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A guarantee is an assurance, by one party, of the fulfillment of a contract entered into by a second party. This can exist whether the contract is for physical goods or intangible services received by that second party. A guarantee company is typically a business that promises to secure, or protect the value of, transactions offered by another company that does not make a profit. The members of the guarantee company act as guarantors for the business, and contribute a nominal fee towards securing it.
Guarantee companies are used commonly in the United Kingdom (UK) for non-profit organizations that necessitate legal personality. They are also favored by sports clubs, membership unions, workers co-operatives, and other social organizations. In that part of the world, a guarantee company must include the word limited in its title, and cannot distribute profits to its members. They also cannot divide undertakings into shares and distribute them to members. Such an activity would be considered share capital and violates the provisions for guarantee companies established in the UK Companies Act of 2006.
Multiple types of guarantees exist, within the business world, that protect individuals and companies from financial downfall should a business transaction fail. These guarantees may be divided into two categories — guarantees that protect buyers and sellers, or guarantees that protect lenders and borrowers. Both serve to secure any claims lodged by one party against another for a variety of reasons related to a business transaction between them.
Guarantees that protect buyers and sellers include: bid bonds, advance payment guarantees, performance bonds, guarantee for warranty obligations, payment guarantees, and indemnity for a missing bill of lading. Bid bonds are typically used in international exporting and are used to protect the value of a product or contract. Advance payment guarantees are generally used in both international exporting and domestic trade to guarantee delivery of service or product to a buyer who has paid for the goods in advance of shipment. A performance bond, used nationally and internationally, secures any claims made by the buyer against the seller for lack of delivery of goods or services.
Warranty obligations protect against defects in the goods or services being traded. A payment guarantee typically protects the seller, should the buyer choose not to pay for goods and services. An indemnity for a missing bill of lading is used to protect sellers and shippers when goods are being transported and the bill of lading, the list of items in the shipment, does not arrive with the shipment itself.
Guarantees that protect lenders and borrowers usually center on securing a credit line. A guarantee to do this protects credit lenders, in case a borrower is unable to repay a debt. This type typically insures the amount of the loan as well as a small margin to account for interest on the original loan.
In China, the purpose of a guaranty company more closely resembles the creditor-borrower type. The China Banking Regulatory Commission created the Tentative Measures for the Administration of Financial Guarantee Companies to regulate these types of companies. The Tentative Measures describes a guarantee company as one that seeks to financially secure loans and other types of monetary financing provided by economic institutions, such as banks, to their customers. Unlike UK businesses, Chinese guarantee companies may have shareholders who are typically required to make regular monetary investments into the company, and may receive profits from it.