Setting Credit Limits: The Dart Board or the Ouija Board – Michael Dennis, CBF

Ouija Board

A good friend of mine recently called to discuss a credit limit for a new account.  The scenario involved a partnership that had been dissolved.  One partner bought out the other, and the now unemployed partner decided to start a competitor company, and he applied to most of his prior company’s creditors for open account terms.  He offered to provide an opening Balance Sheet on his new company as well as a personal guarantee.

My friend told me the Balance Sheet showed that the owner had invested enough to pay operating expenses for a couple of months.  She told me that a $1 million credit limit had been requested, and that she was trying to decide how much to rely on the personal guarantee being offered.

I responded that personal guarantees have numerous weaknesses.  One is that this guarantee relies on the financial strength of the guarantor.  Without a personal financial statement, it is impossible to know whether that guarantee is worth the paper it is printed on.  Another significant risk is that there is no way of knowing how many guarantees have been signed or will be signed, and every personal guarantee signed reduces the chances that the guarantee my friend was offered would be an effective collection tool. I added that I thought it was exceptionally unlikely that this guarantee was the first and only personal guarantee that would be signed. I encouraged her to:

  1. Ask her attorney about the enforceability of a personal guarantee in a Community Property state, and
  2. Arrange for her attorney to draft the guarantee and review any proposed modifications to that guarantee made by the applicant

Personal guarantees are nice to have because they can sometimes be used as leverage to encourage debtors to retire past due balances, but I would be extremely reluctant to base a $1 million decision primarily on any personal guarantee.

Michael Dennis, MBA, CBF, LCM

What do you think?  Does anyone out there feel strongly that PGs are the way to go when dealing with a sub-standard credit risk?

Michael Dennis’ Covering Credit Commentary. Michael’s website is

The opinions presented are those of the author.  The opinions and recommendations do not necessarily reflect the views of CMA, or their Officers and Directors.  Readers are encouraged to evaluate any suggestions or recommendations made, and accept and adopt only those concepts that make sense to them.

7 Replies to “Setting Credit Limits: The Dart Board or the Ouija Board – Michael Dennis, CBF”

  1. Thanks for forwarding this Michael. If I recall correctly, we ended up in litigation over the enforeability of the guarantee – and that was after the debtor denied it was his signature.

    So, you probably could have added that other risks include (1) the guarantor will file bankruptcy, or (2) that you will have to litigate to collect, or in our case (3) that the debtor will deny ever having signed the guarantee.

    Best regards


    1. We actually had someone claim that the pg was forged. It’s amazing that when you get right down to it the pg really doesn’t do much good.

  2. If the business is a sole proprietor a personal guarantee is no good since the owner is liable anyhow. When we take a PG it accompanies a fully completed credit application with the required verbiage to allow us to secure a credit report on the owner. Check out the property owned against county records to get value. Zillow is good at showing home values and you get an idea of the equity the owner may have. Also and this is great, just type in the full address in web search, you will be surprised how much information will come back. Sometimes the first thing you see is “short sale” is a bell ringing in your head yet?

    I do like PG’s and if you feel you might have an enforcement problem later, have it notarized.

  3. I have been with this company for 17 years, and we have never used personal guarantees. None of the customers wanted to disclose the necessary information, and I’m too cynical to trust most of the companies that ask for them.
    Thanks for the review.

    Best Regards,
    Wanda Burns

  4. On the flip side, I had a very interesting situation where a long time corporate customer (who had provided his PG at the outset of our relationship)…fast forward after 10 years of regular sales purchased and paid as agreed with a volume of $100k to $500k on any given month. That same Guarantor wakes up one day and decides he’s done with the business-shuts his doors and thinks he can walk away shielded by the corporate entity. When I called him to remind him he owed my company an obligation he basically told me to “pound sand”. 1 week later, after petitioning for and being granted an emergency writ of attachment against his personal assets he was back on the phone BEGGING me to accept payment…Which of course I was happy to do, including the costs and fees to collect as spelled out in our application for credit and an emergency writ is not a cheap endeavor! (I’m sure that bitter pill burned twice going down!)
    At the end of the day, my employer was made whole and I looked like a ROCK-STAR =). Like anything else, the tools at our disposal are often a psychological advantage. Would I bank a million bucks without doing due diligence against a PG..NEVER, but it’s a nice tool to have as an ordinary course of business!

  5. Thank you Deb. That was a great outcome and a great story to illustrate the fact that sometimes PGs do what they are intended to do…. they give you leverage you would not otherwise have to pry loose payments from deadbeat debtors.

    I am sure everyone appreciates you sharing this information.

    Michael Dennis

  6. Thank you Margaret. I agree with you and the others who have suggested that PGs may or may not be enforceable… and that there are lots of things that go wrong when you try to get money against a PG.

    That said, I still think that Deb is 100% right. In the ordinary course of business, there is no down side to requesting PGs and a potentially significant upside if the debtor company goes south.


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