the violation of the provisions of Section 20 of the Banking Regulation Act,
1949.
2.2.7

Bank Guarantee Scheme of Government of India

2.2.7.1 The Bank Guarantee Scheme formulated by the Government of India for the issuance

of bank guarantees in favour of Central Government Departments, in lieu of security


deposits, etc. by contractors, has been modified from time to time. Under the scheme,
it is open to Government Departments to accept freely guarantees, etc. from all
scheduled commercial banks.
2.2.7.2 Banks should adopt the Model Form of Bank Guarantee Bond given in Annex 1. The

Government of India have advised all the Government departments/ Public Sector
Undertakings, etc. to accept bank guarantees in the Model Bond and to ensure that
alterations/additions to the clauses whenever considered necessary are not one-sided
and are made in agreement with the guaranteeing bank. Banks should mention in the
guarantee bonds and their correspondence with the various State Governments, the
names of the beneficiary departments and the purposes for which the guarantees are
executed. This is necessary to facilitate prompt identification of the guarantees with
the concerned departments. In regard to the guarantees furnished by the banks in
favour of Government Departments in the name of the President of India, any
correspondence thereon should be exchanged with the concerned ministries/
departments and not with the President of India. In respect of guarantees issued in
favour of Directorate General of Supplies and Disposal, the following aspects should
be kept in view:
i.

In order to speed up the process of verification of the genuineness of the bank


guarantee, the name, designation and code numbers of the officer/officers
signing the guarantees should be incorporated under the signature(s) of
officials signing the bank guarantee.

ii.

The beneficiary of the bank guarantee should also be advised to invariably


obtain the confirmation of the concerned banks about the genuineness of the

guarantee issued by them as a measure of safety.


iii.

The initial period of the bank guarantee issued by banks as a means of


security in Directorate General of Supplies and Disposal contract
administration would be for a period of six months beyond the original
delivery period. Banks may incorporate a suitable clause in their bank
guarantee, providing automatic extension of the validity period of the
guarantee by 6 months, and also obtain suitable undertaking from the
customer at the time of establishing the guarantee to avoid any possible
complication later.

iv.

A clause would be incorporated by Directorate General of Supplies and


Disposal (DGS&D) in the tender forms of Directorate General of Supplies
and Disposal 229 (Instruction to the tenderers) to the effect that whenever a
firm fails to supply the stores within the delivery period of the contract
wherein bank guarantee has been furnished, the request for extension for
delivery period will automatically be taken as an agreement for getting the
bank guarantee extended. Banks should make similar provisions in the bank
guarantees for automatic extension of the guarantee period.

v.

The Public Notice issued by the Customs Department stipulates, inter alia,
that all bank guarantees furnished by an importer should contain a selfrenewal
clause inbuilt in the guarantee itself. As the stipulation in the Public Notice
issued by the Customs Department is akin to the notice in the tender form
floated by the DGS&D, the provision for automatic extension of the guarantee
period in the bank guarantees issued to DGS&D, as at subparagraph (iv)
above, should also be made applicable to bank guarantees issued favouring
the Customs Houses.

vi.

The bank guarantee, as a means of security in the Directorate General of


Supplies and Disposal contract administration and extension letters thereof,
would be on non-judicial stamp paper.

2.2.8

Guarantees on behalf of Share and Stock Brokers/ Commodity Brokers

Banks may issue guarantees on behalf of share and stock brokers in favour of stock
exchanges in lieu of security deposit to the extent it is acceptable in the form of bank
guarantee as laid down by stock exchanges. Banks may also issue guarantees in lieu
of margin requirements as per stock exchange regulations. Banks have further been
advised that they should obtain a minimum margin of 50 percent while issuing such
guarantees. A minimum cash margin of 25 per cent (within the above margin of 50
per cent) should be maintained in respect of such guarantees issued by banks. The
above minimum margin of 50 percent and minimum cash margin requirement of 25
percent (within the margin of 50 percent) will also apply to guarantees issued by
banks on behalf of commodity brokers in favour of the national level commodity
exchanges, viz., National Commodity & Derivatives Exchange (NCDEX), Multi
Commodity Exchange of India Limited (MCX) and National Multi-Commodity
Exchange of India Limited (NMCEIL), in lieu of margin requirements as per the
commodity exchange regulations. Banks should assess the requirement of each
applicant borrower and observe usual and necessary safeguards including the
exposure ceilings.
2.2.9

Guidelines relating to obtaining of personal guarantees of directors and


other managerial personnel of borrowing concerns

2.2.9.1 Personal guarantees of directors

Banks should take personal guarantees of directors for the credit facilities, etc.
granted to corporates, public or private, only, when absolutely warranted after a
careful examination of the circumstances of the case and not, as a matter of course. In
order to identify the circumstances under which the guarantee may or may not be
considered necessary, banks should be guided by the following broad considerations:
A.

Where guarantees need not be considered necessary

i.

Ordinarily, in the case of public limited companies, when the lending

institutions are satisfied about the management, its stake in the concern, economic
viability of the proposal and the financial position and capacity for cash generation,
no personal guarantee need be insisted upon. In fact, in the case of widely owned
public limited companies, which may be rated as first class and satisfying the above
conditions, guarantees may not be necessary even if the advances are unsecured.

Also, in the case of companies, whether private or public, which are under
professional management, guarantees may not be insisted upon from persons who are
connected with the management solely by virtue of their professional/technical
qualifications and not consequent upon any significant shareholding in the company
concerned.
ii.

Where the lending institutions are not so convinced about the aspects of loan

proposals mentioned above, they should seek to stipulate conditions to make the
proposals acceptable without such guarantees. In some cases, more stringent forms of
financial discipline like restrictions on distribution of dividends, further expansion,
aggregate borrowings, creation of further charge on assets and stipulation of
maintenance of minimum net working capital may be necessary. Also, the parity
between owned funds and capital investment and the overall debt-equity ratio may
have to be taken into account.
B.

Where guarantees may be considered helpful

i.

Personal guarantees of directors may be helpful in respect of companies,

whether private or public, where shares are held closely by a person or connected
persons or a group (not being professionals or Government), irrespective of other
factors, such as financial condition, security available, etc. The exception being in
respect of companies where, by court or statutory order, the management of the
company is vested in a person or persons, whether called directors or by any other
name, who are not required to be elected by the shareholders. Where personal
guarantee is considered necessary, the guarantee should preferably be that of the
principal members of the group holding shares in the borrowing company rather than
that of the director/managerial personnel functioning as director or in any managerial
capacity.
ii.

Even if a company is not closely held, there may be justification for a

personal guarantee of directors to ensure continuity of management. Thus, a lending


institution could make a loan to a company whose management is considered good.
Subsequently, a different group could acquire control of the company, which could
lead the lending institution to have well-founded fears that the management has
changed for the worse and that the funds lent to the company are in jeopardy. One
way by which lending institutions could protect themselves in such circumstances is

to obtain guarantees of the directors and thus ensure either the continuity of the
management or that the changes in management take place with their knowledge.
Even where personal guarantees are waived, it may be necessary to obtain an
undertaking from the borrowing company that no change in the management would
be made without the consent of the lending institution. Similarly, during the
formative stages of a company, it may be in the interest of the company, as well as
the lending institution, to obtain guarantees to ensure continuity of management.
iii.

Personal guarantees of directors may be helpful with regard to public limited

companies other than those which may be rated as first class, where the advance is on
an unsecured basis.
iv.

There may be public limited companies, whose financial position and/or

capacity for cash generation is not satisfactory even though the relevant advances are
secured. In such cases, personal guarantees are useful.
v.

Cases where there is likely to be considerable delay in the creation of a charge

on assets, guarantee may be taken, where deemed necessary, to cover the interim
period between the disbursement of loan and the creation of the charge on assets.
vi.

The guarantee of parent companies may be obtained in the case of

subsidiaries whose own financial condition is not considered satisfactory.


vii.

Personal guarantees are relevant where the balance sheet or financial

statement of a company discloses interlocking of funds between the company and


other concerns owned or managed by a group.
C.

Worth of the guarantors, payment of guarantee commission, etc.

Where personal guarantees of directors are warranted, they should bear reasonable
proportion to the estimated worth of the person. The system of obtaining guarantees
should not be used by the directors and other managerial personnel as a source of
income from the company. Banks should obtain an undertaking from the borrowing
company as well as the guarantors that no consideration whether by way of
commission, brokerage fees or any other form, would be paid by the former or
received by the latter, directly or indirectly. This requirement should be incorporated
in the bank's terms and conditions for sanctioning of credit limits. During the periodic

inspections, the bank's inspectors should verify that this stipulation has been
complied with. There may, however, be exceptional cases where payment of
remuneration may be permitted e.g. where assisted concerns are not doing well and
the existing guarantors are no longer connected with the management but continuance
of their guarantees is considered essential because the new management's guarantee
is either not available or is found inadequate and payment of remuneration to
guarantors by way of guarantee commission is allowed.
D.

Personal guarantees in the case of sick units

As the personal guarantees of promoters/ directors generally instill greater


accountability and responsibility on their part and prompt the managements to
conduct the running of the assisted units on sound and healthy lines and to ensure
financial discipline, banks, may in their discretion, obtain guarantees from directors
(excluding the nominee directors) and other managerial personnel in their individual
capacities. In case, for any reasons, a guarantee is not considered expedient by the
bank at the time of sanctioning the advance, an undertaking should be obtained from
the individual directors and a covenant should invariably be incorporated in the loan
agreement that in case the borrowing unit show cash losses or adverse current ratio or
diversion of fund, the directors would be under an obligation to execute guarantees in
their individual capacities, if required by the banks. Banks may also obtain
guarantees at their discretion from the parent/holding company when credit facilities
are extended to borrowing units in the same Group.
2.2.10 Guarantees of State Government

The guidelines laid down in paragraph 2.2.9 above, for taking personal guarantees of
directors and other managerial personnel, should also be followed in respect of
proposal of State Government undertakings/projects and guarantees may not be
insisted upon unless absolutely warranted. In other words, banks could obtain
guarantees of State Governments on merits and only in circumstances absolutely
necessary after thorough examination of the circumstances of each case, and not as
matter of course.

2.3

Guarantees governed by regulations issued under Foreign


Exchange Management (Guarantees) Regulations

2.3.1

Bid bonds and performance bonds or guarantees for exports


i.

In terms of Notification No.FEMA.8/2000-RB dated May 3, 2000, Authorised

Dealer banks have the permission to give performance bond or guarantee in favour of
overseas buyers on account of bona fide exports from India.
ii.

Prior approval of RBI should be obtained by the Authorised Dealer banks for

issue of performance bonds/ guarantees in respect of caution-listed exporters. Before


issuing any such guarantees, they should satisfy themselves with the bona fides of the
applicant and his capacity to perform the contract and also that the value of the bid/
guarantee as a percentage of the value of the contract/ tender is reasonable and
according to the normal practice in international trade, and that the terms of the
contract are in accordance with the Foreign Exchange Management Regulations.
iii.

Authorised Dealer banks, should also, subject to what has been stated above,

issue counter-guarantees in favour of their branches/ correspondents abroad in cover


of guarantees required to be issued by the latter on behalf of Indian exporters, in
cases where guarantees of only resident banks are acceptable to overseas buyers in
accordance with local laws/ regulations.
iv.

If and when the bond/ guarantee is invoked, Authorised Dealer banks may

make payments due thereunder to non-resident beneficiaries.


2.3.2

Issue of Bank Guarantee


In terms of Regulation 4 of the Foreign Exchange Management (Guarantees)
Regulations, 2000 notified by Notification no. FEMA.8/2000-RB dated May 3, 2000,
AD banks are allowed to give guarantees in certain cases, as stated therein.
(i)

Issue of Bank Guarantee in favour of Foreign Airlines/IATA

Indian agents of foreign airline companies who are members of International Air
Transport Association (IATA), are required to furnish bank guarantees in favour of
foreign airline companies/IATA, in connection with their ticketing business. As this

is a standard requirement in this business, Authorised Dealer banks in their ordinary


course of business can issue guarantees in favour of the foreign airline
companies/IATA on behalf of Indian agents of foreign airline companies, who are
members of IATA, in connection with their ticketing business.
(ii)

Issue of Bank Guarantee on behalf of Service Importers

With a view to further liberalise the procedure (other than in respect of a Public
Sector Company or a Department / Undertaking of the Government of India / State
Governments) for import of services, it has been decided to increase the limit for
issue of guarantee by AD Category-I Banks from USD 100,000 to USD 500,000.
Accordingly, AD Category-I banks are now permitted to issue guarantee for amount
not exceeding USD 500,000 or its equivalent in favour of a non-resident service
provider, on behalf of a resident customer who is a service importer, provided:
(a) the AD Category-I bank is satisfied about the bonafides of the transaction;
(b) the AD Category-I bank ensures submission of documentary evidence for import

of services in the normal course; and


(c) the guarantee is to secure a direct contractual liability arising out of a contract

between a resident and a non-resident.

I n the case of a Public Sector Company or a Department/ Undertaking of the


Government of India/ State Governments, approval from the Ministry of Finance,
Government of India for issue of guarantee for an amount exceeding USD 100,000
(USD One hundred thousand) or its equivalent would be required.
(iii) Issue of Bank Guarantee-commodity hedging

An Authorised Dealer Category I bank in India may give guarantee or standby Letter
of Credit in respect of an obligation incurred by a person resident in India and owed
to a person resident outside India in connection with payment of margin money in
respect of approved commodity hedging transaction of such person residing in India
subject to terms and conditions as may be stipulated by the Reserve Bank from time
to time. Banks are advised to refer to the Master Circular on " Risk Management &

Inter Bank Dealings dated July 2, 2012 for the conditions and guidelines based on
which a standby letter of credit /bank guarantee under the facility may be issued by
Authorised Dealer Category I banks.
(iv) Invocation of guarantee

In case of invocation of the guarantee, the authorised dealer bank should send a
detailed report to the Chief General Manager-in-Charge, Foreign Exchange
Department, External Payments Division(EPD), Reserve Bank of India, Central
Office, Mumbai - 400 001, explaining the circumstances leading to the invocation of
the guarantee.
2.3.3

Other stipulations
i.

With a view to boost exports, banks should adopt a flexible approach in the

matter of obtaining cover and earmarking of assets/ credit limits, drawing power,
while issuing bid bonds and performance guarantees for export purposes. Banks may,
however, safeguard their interests by obtaining an Export Performance Guarantee of
ECGC, wherever considered necessary.
ii.

Export Credit Guarantee Corporation of India Ltd. (ECGC) would provide 90

percent cover for bid bonds, provided the banks give an undertaking not to insist on
cash margins.
iii.

Banks may not, therefore, ask for any cash margin in respect of bid bonds and

guarantees which are counter-guaranteed by ECGC.


iv.

In other cases, where such counter-guarantees of ECGC are not available,

for whatever reasons, the banks may stipulate a reasonable cash margin only where it
is considered absolutely necessary, as they satisfy themselves generally about the
capacity and financial position of the exporter while issuing such bid bonds/
guarantees.
v.

Banks may consider sanctioning separate limits for issue of bid bonds. Within

the limits so sanctioned, bid bonds against individual contracts may be issued, subject
to usual considerations.

2.3.4

Unconditional Guarantees in favour of Overseas Employers/


Importers on behalf of Indian Exporters
i.

While agreeing to give unconditional guarantee in favour of overseas

employers/importers on behalf of Indian Exporters, banks should obtain an


undertaking from the exporter to the effect that when the guarantee is invoked, the
bank would be entitled to make payment, notwithstanding any dispute between the
exporter and the importer. Although, such an undertaking may not prevent the
exporter from approaching the Court for an injunction order, it might weigh with the
Court in taking a view whether injunction order should be issued.
ii.

Banks should, while issuing guarantees in future, keep the above points in

view and incorporate suitable clauses in the agreement, in consultation with their
legal advisers. This is considered desirable as non-honouring of guarantees on
invocation might prompt overseas banks not to accept guarantees of Indian banks,
thus hampering the country's export promotion effort.
2.3.5

Certain precautions in case of Project Exports


i.

Banks are aware that the Working Group mechanism has been evolved for the

purpose of giving package approvals in principle at post-bid stages for high value
overseas project exports. The role of the Working Group is mainly regulatory in
nature, but the responsibility of project appraisal and that of monitoring the project
lies solely on the sponsor bank.
ii.

As the Working Group approvals are based on the recommendations of the

sponsor banks, the latter should examine the project proposals thoroughly with regard
to the capacity of the contractor/ sub-contractors, protective clauses in the contracts,
adequacy of security, credit ratings of the overseas sub-contractors, if any, etc.
iii.

Therefore, the need for a careful assessment of financial and technical

demands involved in the proposals vis-a-vis the capability of the contractors


(including sub-contractors) as well as the overseas employers can hardly be underrated to the financing of any domestic projects. In fact, the export projects should be
given more attention, in view of their high values and the possibilities of foreign
exchange losses in case of failure, apart from damage to the image of Indian

entrepreneurs.
iv.

While bid bonds and performance guarantees cannot be avoided, it is to be

considered whether guarantees should be given by the banks in all cases of overseas
borrowings for financing overseas projects. Such guarantees should not be executed
as a matter of course, merely because of the participation of Exim Bank and
availability of counter-guarantee of ECGC. Appropriate arrangements should

also be made for post-award follow-up and monitoring of the contracts.


2.3.6

Guarantees for Export Advance


(i)

It had come to the notice of Reserve Bank that exporters with low export

turnover are receiving large amounts as export advances, in low interest rate
currencies, against domestic bank guarantees and are depositing such advances with
banks in Indian Rupees for interest rate arbitrage. Further, the guarantees are being
issued even before the receipt of the advances, with a proviso that the guarantees
would be operational only upon receipt of the advances. The guarantees have been
issued at par values, against the discounted values of the export advances. The
exporters have also been allowed to freely book, cancel and rebook forward contracts
without any crystallized exports and / or past performances, in contravention of the
FEMA regulations. It has also been observed that the exporters keep a substantial part
of their Indian Rupee - US Dollar leg of the currency exposure open, thereby
exposing both the exporters and the domestic banks to foreign exchange risk. In such
cases, generally no exports have taken place and the exporters have neither the track
record nor the ability to execute large export orders. The transactions have basically
been designed for taking advantage of the interest rate differential and currency
movements and have implications for capital flows.
(ii)

Guarantees are permitted in respect of debt or other liability incurred by an

exporter on account of exports from India. It is therefore intended to facilitate


execution of export contracts by an exporter and not for other purposes. In terms of
extant instructions banks have also been advised that guarantees contain inherent
risks, and that it would not be in the banks' interest or in the public interest generally
to encourage parties to over-extend their commitments and embark upon enterprises
solely relying on the easy availability of guarantee facilities. It is, therefore, reiterated

that as guarantees contain inherent risks, it would not be in the interest of the banks or
the financial system if such transactions, as mentioned at paragraph 2.3.6(i) above,
are entered into by banks. Banks should, therefore, be careful while extending
guarantees against export advances so as to ensure that no violation of FEMA
regulations takes place and banks are not exposed to various risks. It will be
important for the banks to carry out due diligence and verify the track record of such
exporters to assess their ability to execute such export orders.
(iii)

Banks should also ensure that the export advances received by the exporters

are in compliance with the regulations/ directions issued under the Foreign Exchange
Management Act, 1999.
2.3.7

Review of banks procedures


Banks may periodically review the position regarding delegation of powers and their
procedures, and take such action as may be necessary with a view to expediting
decision on export proposals. They may also consider designating a specified branch,
equipped with adequately qualified and trained staff, in each important centre to deal
expeditiously with all export credit proposals at the centre.

2.3.8

Other Guarantees regulated by Foreign


Exchange Management Rules
Issue of the following types of guarantees are governed by the Foreign Exchange
Management Regulations:
i.

Minor Guarantees

ii.

Bank Guarantees - Import under Foreign Loans/Credits

iii.

Guarantees for Non-Residents

For operative instructions, a reference may be made to the notification issued under
FEMA.8/ 2000 dated May 3, 2000 cited above, as well as to the guidelines issued by
the Foreign Exchange Department in its Master Circulars. However, for ease of
reference, instructions/ guidelines in regard to issue of these guarantees are
reproduced hereunder.
2.3.8.1 Minor guarantees

Authorised Dealer banks may freely give on behalf of their customers and overseas
branches and correspondents, guarantees in the ordinary course of business in respect
of missing or defective documents, authenticity of signatures and for other similar
purposes.
2.3.8.2 Bank guarantees - Import under foreign loans/credits

Banks / Financial Institutions are not permitted to issue guarantees/ standby letters of
credit or letters of comfort in favour of overseas lenders relating to External
Commercial Borrowing (ECB). Applications for providing guarantees/ standby
letters of credit or letters of comfort by banks relating to ECB in the case of SMEs
will be considered by the Reserve Bank on merit under the Approval Route, subject
to prudential norms. Applications by banks for issue of guarantees, standby letters of
credit, letters of undertaking or letter of comfort in respect of ECB by textile
companies for modernization or expansion of the textile units, after the phasing out of
Multi Fibre Agreements, will be considered by Reserve Bank under the Approval
Route subject to prudential norms.
2.3.8.3 Trade Credits for imports into India - Issue of

Guarantees - Delegation of powers


i.

Credit extended for imports directly by the overseas supplier, bank and

financial institution for maturity of less than three years is hereinafter referred to as
trade credit for imports. Depending on the source of finance, such trade credit will
include suppliers credit or buyers credit. It may be noted that buyers credit and
suppliers credit for three years and above come under the category of External
Commercial Borrowings (ECB), which are governed by ECB guidelines issued vide
A. P. (DIR Series) Circular No. 60 dated January 31, 2004 and modified from time to
time.
ii.

AD banks can approve trade credits for imports into India up to USD 20

million per import transaction for imports permissible under the current Foreign
Trade Policy of DGFT with a maturity period up to one year from the date of
shipment. For import of capital goods classified by DGFT, AD banks may approve
trade credits up to USD 20 million per import transaction with a maturity period of
more than one year and less than three years. No roll-over/ extension will be
permitted by the AD banks beyond the permissible period.

iii.

General permission has been granted to Authorised Dealer banks to issue

guarantees/ Letter of Undertaking (LoU)/ Letter of Comfort (LoC) in favour of the


overseas supplier, bank and financial institution up to USD 20 million per import
transaction for a period up to one year for import of all non-capital goods permissible,
under the Foreign Trade Policy (except gold) and up to three years for import of
capital goods, subject to prudential norms issued by the Reserve Bank from time to
time. The period of such guarantees/LoUs/LoCs has to be co-terminus with the period
of credit, reckoned from the date of shipment.
iv.

As regards reporting arrangements, AD banks are required to furnish data on

issuance of guarantees/LoUs/LoCs by all its branches, in a consolidated statement, at


quarterly intervals (format in Annex 2) to the Chief General Manager-in-Charge,
Foreign Exchange Department, ECB Division, Reserve Bank of India, Central Office
Building, 11th floor, Fort, Mumbai - 400 001 (and in MS-Excel file through email)
from December, 2004 onwards so as to reach the department not later than the 10th of
the following month.
2.3.8.4 Loans abroad against securities provided in India

In terms of Regulation 4(2) of Notification No. FEMA.8/2000-RB dated May 3,


2000, an AD may give guarantee in respect of any debt, obligations or other liability
incurred by a person resident outside India, among others, where such debt,
obligation or liability is owed to a person resident in India in connection with a bona
fide trade transaction, provided that the guarantee is covered by a counter guarantee
of a bank of international repute resident abroad.
2.3.8.5 Guarantees for non-residents
i.

Reserve Bank has granted general permission to Authorised Dealer banks,

vide its Notification No. FEMA/8/ 2000 dated 3rd May 2000, to give guarantees in
favour of persons resident in India in respect of any debt or other obligation or
liability of a person resident outside India, subject to such instructions as may be
issued by RBI from time to time.
ii.

Authorised Dealer banks may, accordingly, give on behalf of their overseas

branches/ correspondents or a bank of international repute, guarantees/ performance

bonds in favour of residents of India in connection with genuine transactions


involving debt, liability or obligation of non-residents, provided the bond/ guarantee
is covered by a counter-guarantee of the overseas Head Office/ branch/ correspondent
or a bank of international repute.
iii.

Authorised Dealer banks should ensure that counter-guarantees are properly

evaluated and their own guarantees against such guarantees are not issued in a routine
manner. Before issuing a guarantee against the counter-guarantee from an overseas
Head Office/branch/ correspondent/ bank of international repute, Authorised Dealer
banks should satisfy themselves that the obligations under the counter-guarantee,
when invoked, would be honoured by the overseas bank promptly. If the Authorised
Dealer bank desires to issue guarantee with the condition that payment will be made,
provided reimbursement has been received from the overseas bank which had issued
the counter-guarantee, this fact should be made clearly known to the beneficiary in
the guarantee document itself.
iv.

Authorised Dealer banks may make rupee payments to the resident

beneficiaries immediately when the guarantee is invoked and, simultaneously,


arrange to obtain the reimbursement from the overseas bank concerned, which had
issued the counter-guarantee.
v Cases where payments are not received by the Authorised Dealer banks when the
guarantees of overseas banks are invoked, should be reported to RBI indicating the
steps being taken by the bank to recover the amount due under the guarantee.
vi.

Authorised Dealer banks may issue guarantees in favour of overseas

organisations issuing travellers cheques in respect of blank travellers cheques stocked


for sale by them or on behalf of their constituents who are full-fledged money
changers holding valid licences from Reserve Bank, subject to suitable counterguarantee being obtained from the latter. In the event of the guarantee being invoked,
Authorised Dealer banks may effect remittance but should send a separate report
thereon furnishing full details to the Chief General Manager, Foreign Exchange
Department, (Forex Markets Division), Reserve Bank of India, Central Office,
Mumbai - 400 001.
2.3.8.6 Overseas Investment - Guarantee on behalf of

Wholly Owned Subsidiaries (WOSs)/Joint Ventures (JVs) abroad


(i) An Indian party may have financial commitment to its JV / WOS to the limit of 400

percent of the net worth of the Indian party as on the date of the last audited balance
sheet. The financial commitment may be in the form of
(a) capital contribution and loan to the JV / WOS;
(b) corporate guarantee (only 50 percent value in case of performance guarantee) and / or

bank guarantee (which is backed by a counter guarantee / collateral by the Indian


party) on behalf of the JV / WOS and
(c) charge on immovable / movable property and other financial assets of the Indian

party (including group company) on behalf of JV / WOS.


(ii) An Indian party may offer any form of guarantee on behalf of the JV / WOS [corporate or

personal / primary or collateral / guarantee by the promoter company / guarantee by


group company, sister concern or associate company in India] provided that:
a) The total financial commitment of the Indian party, including all forms of

guarantees, are within the overall ceiling prescribed for overseas direct
investment;
b) No guarantee should be 'open ended' i.e. the amount and period of the guarantee

should be specified upfront.


c) In the case of performance guarantee, time specified for the completion of the

contract shall be the validity period of the related performance guarantee;


d) In cases where invocation of the performance guarantee breaches the specified

ceiling for the financial commitment of 400 per cent, the Indian party shall seek
prior approval of the Reserve Bank before remitting funds from India;
e) All forms of guarantees are required to be reported to the Reserve Bank in Form

ODI Part II.


(iii) An Indian party may extend corporate guarantee on behalf of the first generation step

down operating subsidiary under the Automatic Route within the prevailing limit for the
overseas direct investments.
(iv) An Indian party may issue corporate guarantee on behalf of second generation or

subsequent generation step down operating subsidiaries with prior approval from the
Reserve Bank, provided the Indian party indirectly holds 51 percent or more stake in the
overseas subsidiary for which such guarantee is intended to be issued.
(v) The bank guarantee issued by a resident bank on behalf of an overseas JV / WOS of the

Indian party, which is backed by a counter guarantee / collateral by the Indian party, shall
be reckoned for computation of the financial commitment of the Indian party for overseas
direct investments. The bank guarantee to be issued would be subject to the prudential
norms issued by the Reserve Bank (DBOD) from time to time.
2.4

Restrictions on guarantees of inter-company deposits/loans


Banks should not execute guarantees covering inter-company deposits/loans thereby
guaranteeing refund of deposits/loans accepted by NBFC/firms from other
NBFC/firms.

2.4.1

Restriction on guarantees for placement of funds with NBFCs


These instructions would cover all types of deposits/ loans irrespective of their
source, including deposits/loans received by NBFCs from trusts and other
institutions. Guarantees should not be issued for the purpose of indirectly enabling
the placement of deposits with NBFCs.

2.4.2

Restrictions on Inter-Institutional Guarantees

2.4.2.1 Banks should not execute guarantees covering inter-company deposits/ loans.

Guarantees should not, also, be issued for the purpose of indirectly enabling the
placement of deposits with non-banking institutions. This stipulation will apply to all
types of deposits/loans irrespective of their source, e.g. deposits/ loans received by
non-banking companies from trusts and other institutions.
2.4.2.2 Transactions of the following type are in the nature of guarantees executed by banks

in respect of funds made available by one non-banking to another nonbanking


company and banks should therefore, desist from such practices:
a)

A seller drew bills, normally of 120 to 180 days usance, on the buyer

which were accepted by the buyer and co-accepted by his banker. The bills
were discounted by the seller with the accommodating company, which
retained the bills till the due date. The bank which gave co-acceptance
invariably earmarked funds for the liability under the bills against the drawing
power in respect of stocks held in the cash credit account of its client, the
buyer, or

b)

The accommodating company kept deposits for a specific period with

the bank's borrowers under a guarantee executed by the bank. In such a case
also, the bank earmarked the amount against drawing power available in the
cash credit account.
2.4.2.3 (a) Banks may issue guarantees favouring other banks/ FIs/ other lending agencies for

the loans extended by the latter, subject to strict compliance with the following
conditions.
The Board of Directors should reckon the integrity/ robustness of the banks

i.

risk management systems and, accordingly, put in place a well-laid out policy in this
regard.
The Board approved policy should, among others, address the following issues:
a.

Prudential limits, linked to banks Tier I capital, up to which


guarantees favouring other banks/FIs/other lending agencies may be
issued

ii.

b.

Nature and extent of security and margins

c.

Delegation of powers

d.

Reporting system

e.

Periodical reviews

The guarantee shall be extended only in respect of borrower constituents and

to enable them to avail of additional credit facility from other banks/FIs/lending


agencies.
iii.

The guaranteeing bank should assume a funded exposure of at least 10% of

the exposure guaranteed.


iv.

Banks should not extend guarantees or letters of comfort in favour of overseas

lenders including those assignable to overseas lenders. However, AD banks may also
be guided by the provisions contained in Notification No. FEMA 8/2000-RB dated
May 3, 2000.
v.

The guarantee issued by the bank will be an exposure on the borrowing entity

on whose behalf the guarantee has been issued and will attract appropriate risk

weight, as per the extant guidelines.


vi. Banks should ensure compliance with the recommendations of the Ghosh

Committee and other internal requirements relating to issue of guarantees, to obviate


the possibility of frauds in this area.
vii.

Of late, certain banks have been issuing guarantees on behalf of corporate

entities in respect of non-convertible debentures issued by such entities. It is clarified


that the extant instructions apply only to loans and not to bonds or debt instruments.
Guarantees by the banking system for a corporate bond or any debt instrument not
only have significant systemic implications but also impede the development of a
genuine corporate debt market. Banks are advised to strictly comply with the extant
regulations and in particular, not to provide guarantees or equivalent commitments
for issuance of bonds or debt instruments of any kind.
2.4.2.3 (b) Lending banks

Banks extending credit facilities against the guarantees issued by other banks/FIs
should ensure strict compliance with the following conditions:
i.

The exposure assumed by the bank against the guarantee of another bank/FI

will be deemed as an exposure on the guaranteeing bank/FI and will attract


appropriate risk weight as per the extant guidelines.
ii.

Exposures assumed by way of credit facilities extended against the guarantees

issued by other banks should be reckoned within the inter bank exposure limits
prescribed by the Board of Directors. Since the exposure assumed by the bank against
the guarantee of another bank/FI will be for a fairly longer term than those assumed
on account of inter-bank dealings in the money market, foreign exchange market and
securities market, the Board of Directors should fix an appropriate sub-limit for the
longer term exposures, since these exposures attract greater risk.
iii.

Banks should monitor the exposure assumed on the guaranteeing bank/ FI, on

a continuous basis and ensure strict compliance with the prudential limits/ sub limits
prescribed by the Board for banks and the prudential single borrower limits
prescribed by RBI for FIs.

iv.

Banks should comply with the recommendations of the Ghosh Committee and

other internal requirements relating to acceptance of guarantees of other banks, to


obviate the possibility of frauds in this area.
2.4.2.4 Exceptions
i.

In regard to rehabilitation of sick/weak industrial units, in exceptional cases,

where banks are unable to participate in rehabilitation packages on account of


temporary liquidity constraints, the concerned banks could provide guarantees in
favour of the banks which take up their additional share. Such guarantees will remain
extant until such time that the banks providing additional finance against guarantees
are re-compensated.
ii.

In respect of infrastructure projects, banks may issue guarantees favouring

other lending institutions, provided the bank issuing the guarantee takes a funded
share in the project at least to the extent of 5 percent of the project cost and
undertakes normal credit appraisal, monitoring and follow up of the project.
iii.

In cases of Sellers Line of Credit Scheme (since renamed as Direct

Discounting Scheme) operated by IDBI Bank Ltd. 14 and all India financial
institutions like SIDBI, PFC, etc for sale of machinery, the primary credit is provided
by the sellers bank to the seller through bills drawn on the buyer and the sellers
bank has no access to the security covered by the transaction which remains with the
buyer. As such, buyers banks are permitted to extend guarantee/ co-acceptance
facility for the bills drawn under sellers line of credit.
iv.

Similarly, guarantees can be issued in favour of HUDCO/ State Housing

Boards and similar bodies/ organisations for the loans granted by them to private
borrowers who are unable to offer clear and marketable title to property, provided
banks are otherwise satisfied with the capacity of the borrowers to adequately service
such loans.
(v)Banks may sanction issuance of guarantees on behalf of their constituents,
favouring Development Agencies/ Boards like Indian Renewable Energy

The scheme which was being operated by the erstwhile IDBI is being continued by IDBI Bank Ltd.

Development Agency, National Horticulture Board, etc., for obtaining soft loans
and/or other forms of development assistance.
2.4.2.5 Infrastructure projects

Keeping in view the special features of lending to infrastructure projects viz., the high
degree of appraisal skills on the part of lenders and availability of resources of a
maturity matching with the project period, banks have been given discretion in the
matter of issuance of guarantees favouring other lending agencies, in respect of
infrastructure projects alone, subject to the following conditions:
(i)

The bank issuing the guarantee takes a funded share in the project at least to
the extent of 5 percent of the project cost and undertakes normal credit
appraisal, monitoring and follow-up of the project.

(ii)

The guarantor bank has a satisfactory record in compliance with the


prudential regulations, such as, capital adequacy, credit exposure, norms
relating to income recognition, asset classification and provisioning, etc.

2.5. Payment of invoked guarantees


2.5.1

Where guarantees are invoked, payment should be made to the beneficiaries without
delay and demur. An appropriate procedure for ensuring such immediate honouring
of guarantees should be laid down so that there is no delay on the pretext that legal
advice or approval of higher authorities is being obtained.

2.5.2

Delays on the part of banks in honouring the guarantees when invoked tend to erode
the value of the bank guarantees, the sanctity of the scheme of guarantees and image
of banks. It also provides an opportunity to the parties to take recourse to courts and
obtain injunction orders. In the case of guarantees in favour of Government
departments, this not only delays the revenue collection efforts but also gives an
erroneous impression that banks are actively in collusion with the parties, which
tarnish the image of the banking system.

2.5.3

There should be an effective system to process the guarantee business to ensure that
the persons on whose behalf the guarantees are issued will be in a position to perform
their obligations in the case of performance guarantees and honour their
commitments out of their own resources, as and when needed, in the case of financial

guarantees.
2.5.4

The top management of the banks should bestow their personal attention to the need
to put in place a proper mechanism for making payments in respect of invoked
guarantees promptly, so that no room is given for such complaints. When complaints
are made, particularly by the Government departments for not honouring the
guarantees issued, the top management of the bank, including its Chief Executive
Officer, should personally look into such complaints.

2.5.5

In this regard, the Delhi High Court has made adverse remarks against certain banks
in not promptly honouring the commitment of guarantees when invoked. It has been
observed that a bank guarantee is a contract between the beneficiary and the bank.
When the beneficiary invokes the bank guarantee and a letter invoking the same is
sent in terms of the bank guarantee, it is obligatory on the bank to make payment to
the beneficiary.

2.5.6

The Supreme Court had observed [U.P. Co-operative Federation Private Ltd. versus
Singh Consultants and Engineers Private Ltd. (1988 IC SSC 174)] that the
commitments of the banks must be honoured, free from interference by the courts.
The relevant extract from the judgement of the Supreme Court in a case is as under:
'We are, therefore, of the opinion that the correct position of law is that commitment
of banks must be honoured free from interference by the courts and it is only in
exceptional cases, that is, to say, in case of fraud or any case where irretrievable
injustice would be done if bank guarantee is allowed to be encashed, the court should
interfere'.

2.5.7

In order to avoid such situations, it is absolutely essential for banks to appraise the
proposals for guarantees also with the same diligence, as in the case of fund based
limits, and obtain adequate cover by way of margin so as to prevent the constituents
to develop a tendency of defaulting in payments when invoked guarantees are
honoured by the banks.

2.5.8

i. In the interest of the smooth working of the Bank Guarantee Scheme, it is essential
to ensure that there is no discontentment on the part of the Government departments
regarding its working. Banks are required to ensure that the guarantees issued by

them are honoured without delay and hesitation when they are invoked by the
Government departments in accordance with the terms and conditions of the
guarantee deed, unless there is a Court order restraining the banks.
ii.

Any decision not to honour the obligation under the guarantee invoked may

be taken after careful consideration, at a fairly senior level, and only in the
circumstances where the bank is satisfied that any such payment to the beneficiary
would not be deemed a rightful payment in accordance with the terms and conditions
of the guarantee under the Indian Contract Act.
iii.

The Chief Executive Officers of banks should assume personal responsibility

for such complaints received from Government departments. Sufficient powers


should be delegated to the line functionaries so that delay on account of reference to
higher authorities for payment under the guarantee does not occur.
iv.

Banks should also introduce an appropriate procedure for ensuring immediate

honouring of guarantees, so that there is no delay on the pretext that legal advice or
approval of higher authorities is being obtained.
v.

For any non-payment of guarantee in time, staff accountability should be

fixed and stern disciplinary action including award of major penalty such as
dismissal, should be taken against the delinquent officials at all levels.
vi.

Where banks have executed bank guarantees in favour of Customs and

Central Excise authorities to cover differential duty amounts in connection with


interim orders issued by High Courts, the guarantee amount should be released
immediately when they are invoked on vacation of the stay orders by Courts. Banks
should not hold back the amount on the pretext that it would affect their liquidity
position.
2.5.9

There have also been complaints by Ministry of Finance that some of the departments
such as Department of Revenue, Government of India are finding it difficult to
execute judgements delivered by various Courts in their favour as banks do not
honour their guarantees, unless certified copies of the Court judgements are made
available to them. In this regard, the banks may follow the following procedure:
i.

Where the bank is a party to the proceedings initiated by Government for

enforcement of the bank guarantee and the case is decided in favour of the
Government by the Court, banks should not insist on production of certified copy of
the judgement, as the judgement/ order is pronounced in open Court in presence of
the parties/ their counsels and the judgement is known to the bank.
ii.

In case the bank is not a party to the proceedings, a signed copy of the

minutes of the order certified by the Registrar/ Deputy or Assistant Registrar of the
High Court or the ordinary copy of the judgement/ order of the High Court, duly
attested to be true copy by Government Counsel, should be sufficient for honouring
the obligation under guarantee, unless the guarantor bank decides to file any appeal
against the order of the High Court.
iii.

Banks should honour the guarantees issued by them as and when they are

invoked in accordance with the terms and conditions of the guarantee deeds. In case
of any disputes, such honouring can be done under protest, if necessary, and the
matters of dispute pursued separately.
iv.

The Government, on their part, have advised the various Government

departments, etc. that the invocation of guarantees should be done after careful
consideration at a senior-level that a default has occurred in accordance with the
terms and conditions of the guarantees and as provided in the guarantee deed.
v.

Non-compliance of the instructions in regard to honouring commitments

under invoked guarantees will be viewed by Reserve Bank very seriously and
Reserve Bank will be constrained to take deterrent action against the banks.
2.6 Co-acceptance of bills
2.6.1

General
Reserve Bank has observed that some banks co-accept bills of their customers and
also discount bills co-accepted by other banks in a casual manner. These bills
subsequently turn out to be accommodation bills drawn by groups of sister concerns
on each other where no genuine trade transaction takes place. Banks, while
discounting such bills, appear to ignore this important aspect presumably because of
the co-acceptance given by other banks. The bills, on maturity, are not honoured by
the drawees and the banks which co-accept the bills have to make payment of these

bills, and they find it difficult to recover the amount from the drawers/ drawees of
bills. Banks also discount bills for sizeable amounts, which are co-accepted by certain
Urban Co-operative Banks. On maturity, the bills are not honoured and the cooperative banks, which co-accept the bills, also find it difficult to make the payment.
The financial position and capacity of the co-accepting bank to honour the bills, in
the event of need, is not being gone into. Cases have also been observed where the
particulars regarding co-acceptance of bills are not recorded in the bank's books, with
the result that the extent thereof cannot be verified during inspections, and the Head
Office becomes aware of the co-acceptance only when a claim is received from the
discounting bank.
2.6.2

Safeguards
In the light of the above, banks should keep in view the following safeguards:
i.

While sanctioning co-acceptance limits to their customers, the need therefor

should be ascertained, and such limits should be extended only to those customers
who enjoy other limits with the bank.
ii. Only genuine trade bills should be co-accepted and the banks should ensure that

the goods covered by bills co-accepted are actually received in the stock accounts of
the borrowers.
iii. The valuation of the goods as mentioned in the accompanying invoice should be

verified to see that there is no over-valuation of stocks.


iv. The banks should not extend their co-acceptance to house bills/ accommodation

bills drawn by group concerns on one another.


v. The banks discounting such bills, co-accepted by other banks, should also ensure

that the bills are not accommodation bills and that the co-accepting bank has the
capacity to redeem the obligation in case of need.
vi. Bank-wise limits should be fixed, taking into consideration the size of each bank

for discounting bills co-accepted by other banks, and the relative powers of the
officials of the other banks should be got registered with the discounting banks.
vii. Care should be taken to see that the co-acceptance liability of any bank is not

disproportionate to its known resources position.


viii. A system of obtaining periodical confirmation of the liability of co-accepting

banks in regard to the outstanding bills should be introduced.


ix. Proper records of the bills co-accepted for each customer should be maintained,

so that the commitments for each customer and the total commitments at a branch can
be readily ascertained, and these should be scrutinised by Internal Inspectors and
commented upon in their reports.
x.

It is also desirable for the discounting bank to advise the Head Office/

Controlling Office of the bank, which has co-accepted the bills, whenever such
transactions appear to be disproportionate or large.
xi. Proper periodical returns may be prescribed so that the Branch Managers report

such co-acceptance commitments entered into by them to the Controlling Offices.


xii. Such returns should also reveal the position of bills that have become overdue,

and which the bank had to meet under the co-acceptance obligation. This will enable
the Controlling Offices to monitor such co-acceptances furnished by the branches and
take suitable action in time, in difficult cases.
xiii. Co-acceptances in respect of bills for Rs.10,000/- and above should be signed by

two officials jointly, deviation being allowed only in exceptional cases, e.g. nonavailability of two officials at a branch.
xiv. Before discounting/ purchasing bills co-accepted by other banks for Rs. 2 lakh

and above from a single party, the bank should obtain written confirmation of the
concerned Controlling (Regional/ Divisional/ Zonal) Office of the accepting bank and
a record of the same should be kept.
xv. When the value of the total bills discounted/ purchased (which have been co-

accepted by other banks) exceeds Rs. 20 lakh for a single borrower/ group of
borrowers, prior approval of the Head Office of the co-accepting bank must be
obtained by the discounting bank in writing.
2.6.3 In addition to the above safeguards to be observed by banks in co-accepting

the bills, it must be noted that the banks are precluded from co-accepting bills drawn

under Buyers Line of Credit Schemes introduced by IDBI Bank Ltd. and all India
financial institutions like SIDBI, Power Finance Corporation Ltd. (PFC), etc.
Similarly, banks should not co-accept bills drawn by NBFCs. In addition, banks are
advised not to extend co-acceptance on behalf of their buyers/constituents under
theSIDBI Scheme.

2.6.4

However, banks may co-accept bills drawn under the Sellers Line of Credit Schemes
(since renamed as Direct Discounting Scheme) operated by IDBI Bank Ltd. 15 and all
India financial institutions for Bill Discounting operated by IDBI Bank Ltd. 16 and all
India financial institutions like SIDBI, PFC, etc. without any limit, subject to the
buyers capability to pay, and compliance with the exposure norms prescribed by the
bank for individual/ group borrowers.

2.6.5

There have been instances where branches of banks open L/Cs on behalf of their
constituents and also co-accept the bills drawn under such L/Cs. Legally, if a bank
co-accepts a bill drawn under its own L/C, the bill so co-accepted becomes an
independent document. The special rules applicable to commercial credits do not
apply to such a bill and the bill is exclusively governed by the law relating to Bills of
Exchange, i.e. the Negotiable Instruments Act. The negotiating bank of such a bill is
not under any obligation to check the particulars of the bill with reference to the
terms of the L/C. This practice is, therefore, superfluous and defeats the purpose of
issuing the L/C. The discounting banks should first ascertain from the co-accepting
banks, the reason for such co-acceptance of bills drawn under their own L/C and only
after satisfying themselves of genuineness of such transactions, they may consider
discounting such bills.

2.6.6

It should be ensured that the branch officials strictly adhere to the above referred
instructions at the time of co-acceptance of bills. It would be advisable to determine
clear accountability in this respect and officials found to be not complying with the
instructions must be dealt with sternly.

2.7

Precautions to be taken in the case of Letters of Credit

2.7.1

Banks should not extend any non-fund based facilities or additional/ad-hoc credit

15
16

The scheme which was being operated by the erstwhile IDBI is being continued by IDBI Bank Ltd.
The Scheme which was being operated by the erstwhdg IDBI is being continued by IDBI Bank Ltd.

facilities to parties who are not their regular constituents, nor should they discount
bills drawn under LCs, or otherwise, for beneficiaries who are not their regular
clients. In the case of LCs for import of goods, banks should be very vigilant while
making payment to the overseas suppliers on the basis of shipping documents. They
should exercise precaution and care in comparing the clients. The payments should be
released to the foreign parties only after ensuing that the documents are strictly in
conformity with the terms of the LCs. There have been many irregularities in the
conduct of LC business, such as the LC transactions not being recorded in the books
of the branch by officials issuing them, the amount of LCs being much in excess of
the powers vested in the officials, fraudulent issue of LCs involving a
conspiracy/collusion between the beneficiary and the constituent. In such cases, the
banks should take action against the concerned officials as well as the constituent on
whose behalf the LCs were opened and the beneficiary of LCs, if a criminal
conspiracy is involved.
2.7.2

Settlement of claims under Letters of Credits(LCs)


In case the bills drawn under LCs are not honoured, it would adversely affect the
character of LCs and the relative bills as an accepted means of payment. This could
also affect the credibility of the entire payment mechanism through banks and affect
the image of the banks. Banks should, therefore, honour their commitments under
LCs and make payments promptly.

Model Form of Bank Guarantee Bond


[ paragraph 2.2.7.2]
GUARANTEE BOND
1. In consideration of the President of India (hereinafter called 'the Government') having

agreed to exempt __________________________________ [hereinafter called 'the said


Contractor(s)'] from the demand, under the terms and conditions of an Agreement dated
___________ made between __________________________________________________
and ___________________________________ for ____________ (hereinafter called 'the
said Agreement'), of security deposit for the due fulfilment by the said Contractor(s) of the terms
and conditions contained in the said Agreement, on production of a bank Guarantee
for Rs. ___________ (Rupees ______________________________________ Only) We,
_______________________________________________________________ , (hereinafter
referred (indicate the name of the bank) to as 'the Bank') at the request of
_________________________________________________ [contractor(s)] do hereby
undertake to pay to the Government an amount not exceeding Rs. _____________________
against any loss or damage caused to or suffered or would be caused to or suffered by the
Government by reason of any breach by the said Contractor(s) of any of the terms or conditions
contained in the said Agreement.
2. We _________________________________________________________ (indicate the

name of the bank) do hereby undertake to pay the amounts due and payable under this guarantee
without any demur, merely on a demand from the Government stating that the amount claimed is
due by way of loss or damage caused to or would be caused to or suffered by the Government by
reason of breach by the said contractor(s) of any of the terms or conditions contained in the said
Agreement or by reason of the contractor(s)' failure to perform the said Agreement. Any such
demand made on the bank shall be conclusive as regards the amount due and payable by the Bank
under this guarantee. However, our liability under this guarantee shall be restricted to an amount not
exceeding Rs. _____ .
3. We undertake to pay to the Government any money so demanded notwithstanding any dispute

or disputes raised by the contractor(s)/supplier(s) in any suit or proceeding pending before any
Court or Tribunal relating thereto our liability under this present being absolute and unequivocal.
The payment so made by us under this bond shall be a valid discharge of our liability for payment
thereunder and the contractor(s)/supplier(s) shall have no claim against us for making such
payment.
4.

We ______________________________________________________________

(indicate the name of bank) further agree that the guarantee herein contained shall remain in full
force and effect during the period that would be taken for the performance of the said Agreement
and that it shall continue to be enforceable till all the dues of the Government under or by virtue of
the said Agreement have been fully paid and its claims satisfied or
discharged or till ___________________________________ Office/Department/Ministry
of _______________________________ certifies that the terms and conditions of the said
Agreement have been fully and properly carried out by the said contractor(s) and accordingly
discharges this guarantee. Unless a demand or claim under this guarantee is made on us in writing
on or before the

we shall be discharged from all liability under this guarantee thereafter.

5. We, ________________________________________________ (indicate the name of

bank) further agree with the Government that the Government shall have the fullest liberty without
our consent and without affecting in any manner our obligations hereunder to vary any of the terms
and conditions of the said Agreement or to extend time of performance by the said contractor(s)
from time to time or to postpone for any time or from time to time any of the powers exercisable by
the Government against the said Contractor(s) and to forbear or enforce any of the terms and
conditions relating to the said agreement and we shall not be relieved from our liability by reason of
any such variation, or extension being granted to the said Contractor(s) or for any forbearance, act
or omission on the part of the Government or any indulgence by the Government to the said
Contractor(s) or by any such matter or thing whatsoever which under the law relating to sureties
would, but for this provision, have effect of so relieving us.
6. This guarantee will not be discharged due to the change in the constitution of the Bank or the

Contractor(s)/Supplier(s).
7. We, ________________________________________ (indicate the name of bank) lastly

undertake not to revoke this guarantee during its currency except with the previous consent of the
Government in writing.
8.

Dated the __________________ day of ____________________ ________ for

______________________________ (indicate the name of the Bank).

Annex to A. P. DIR Series Circular No. 24 dated November 1, 2004


[paragraph 2.3.8.3(iv)]

Guarantees / Letter of Undertaking / Letter of Comfort issued / invoked by ADs


As on quarter ended ........................
Name of the AD :

Contact Person:

Address :

Tel:

e-mail:

Fax:

(USD million)
Guarantees / Letter of Undertaking /
Letter of Comfort
Issued
Buyers Credit
Suppliers Credit

On behalf of Residents

Trade Credits (less than 3 years)


a. Up to one year
b. Above one year and less than

three years **
** (Limited to Import of Capital Goods)

1
Signature of the Authorised

Place: ......................

Signatory
Date: ........................

[ Stamp]

NOTE: this has not been modified at all.

NEWSPAPER ARTICLES ON BANK GUARANTEE


The Times of India (TOI)
January 15, 2014 Wednesday

Govt encashes bank guarantee given by AgustaWestland


SECTION: INDIA
LENGTH: 354 words
NEW DELHI: The defence ministry has encashed over Rs 250 crore bank guarantee provided by
AgustaWestland in the cancelled VVIP helicopter deal, and is in the process of mounting legal proceedings
to invoke another bank guarantee in Italy.
Defence ministry officials said the Rs 250 crore bank guarantee was provided through a State Bank of
India branch in the national capital as a guarantee for the 2010 contract worth Rs 3,600 crore for 12 VVIP
helicopters.
Another bank guarantee for the deal was provided in Italy. According to sources, an Italian court has stayed
India's move to encash the bank guarantee in Italy worth around Rs 2,000 crore. A defence ministry official
said the ministry was preparing to mount a legal challenge in Italy against the stay. AgustaWestland has
provided over 270 million euros (around Rs 2,260 crore) as guarantees through banks in India and Italy
while signing the contract.
The defence ministry moved to encash the bank guarantees as part of its steps in the wake of January 1
decision to scrap the controversial deal, in which middlemen were allegedly engaged to pay bribes totaling
51 million euros.
Sources said the defence ministry was working towards claiming more than 650 million euros (about Rs
5,460 crore) from the company in the form of bank guarantees and penalties.
The efforts towards invoking bank guarantee is part of various steps initiated by the ministry in the wake of
its decision to cancel the deal. Even as the CBI is proceeding with its criminal investigations, the ministry is

ensuring that India doesn't end up incurring financial loses. India has already paid up almost 40% of the total
contract amount.
Three of the dozen AW-101 helicopters had been delivered before the contract was frozen after allegations of
kickbacks surfaced in February last year. The three helicopters remain in India, and indications are that the
ministry will not return the choppers.
Meanwhile, the ministry has nominated Justice B P Jeevan Reddy as its nominee for arbitration with
AgustaWestland over the contract cancellation to be held in New Delhi.
For Reprint Rights: timescontent.com

Himalayan Times
April 20, 2015 Monday

Melamchi bank guarantee writ quashed


BYLINE: RAM KUMAR KAMAT/ RAMESH SHRESTHA
KATHMANDU: Patan Court of Appeals today quashed a writ petition filed by Himalayan Bank and Bank
of Kathmandu, seeking an interim order against the payment of Rs 1.5 billion as counter guarantee to
Melamchi Drinking Water Project.
This means if the verdict is upheld by the upper court, the two banks will have to pay Rs 1.5 billion as bank
guarantee to Melamchi project. They have a right to move the Supreme Court against the verdict. Presently,
the counter guarantee amount is with Nepal Rastra Bank.
As a responsibility of counter guarantors representing China Construction Bank - the bank guarantor of the
contractor, China Railway 15 Bureau Group Corporation - the two banks had deposited the money in the
central bank as per the order of the Patan Court of Appeals.
"Going by the bank guarantee rules, if the principal guarantor fails to pay the said amount, it is the liability
of the counter guarantor to pay it," said Min Bahadur Shrestha, Spokesperson for NRB.

In September 2012, the Melamchi project had terminated the contract with the Chinese contractor to dig a
26.3-km tunnel, as the contractor sought more outlay than it had agreed to in its bid document. Performance
bond and advance payment guarantee is issued by the contractors to ensure that the project work is
completed on time or the employer can confiscate the guaranteed amount in case of failure.
After termination of the contract, the Melamchi project asked the Chinese contractor to pay the bank
guarantee. However, the contractor moved a Chinese court, saying Melamchi project did not let it work. The
Chinese court decided in the contractor's favour and pointed out in its verdict that the two Nepali banks did
not need to pay counter guarantee to Melamchi project.
The two banks offered the same argument and refused to pay the counter guarantee. When the case reached
the court, the Melamchi project lawyers argued that the banks needed to pay the counter guarantee to
Melamchi project irrespective of the Chinese court's verdict, according to Advocate Gandhi Pandit. "It was a
very important precedent setting court judgment," said Pandit. Four lawyers, including Pandit and Shikhar
Pandit, pleaded on behalf of the project.
The hearing went on for four-five days. More than 10 senior advocates pleaded on behalf of the two banks.
The verdict was delivered by a joint bench of Judges Bhim Bahadur Bohara and Shivraj Adhikari.
The main argument of the Melamchi project was that domestic laws applied in the case of counter
guarantee. Pandit said the two Nepali banks could not cite Chinese court's decision to refuse to pay the
counter guarantee to the Melamchi project.

Times of India (Electronic Edition)


January 15, 2014 Wednesday
Mumbai Edition

Choppergate: Govt encashes Agusta's bank guarantee


BYLINE: TIMES NEWS NETWORK
SECTION: TIMES NATION

New Delhi: The defence ministry has encashed over Rs 250 crore bank guarantee provided by AgustaW
estland in the cancelled VVIP helicopter deal,and is in the process of mounting legal proceedings to invoke
another bank guarantee in Italy.Defence ministry officials said the Rs 250 crore bank guarantee was
provided through a State Bank of India branch in the national capital as a guarantee for the 2010 contract
worthRs 3,600crorefor 12VVIP helicopters.Another bank guaranteefor the deal was provided in
Italy.According tosources,an Italian courthasstayedI ndia's moveto encash the bank guarantee in Italy worth
around Rs 2,000 crore.A defence ministry official said the ministry was preparing to mount a legal challenge
in Italy against the stay.AgustaW estland has providedover Euro 270 million (around Rs 2,260 crore ) as
guarantees through banks in India and Italy whilesigning thecontract.The defence ministry moved to encash
the bank guarantees as part of its steps in the wake of January 1 decision to scrap the controversial deal,in
which middlemen were allegedly engaged to pay Euro 51 million bribe.Sources said the defence ministry
was working towards claiming more than Euro 650 million (about Rs 5,460 crore ) from the company in the
form of bank guarantees and penalties.The efforts towards invoking bank guarantee is part of steps by the
ministry in the wake of itsdecision tocancelthedeal.

Times of India (Electronic Edition)


September 22, 2011 Thursday
Pune Edition

BCCI can encash bank guarantee


BYLINE: Swati Deshpande TNN
SECTION: TIMES SPORT
Mumbai: The Kochi Tuskers didn't score against the BCCI in court on Wednesday.The Bombay high court
refused to grant any immediate interim relief to the IPL franchise which sought to prevent the Board for
Control of Cricket in India (BCCI) from encashing its bank guarantee of Rs 153 crore.Justice Shiavax
Vazifdar rejected the ad-interim plea of the Kerala franchise.Rendezvous Sports World (RSW) had moved
the court against the invocation of its bank guarantee by BCCI for non payment of a guarantee for the
2011 season.The BCCI terminated the franchise agreement with Kochi on Monday for an "irremedial
breach" of not paying the bank guarantee.But the youngest franchise has yet to challenge its termination
from the league.The RSW had filed for the protection against encashing of its bank guarantee in its

arbitration petition which will now be heard in due course.The termination ended the controversial Kerala
team's association with the Indian Premier League in barely a year.RSW immediately took the fight ahead
and sought to appeal Justice Vazifdar's order before a division bench for a stay.The appeal bench however
said it would hear the matter on Friday,as no documents were produced.Without a stay,BCCI is free to
encash the bank guarantee now.Hence RSW is expected to mention the matter again on Thursday morning
for a stay,for once encashed,its fight would be rendered meaningless.Janak Dwarkadas,counsel for
RSW,argued that it was "a conditional bank guarantee given by the previous franchise that was to secure
the payment for the 2011 IPL season only." He said that since the franchise changed to Kochi Cricket Pvt ltd
last year under a new agreement with BCCI,the RSW's bank guarantee came to an end and was no longer
valid.It was Kochi Cricket's obligation to furnish fresh bank guarantee for the 2012 season,he said.But
according to BCCI since Kochi failed to give such a bank guarantee,the board had a right to invoke the
previous bank guarantee of RSW,especially since shareholders of both were identical,it said.The BCCI
through counsels Rafiq Dada and Raju Subramaniam also said that RSW's bank guarantee was
unconditional,valid and available as both separate agreements with the franchisees would co-exist till Kochi
furnishes its own guarantee.

Times of India (Electronic Edition)


August 31, 2012 Friday
Pune Edition

Govt failed to encash bank guarantees of defaulting firms


BYLINE: Pradeep Thakur TNN
SECTION: TIMES NATION
New Delhi: The coal ministry may not get away with cancellation of coal blocks to private companies that
have failed to start production.Authorities may face action as the Comptroller and Auditor General (CAG)
has decided to take up with Parliament's Public Accounts Committee (PAC) the government's failure to
encash bank guarantees after these firms did not start mining by the deadline.The coal ministry had in
March 2005 introduced the system of bank guarantees to ensure timely production from coal
blocks.However,it failed to encash the bank guarantees from the 56 allottees in question who failed to begin
operations.In some cases,the coal ministry failed to even collect bank guarantees for mines allocated

between July 2008 and June 2010 amounting to Rs 247 crore.This despite the fact that an expert committee
on roadmap for coal sector reforms had recommended encashment of bank guarantees in full in such
cases.The CAG has pointed to total disregard of rules by the coal ministry which even failed to ask these
defaulters to renew the bank guarantees when they lapsed.The auditor found that as of November
2011,amount of lapsed bank guarantees was Rs 312 crore against 15 of these blocks.The expert committee
in December 2005 had recommended that 50% of these bank guarantees should be linked to guaranteed
production and the rest linked to setting up of end-use projects.The coal ministry,however,modified this in
January 2007 and linked 50% of bank guarantees with milestones to be achieved before start of production
and the balance 50% with guaranteed production.The expert committee had also recommended legal
measures to cancel licences if allottees failed to take adequate steps to bring the mines to production or in
setting up of end-use plants.The auditor expressed surprise why no action was taken against these companies
when the coal ministry had cancelled 24 other mines for the same reason.The auditor criticized the ministry
for failing to work out any modalities for encashment of bank guarantees.

Dion Global Solutions Limited


September 6, 2013 Friday

RBI permits banks to issue guarantees for NRI investments


DATELINE: India
India, Sept. 6 -- In yet another step to attract foreign money to the country, the Reserve Bank of India (RBI)
has permitted banks to issue guarantees on behalf of non-resident Indians when acquiring shares in an
Indian company, said media report.
"In order to provide operational flexibility and ease the procedures, it has been decided to permit banks to
issue bank guarantee, without prior approval of the Reserve Bank, on behalf of a non-resident acquiring
shares or convertible debentures of an Indian company through open offers/ delisting/exit offers," the RBI
said in a notification.
Besides, the guarantee provided by a bank should be covered by a counter-guarantee of a bank of
international repute and should also be valid during the tenure of the offer period, it said.

In case of invocation of the guarantee, the bank is required to submit a report on the circumstances leading
to the invocation of the guarantee to the RBI's Foreign Exchange Department.

The Economic Times


April 3, 2013 Wednesday

RBI revises capital norms for bank guarantees


BYLINE: Gayatri Nayak
SECTION: BANKING
MUMBAI: The Reserve Bank has revised capital norms for financial and performance guarantees offered
by banks. The applicable credit conversion factor or CCF for determining the credit equivalent amount with
regard to financial guarantees are revised to 100% of the value of the guarantee. While the CCF applicable
to performance guarantee is fixed at 50% of the value of the guarantee.
In a notification issued to banks, the RBI has indicated that financial guarantees will include guarantees for
credit facilities; guarantees in lieu of repayment of financial securities; guarantees in lieu of margin
requirements of exchanges, credit enhancements.
This norm will also be applicable to guarantees towards revenue dues, taxes, duties, levies etc. in favour of
tax/ customs / port / excise authorities and for disputed liabilities for litigation pending at courts and for
securitisation transactions, among others.
Performance guarantees include transaction-related contingencies that involve an irrevocable undertaking to
pay a third party in the event the counterparty fails to fulfil a contractual non-financial obligation.
For Reprint Rights: timescontent.com

The Financial Express


February 9, 2013 Saturday

SC notice to PNB, others on BCCI plea


BYLINE: Indu Bhan
DATELINE: New Delhi
The Supreme Court on Friday sought explanation from three nationalised banks - Punjab National Bank
(PNB), Indian Bank and Union Bank of India (UBI) - allegedly for failing to collectively deposit around
R400 crore to secure the claim of the Board for Control of Cricket in India (BCCI).
A Bench headed by Justice Aftab Alam issued notices to the banks after BCCI sought a direction to them
to deposit the entire amount under the bank guarantees in the SC with liberty to the cricket body to
withdraw the same.
The bank guarantees worth R1,602 crore were issued by the banks in consideration towards the contract
executed in consideration of the Master Rights Licensing Agreement (MRLA), between BCCI and
Nimbus broadcasting the cricket matches.
BCCI has challenged the Bombay High Court's December order that asked PNB and Indian Bank to
deposit with the court R150 crore (35%) each, while UBI was asked to fork out R100 crore (25%) of their
respective guaranteed amounts.
The HC had also directed that the money so deposited with it will again be redeposited with the same
banks, BCCI said.
The cricket body said that the bank guarantees were unconditional, irrevocable and independent
contracts between it and Nimbus and the same are payable on demand. Besides, the banks' obligations
under the bank guarantees was sacrosanct and they cannot be allowed to renege on their unconditional
obligations.
Nimbus had signed a four-year deal with BCCI valued at R1,602 crore on October 15, 2009 to telecast all
domestic and international matches played by India at home between April 1, 2010 and March 31, 2014.

However, BCCI in December 2011cancelled the domestic broadcasting rights given to Nimbus
Communication after it defaulted on the payment of R63.78 crore towards BCCI, which was part of a sixyear contract.
Nimbus filed an arbitration petition seeking to restrain BCCI from receiving any amount under the bank
guarantees and also restraining the banks from paying any amounts under the bank guarantees.
BCCI had filed a suit against three public sector banks after they refused to encash the guarantees worth
R1,602 crore in 2011. While PNB and UBI sanctioned financial bank guarantee of R750 crore in
January 2010 in favour of BCCI with respect to the media rights agreement of October 2009 after
charging a 1.5% commission and against telecast rights as collateral, Indian Bank had sanctioned a onetime bank guarantee of R500 crore, charging an interest of 1.5% a year. But the latter extracted the first
charge on all fixed assets of Nimbus as security.

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