Claudia requires her suppliers to provide letters of guarantee. What does this mean?

• A. Suppliers are required to deliver goods before receiving any payment.
• B. Suppliers must provide a written commitment from a third party (usually a bank) ensuring payment or performance if the supplier fails to meet contractual obligations.
• C. Suppliers must offer a discount on all future purchases as a form of guarantee.
• D. Suppliers must provide a verbal assurance that they will deliver goods on time.

Answer: (B)

Verified step by step guidance

1. Step 1: Understand the concept of a 'letter of guarantee' in financial accounting. A letter of guarantee is a formal document issued by a third party, typically a bank, that assures payment or performance if the supplier fails to meet their contractual obligations.
2. Step 2: Analyze the options provided in the problem. The correct answer should align with the definition of a letter of guarantee, which involves a written commitment from a third party.
3. Step 3: Eliminate incorrect options. For example, requiring suppliers to deliver goods before payment, offering discounts, or providing verbal assurances do not align with the formal nature of a letter of guarantee.
4. Step 4: Identify the correct option, which states that suppliers must provide a written commitment from a third party (usually a bank) ensuring payment or performance if the supplier fails to meet contractual obligations.
5. Step 5: Reflect on the importance of letters of guarantee in financial accounting. They serve as a risk management tool, providing assurance to buyers that suppliers will fulfill their obligations or that compensation will be provided in case of failure.