The outstanding results of the surety industry over the last 10 years are beginning to make some buyers question the value of surety bonds. However, there are dynamics going on in the construction industry and commercial markets that indicate the need is greater than ever for their use.
For decades, the construction industry did not see the pace of change and productivity gains other industries generated, but this is no longer the case. From Public Private Partnerships (PPP) to alternative delivery methods, including Integrated Project Delivery (IDP), the construction industry is changing rapidly, and projects have become more complex and difficult to build, pushing the construction industry to adapt. But like any industry experiencing increased change, some firms are quicker to adjust than others.
According to the 2016 AGC/FMI Risk Survey, conducted by the Associated General Contractors of America (AGC) in collaboration with consulting firm FMI, the risk for subcontractor default now ranks as one of the top three risks within the construction industry along with skilled craft labor shortages and onerous contract language.
A key product for an owner looking to transfer performance or payment guarantee risk is a surety bond. By purchasing a surety bond, owners seek to ensure their projects reach completion within the terms of the contract. Additionally, sureties conduct an in-depth review of their clients, giving owners an increased level of assurance that they are doing business with contractors that can get the job done.
The good news for owners is that the surety industry has recognized the changing construction risk landscape and has responded. The teams of surety experts that brokers and companies have built over the last few years have gotten larger and more sophisticated and generally have a deep knowledge and understanding of today’s construction risks. Construction owners are able to tap into this knowledge to help mitigate the performance and payment risks on their projects.
Surety still a buyer’s market
From a pricing perspective, the overall surety marketplace remains a buyers’ market, driven by a few key factors. First, the gross written premium for the surety industry declined from 2007 to 2012 paralleling the downturn in construction. At the same time, loss ratios remained on average during this period below 25 percent for the industry, making it a very profitable line of business for insurers. So insurers were looking to increase gross written premium in a declining market. And finally, new surety companies have continued to enter the market. Therefore, the amount of capital dedicated to the surety line has increased significantly faster than the revenue growth of the surety market.
Even though the surety market may be soft, however, it doesn’t mean surety bonds no longer provide value. To the contrary, surety bonds are more important than ever in helping to bring projects to completion.
While new construction delivery methods and performance guarantees will continue to test the surety industry, those members of the surety community that find thoughtful solutions that help clients become more successful will maintain their relevance, and, of course, those that don’t, risk becoming irrelevant. It is an exciting time to be a part of a dynamic business.