‘Banks should avoid provisions for performance guarantees’

Sumanta Ray Chaudhuri

Kolkata, Aug 21: THE estimates committee of Parliament, which monitors economic affairs, feels that the public sector commercial banks should confine themselves to making provisions for financial guarantees rather than performance guarantees.

The banks should be very cautious about the minimum performance guarantees that they undertake to cover, the committee feels.

Banks issue financial and performance guarantees on behalf of their clients and such guarantees are structured via agreements made on the basis of security, maturity and purpose.

According to sources closely associated with the functioning of the estimates committee, it is felt that banks should guarantee shorter maturities and leave the longer maturities to financial institutions.
"As a general rule, the any maturity of over 10 years should not be guaranteed by the banks," the committee has observed.

The committee has also advised banks to be careful about providing for unsecured advances and guarantees. It feels that the banks should ensure that the sum of 20 per cent of their outstanding unsecured guarantees and their full unsecured outstanding advances does not exceed 15 per cent of their total outstanding advances.

Banks should steer clear of unsecured guarantees and advances, like guarantees counter-guaranteed by other banks, bid bonds and guarantees executed by banks in respect of contracts secured by Indian firms in foreign countries and export guarantees.

The committee is also of the opinion that the banks should avoid giving unsecured guarantees in large amounts. "They should also avoid making such provision for medium and long term periods," the committee has observed in its report.

The committee feels that banks should avoid overexposure to a particular group, business house or individual.

"The proportion of unsecured guarantees granted to an individual group or business house or individual should not exceed a minimum proportion of the bank’s total outstanding unsecured guarantees.

Before granting financial guarantee, the banks should study carefully if the customer will be able to shell out the entire amount in case the guarantee is invoked.

In case of performance guarantee, the committee has observed that the banks should adopt extreme caution in judging that the customer has adequate experience, capacity and means to fulfil the obligations and will not turn out to be a defaulter.

"Under no circumstance, the PSU banks should offer any kind of guarantee to any customer who does not enjoy credit facility with the banks," the committee noted.