Standby Letter of Credit (SBLC)

An SBLC is a secondary payment guarantee — it only pays if the primary obligor (the applicant) fails to perform. This distinguishes it from a commercial letter of credit (used for primary payment in trade transactions). The SBLC says: 'If my client doesn't pay/perform, the bank will.' The beneficiary presents documentation of non-performance to trigger the bank's payment obligation.

SBLCs are issued by banks and secured similarly to a loan — the applicant typically provides cash collateral, a pledge of other assets, or an unsecured credit facility backing the SBLC. The bank charges an annual fee (typically 1–3% of the face amount, sometimes lower for well-secured or investment-grade applicants). The SBLC itself does not represent drawn cash — it is contingent liability that becomes actual liability only upon a draw.

Common SBLC uses: (1) International trade — seller in one country requires payment assurance from foreign buyer's bank. (2) Construction performance — owner requires SBLC from contractor guaranteeing project completion (alternatively, a performance bond from a surety). (3) Lease security — landlord requires SBLC instead of cash security deposit, allowing tenant to keep cash deployed in operations. (4) Government contract performance. (5) Credit enhancement — borrower provides SBLC to a lender as additional credit support.

For SMBs, obtaining an SBLC requires sufficient bank credit availability. Banks typically count SBLCs against the borrower's credit facility (a $1M SBLC reduces available revolving credit by $1M). The annual fee is a real cash cost — model it as a financing cost when evaluating whether SBLC-based credit enhancement is cost-effective.