We can now accept a simple/streamlined Commercial Promissory Note per bank “aval” as an alternative to a Bank Guarantee / Standby Letter of Credit (BG/SBLC) or Sovereign Guarantee (SG).
In brief …
An Avalized Promissory Note (APN) is similar in most respects to the BG/SBLC mentioned above. Main difference: while a BG/SBLC comes from an issuing bank, the APN is company-issued then stamped or signed by a top-rated bank (avalized), which if properly understood could solve any number of challenges with BG/SBLCs.
Why this matters?
SGs have become less common (only a few countries still issue them), and we hear reports from clients that BG/SBLCs are sometimes impractical, such as when the bank expects unreasonable collateral or initiation fees, which usually happens when they confuse a URDG-based Standby LC with a documentary LC commonly used for trade finance transactions or due to other challenges.
When seeking 100% financing, CGP funding still brings sharp advantages not available without a guarantee of some sort, even if leveraged, so this new instrument may be the answer, especially if you have been bumping into the aforementioned limitations. If you have not already asked your bank or a potential sponsor (such as a well-established EPC firm or General Contractor, hired to build the project) about the more conventional BG/SBLC approach, do that first. Ask your bank or have a sponsor ask theirs if they can provide the qualifying BG/SBLC using our recommended verbiage.
Definitions — terminology demystified
- Commercial Promissory Notes are highly versatile legal/financial instruments, normally used for private debt obligations, but used here per the conditions of well-established Uniform Rules of Demand Guarantees (URDG ICC 758) with advantages over BG/SG of simplicity and a neutral or positive market reputation. Promissory notes fit somewhere between “the informality of an IOU and the rigidity of a loan contract.”
- What’s a Bank Aval? It is effectively a bank’s stamp or seal that is added to a debt obligation. In this case, a Commercial Promissory serves as a contingent debt obligation that the bank’s customer issues to a third party (the Beneficiary, In3 Capital Partners, a private lender) to satisfy the requirements of our partner’s bank(s) per the issuer’s loan agreement with the Beneficiary. The purpose remains the same as a BG/SBLC — in order to ensure that projects get completed. Bank Avals are more widely used in Europe and Asia than the US.
- What does an Aval mean to the bank? For project finance transactions, when a bank adds an Aval, it may initially assume it is acting as a cosigner with the company and taking on their contingent obligation. That would be more the case with a Trade Finance Aval where there’s a seller and buyer, and the APN effectively pays the seller at the completion of the transaction. In this case, however, with URDG 758 as the specified legal venue, the APN is released once the project reaches commercial operation date (COD). There is no trade transaction, no buyer, no seller, … so the bank is not playing a role that is similar to a trade finance cosigner at all . Thus, bank officers that presume the commercial Promissory Note (PN) is for trade finance are unlikely to agree to an Aval because here the PN is actually being used for Project Finance completion surety, not trade.
Some bankers can’t wrap their head around this distinction at first because they are so familiar with commodity Trade Transactions with their underlying Documentary LCs or PNs. It may be hard for them to “unlearn” that more familiar experience so they can let in how this PN is different, and how the release of the PN’s value upon maturity means they’re not cosigning for the money. Their Aval (the bank’s stamp on the PN) states that the issuer is a valid corporation, in good standing. It’s a stamp or certification that says “We know who these people are and we will vouch for their legitimacy and creditworthiness.” The bank is thus providing a backstop for the PN, issued by the company. Of course, the issuing company will also be the recipients of the associated project funding, so assuming they are non-fraudulent, those assets are built to back the PN during construction. The instrument’s callable value under URDG 758 is limited to the amount of funding transferred against it. With monthly draws and tangible assets being built, there’s inherent economic value in the overall undertaking, with business logic to prevent any frivolous actions by us. This is why an APN arrangement tends to work out well for all parties. - What does it mean for a bank to “avalize” a document?
- Unlike a BG/SBLC, a Commercial Promissory Note with a bank’s aval comes from a company, not from a bank, where the bank’s fiduciary responsibility is probably more limited. A “cosigner” at most.
- Like BG/SBLCs, the APN stands on its own, and does not directly refer to the commercial agreements (Loan Agreement or Share Purchase Agreement with our capital partners, or any agreement with a sponsor), though it does reflect such agreement(s). It conforms with well-proven URDG (ICC pub. no. 758, 2010 edition), where the APN hardcopy is sent (no SWIFT needed) to reach financial closing, and is identical to a BG/SBLC in most other respects.
- In all of these cases, the ability to avalize a PN comes in handy for additional security purposes. This is particularly the case when dealing with large sums of money (the reason BGs and SGs have attracted so much fraud) that multiple stakeholders rely on, typical of all mid-market project finance, providing an “external bridge of support” that can “bolster the deal” .
What remains the same?
An Avalized Promissory Note (APN) still serves as completion surety for projects financed through our family office partners, issued with a maturity date or expiration date, for the same amount as the BG/SBLC, under the same basic terms and conditions. Then what’s the real difference or advantage over the BG/SBLC? It may be easier to obtain from a top-rated bank, cost much less and/or not require underlying collateral at all.