What Is a Letter of Comfort?

A letter of comfort is a written document that provides a level of assurance that an obligation will ultimately be met. In its traditional context, a letter of comfort is given to organizations or persons of interest by external auditors regarding statutory audits, statements, and reports used in a prospectus. The letter of comfort will be attached to the preliminary statements as assurance that it will not be materially different from the final version.

Understanding the Uses for a Letter of Comfort

In practical uses, letters of comfort are often issued by auditors to lenders as solvency opinions on whether a borrower can meet the payment obligations of a loan. They are opinions, not guarantees, that the underlying company will remain solvent.

Letters of comfort can also be issued to underwriters as an obligation to carry out "reasonable investigation" into offerings of securities. These letters of comfort will ensure that the reports conform to generally accepted accounting principles (GAAP). This helps the underwriter better understand aspects of the financial data that might not otherwise be reported, such as changes to financial statements and unaudited financial reports.

Yet another broad category of letter of comfort application is parent company to subsidiary, whereby a parent company can, for example, issue a letter of comfort (also known as a keepwell agreement) on behalf of a subsidiary that needs to borrow from a bank in its locale, or provide a letter to a supplier of a subsidiary that wishes to transact a large purchase order of raw materials.

Special Considerations

A letter of comfort is typically couched in vague wording, in order to prevent the issuer from being saddled with a legally enforceable obligation.

A letter of comfort creates a moral obligation for the issuer rather than a legal one.

Companies generally do not furnish letters of comfort unless absolutely necessary. This is because in the worst-case scenario, where the subsidiary is unable to repay the debt, the parent company may either be on the hook for the full amount if the letter of comfort was poorly worded, or may have to incur expensive legal fees to prove that its letter of comfort was not a tacit guarantee of its subsidiary's payment obligation.

Key Takeaways

  • A letter of comfort is a written document that provides a level of assurance that an obligation will ultimately be met.
  • A letter of comfort is typically couched in vague wording, in order to prevent the issuer from being saddled with a legally enforceable obligation.
  • A letter of comfort creates a moral obligation, rather than a legal one.