Guarantees: hedging instruments for your credits

Taking into account a set of parameters, a lender may or may not require guarantees from the entrepreneur, their company or third parties, to cover the risk generated by the granting of credit.

Why require guarantees ?

Each loan granted by a lender represents a greater or lesser risk of non-repayment. If the debtor is no longer able to meet their commitments, it is more than likely that the lender will not recover all of the funds loaned.

It is to protect themselves against this risk that banks and other credit providers want to ensure sufficient guarantees prior to granting credit. In the event of a major problem, the use of the guarantees provided should ensure a higher level of recovery of the funds loaned.

Points of attention of each party

THE credit provider MUST, ACCORDING TO EXTERNAL AND ITS OWN CRITERIA, DETERMINE:

• the level of potential risk in a transaction
• the available guarantees and their value
• the costs of setting up the guarantees
• the degree of acceptable risk
• the quality and strategic importance of the customer relationship
• the desired return on the loaned funds.

Concerning the first point, namely the risk of the transaction, this is of course the result of different risk factors linked to the activity, sector and financial structure of the company, the profile of the entrepreneur, the financed project, etc.

The desired return on the loaned funds, the quality of the customer relationship and the degree of acceptable risk will be linked to both the lender's internal parameters and the risk parameters of the transaction.

As for the cost aspect of setting up guarantees, it may seem surprising at first, but in some cases the creditor will prefer not to have a guarantee, especially if he believes sufficiently in the project and/or considers that the costs of setting it up are disproportionate to the benefit obtained.  In these cases, credit is based on reputation (without guarantee).

However, for the majority of SMEs, their financial structures and repayment capacities will not be sufficient to meet the requirements of the banks. They will therefore require some form of additional guarantee.

ENTREPRENEURS MUST TAKE INTO ACCOUNT CERTAIN aspects BEFORE AGREEING TO PROVIDE GUARANTEES :

• some guarantees cover only a limited part of the company's assets, while others are much broader and yet others involve assets outside the company
• some guarantees may be limited in time, amount or credit cover:
• the cost of establishing the various guarantees can vary greatly and can be very high
• granting private guarantees to cover professional risks is strongly discouraged, especially if they are real guarantees such as movables or real estate
• the nature of the chosen guarantees is very important for the company because parts of the assets are no longer freely available following the establishment of certain guarantees; this binds the company, sometimes in the very long term, with the guarantee beneficiary.

It is therefore the entrepreneur's responsibility to find a compromise with their financial institution so that the latter's requirements in terms of guarantees are met while maintaining sufficient leeway.