Surety Bonds – Protection Against Failure or Non Performance

Surety bonds have been utilised for decades for government construction contracts and in other public works contexts. During the current economic climate and various government bailouts, you did not hear of such funds being utilised for uncompleted public works projects, that’s because taxpayers are protected against virtually all losses caused by contractor failure through the use of surety bonds.

Surety bonds companies provide the resources necessary to complete contracts in the event of default. Obtained by contractors from surety bond companies, surety bonds transfer the risk of failure or non-performance to the surety bond company.

When a government entity awards a contract to the lowest bidder, it knows that the surety bond company stands behind the contractor’s promise to complete the job according to the owner’s specifications and terms of the contract.

Colm-McGrath-Surety-BondsAs more public agencies have tightening budgets, many have turned to private companies as third party vendors to support contracts for outsourced help as a means to save money. As the work being performed uses public funds such funds are at risk based on the merit of the third party contractor performing the work. Thus, most if not all public agencies have turned to surety bonds as a means of protection to safeguard tax payer money.

With many of the surety providers moving to reduce their exposure or exiting the Irish market altogether and the reluctance of banks to provide bonds for contractors at just the time when twitchy employers are asking for the added security that a bond provides, such bonds are difficult to obtain.

Capacity still an issue? 

There are some major external economic factors at play. The sector has contracted, balance sheets have followed suit affecting credit rating, Irish companies are feeling the pressure. Ireland Inc. has had a negative international image which has resulted in reduced ability of surety providers to lay off a portion of their risk onto the international reinsurance market. For many of those contractors left standing, the size of their requirement or their company is too small for the London markets. 

Bonding Capacity – A key business strategy?

Most business owners would not know that every company in Ireland is listed on at least 10 credit rating agencies and 8 credit insurer databases. A company’s credit rating is their businesses’ most important calling card. If they do not meet sureties’ criteria, the meeting is over before it has even started. It is now time for contractors to stop seeing bonds as a commodity insurance product and realise it is a strategic financial product which is built on relationships, and when successful, has many advantages. Contractors who can obtain bonds have an immediate competitive advantage over other contractors.

What should contractors do?

Firstly they must understand that if they are going to be assessed on an in-depth basis including their credit score, financials, experience, banking relationships etc , to be successful they will prepare for this examination. Take steps to do the following:

• Have your audited accounts completed early do not wait until September/October

• Keep up to date management accounts

• Improve your balance sheet, keep liquidity in the business

• Increase your share capital – may seem like a small thing to do but shows your vested interest

• Purchase credit insurance, you need to know you can get paid

• Engage with credit rating agencies to try to improve your score. 

• Building relationships with surety providers, credit insurers and credit rating agencies must be seen as a priority and part of the overall businesses strategy

Once the above has been achieved it will be easier for contractors to maximise relationships with their clients and providers.

Bond market will open up

Although some of the larger surety providers have reduced their capacity we have seen new entrants to the market who are taking a more innovative approach in their risk assessment, they will not be the provider of last resort, or be there to provide solutions for overly distressed balance sheets but they will be a solution to companies who have or are in the process of tidying up their balance sheets. The days of 1%-3% rates are also gone, new entrants are going to look for an increased rate for taking on risk. Contractors who want to be ahead of the game should embrace the requirements of sureties, it will reap rewards in the medium to long term.

Colm McGrath, Managing Director, Surety Bonds. An independent bonding intermediary. 

Surety Bonds, Insurance House, Main Street, Carrick on Shannon, Co. Leitrim.

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