SBLC

A demand guarantee is a guarantee that must be honoured by the guarantor upon beneficiary's demand. The beneficiary is not required to first make a claim or take any action against the obligor of the guaranteed obligation that the guarantee supports. A demand guarantee is enforceable notwithstanding any deficiencies in the enforceability of the underlying obligation.

Traditionally, an English law guarantee is a secondary, obligation: It is a promise to pay (or perform) the obligations of a distinct obligor should the obligor itself fail to perform. Therefore:

. Thus if the contract giving rise to the underlying obligation is void, the guarantor may also avoid its obligations under the guarantee. Additionally, an Obligor's underling obligations may be altered by the operation of insolvency laws.

Major differences distinguish letters of credit from "demand guarantees"; in the latter instrument the obligation to pay is conditioned within the terms of the bank’s promise, therefore if the demand guarantee is payable upon the beneficiary’s written first demand he is assured payment notwithstanding any defence related to any other underlying transactions. Proof of default is not needed and issuers are not concerned with the underlying contract nor can they raise any defence available to the underlying contracting party.

In the United States and Canada, demand guarantees are seldom issued with most money center banks preferring to issue a standby letter of credit instead, primarily due to the banks familiarity with the undertaking. English courts give standby credits the same legal status that is given to demand guarantees. In the pecking order of seniority this, for the most part is true. In cases of a bank becoming insolvent all credit undertakings are deemed to be on par with the common shares of the bank. See Bank of International Settlements Basel II and Basel III accords.

However, fundamental differences exist between the nature of Demand Guarantees and SBLCs. For example, SBLCs are issued as a contingent liability of the issuing banks and are issued in conjunction with a primary means of underwriting being considered. In effect SBLC's are as they sound.. there in a "Stand-by" position to a primary means of repayment. Demand Guarantees can be issued to be the primary means for repayment. In which case they are not necessarily contingent in nature. Because of the contingent and secondary means of collateral nature of the SBLC, it would be considered counter-intuitive for a bank to underwrite a loan or facility strictly on the basis of receiving an SBLC. A bank lending against an SBLC alone in such a manner would in effect be purposefully underwriting a loan with the expectation that there was to be a default... Which is not something your typical bank regulators would approve.

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Wikipedia