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Standby Letters of Credit:
The Private Primary Market
Source: Hawthorne-Sterling &
Designed to provide much of the information
required for conducting a due diligence investigation.
Lender/Investors are skeptical of opportunities
that offer above-market returns. If significant capital is required, little
information is readily available with which to conduct a due diligence
investigation, there is little motivation for committing funds.
A letter from the Securities and Exchange
Commission, (S.E.C) stating that letters of credit are exempt from
registration under the Securities Act of 1933.
An opinion from the U.S Supreme Court
stating that letters of credit, when acquired for cash, are the equivalent
of a deposit liability.
A legal historical example of a clean
standby letter of credit, the text of which is clean of any requirements
of documentation of nonperformance or default for the beneficiary
to obtain payment.
A discussion of the role of the International
Chamber of Commerce in encouraging more equitable practices in the
area of standby letters of credit.
A discussion of case law and legal
writing showing that pertaining law has developed away from domestic
concepts and structures, and that it is a fallacy to think in terms
of a comprehensive body of domestic law on LOC and especially in terms
of diversity of national laws.
A discussion of transmission, authenticity
and the operative instrument; how it is determined when a transmission
is authentic and legal.
The issuance of standby LOC involves
the separation of many of the services associated with lending, such
as credit risk evaluation and underwriting, from funding.
Banks argue that they are in the risk
management business - whether on or off the balance sheet.
An important difference between a
standby LOC and conventional financing with uninsured depositors is
that a standby LOC beneficiary retains the loan in the event of bank
failure as opposed to having to stand in line with the FDIC and other
creditors to recover the remaining assets of the bank.
The greatest motivation for off-balance
sheet banking is the opportunity cost of funding assets with reservable
deposits without a binding capital constraint.
In issuing an off-balance sheet instrument,
the bank acts as a third party in a commercial transaction, substituting
the bank's credit worthiness for that of its customer to facilitate
exchange while sharing some of its risk with the lender/investor.
In effect, banks are willing to rent
their credit standing or borrow credit analysis to lender/investors
by guaranteeing the payment of principal and interest-which may be
of value to a bank customer who is not well known or established.
This enables a bank to receive an underwriting fee that can bolster
current profits without tieing up capital.
A bank may not be asked to issue a
guarantee unless it is perceived by the market to be strong.
How a standby LOC is similar to an
uninsured deposit and subordinated note in that it's value varies
inversely with the credit risk of the bank.
The incentive to the lender/investor?
The return on this arrangement is likely to be greater than that of
a deposit while still maintaining insurance against loss.
The types of entities who acquire
A discussion of repurchase programs
and credit-enhanced loan transactions.
EVERY STATEMENT IN THESE REFERENCES EITHER
A LEGAL PRECEDENT, REPORT OR LETTER ISSUED BY A GOVERNMENT AGENCY, TRADE
PUBLICATION OR KNOWN ENTITY IN BANKING AND FINANCE.
endorsement of the UNCITRAL Convention on Independent Guarantees and Stand-by
Letters of Credit
The mechanics of prime bank SLCS
Letters of Credit (LC, ILC & Pay Order)
Stand By Letters of Credit (SBLC's)