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Everything you ever wanted to know about surety bonds . WCOE, USA Annual Congressional and Leadership Conference February 4, 2012 Mark McCallum, National Association of Surety Bond Producers (NASBP), CEO

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everything you ever wanted to know about surety bonds

Everything you ever wanted to know about surety bonds

WCOE, USA Annual Congressional and Leadership Conference

February 4, 2012

Mark McCallum, National Association of Surety Bond Producers (NASBP), CEO

Susan Hecker, NASBP Board Director and Area Executive Vice President of Gallagher Construction Services

national association of surety bond producers nasbp
National Association of Surety Bond Producers (NASBP)
  • NASBP serves insurance agencies employing bond producers
  • NASBP membership includes about 500 companies
  • NASBP producers engage in construction contract surety production throughout the US, Puerto Rico, Guam, and a number of other countries
surety bonds what are they and what do they do
Surety Bonds - What are they? And what do they do?

A performance bond is a three-party contract that guarantees to the Owner that the Contractor will perform in accordance with the contract documents, including the plans and specifications

Owner -- Obligee

Contractor -- Obligor

Surety -- Secondary Obligor

surety bonds what are they and what do they do cont d
Surety Bonds - What are they? And what do they do? (Cont’d)
  • Admitted Insurance Companies are the main issuers of surety bonds, but bonds and traditional insurance policies are not the same
  • Traditional two-party insurance presumes the possibility of a loss, insuring against unknown or fortuitous events:

Insured

Insurer

  • A performance bond is a three-party instrument - presumes no loss
  • because the bond is provided to those entities determined by the
  • surety to be capable and qualified to perform the contract obligation
  • Performance bonds - prequalification of the contractor and financial
  • protection of the owner
surety bonds what do they do zero loss goal
Surety Bonds - What do they do? Zero-Loss Goal
  • Surety companies expect zero loss – rigorous underwriting and general indemnity agreement from the contractor -- corporate and individual indemnity
  • Performance bonds are underwritten for a specific entity, not for the project or for all the project stakeholders
  • Surety company analyzes the contractor’s specific obligation (including contract terms), financial status, work program, and experience, among other factors
  • Performance bonds address one party’s responsibilities —they do not address the project goals
surety bonds myth v reality
Surety Bonds: Myth v. Reality
  • A performance bond on a construction contract does not guarantee completion of the project
  • A performance bond is not a default recovery mechanism for failure of the project to achieve a sustainability goal
  • A performance bond surety is not the insurer of the project
surety underwriting concerns what makes sureties anxious
Surety Underwriting Concerns –What Makes Sureties Anxious
  • Contractual shifting of risks to party not in best position to control the risk
  • Potential guarantee of a sustainable objective that is the collective responsibility of multiple parties, including those outside the bonded relationship
  • Tying contractor payments to achievement of third-party certification
  • Consequential damages

(failure to achieve third-party certification, energy savings)

  • Lengthened warranty period
  • Poor operations/maintenance

causing lack of compliance

surety in the early 1990s
Surety in the Early 1990s
  • Strong economy
  • Excess capacity in surety market
  • Low premiums
  • Relaxed underwriting
  • Commercial surety expansion
surety in the early 2000s
Surety in the Early 2000s
  • Sagging economy
  • Significant commercial losses
  • Heavy contract surety losses
  • Increased failure rates
contract surety premiums losses
Contract Surety Premiums & Losses

Source: The Surety & Fidelity Association of America “Twelve-Year Experience Summaries (1999-2010) Surety Countrywide (Preliminary)”

present market beyond
Present Market & Beyond
  • Increased risk for owners, contractors & sureties caused by current economy
  • Continued disciplined underwriting, exposure management & project analysis
  • Stabilized capacity & restored profitability
present market beyond14
Present Market & Beyond
  • Optimism about surety capacity & demand
  • Surety available for contractors at all levels
  • Marginal contractors will have difficulty obtaining bonding
  • More competition, fewer projects
  • Tightened operations for contractors
  • Increase in contractor failures
slide20

RT

FC

No Surprises!

surety industry issues
Surety Industry Issues
  • Bond Threshold Increases
  • Bond Waivers
  • Public/Private Partnerships
  • Alternative Project Delivery
  • Individual Surety
  • Bond Verification
slide25

Bond Threshold Increases

  • Introduced often as an alleged “aid” to small and minority business or a cost-savings measure
  • State bond thresholds vary in amount; most are equal to or less than $100,000
  • Most bill sponsors do not understand how increasing the bond threshold impacts downstream parties – subcontractors, suppliers
slide26

Bond Waivers

  • Bond waiver legislation typically arises in two contexts:
    • Belief that bonding is an obstacle to small or minority contractor participation
    • Belief that bonding capacity does not exist for larger projects
  • Bond waiver legislation may:
    • Vest procuring officials with discretion to require performance and payment bonds, or
    • Exempt small or minority contractors from having to furnish payment and performance bonds
slide27

Public/Private Partnerships

  • Legislature introduces measure to authorize private developer to construct project
  • Sometimes payment bond requirement is omitted or is made discretionary in authorizing legislation
  • Need to ensure that authorizing legislation references state “Little Miller Act” or contains its own payment bond requirement
slide28

Alternative Project Delivery

  • States and localities wish to expand project delivery options, moving away from design-bid-build to design-build and CM at risk methods
  • Authorizing legislation is not clear on bonding requirements – i.e., no clear reference or link to “Little Miller Act”
slide29

Individual Surety

  • Misperception that corporate sureties will not write small and minority contractors
  • Legislature seeks alternative market, introducing measure that permits an unlicensed natural person to write surety bonds on public or private construction contracts
slide30

Individual Surety

  • As unregulated surety, certain state protections do not apply, such as market conduct investigations, recovery funds etc.
  • Case example – MD HB 1071/SB 782 (2011) Presumably as an aid to minority businesses, a bill is introduced to exempt individual sureties from obtaining a certificate of authority from insurance commissioner to write on private contracts. Bill never leaves committee.
slide31

Other Threats - Integrity Challenges

  • Current economic environment ripe for fraud
    • Unauthorized bonds
    • Unlicensed surety companies
    • Unlicensed individuals acting as sureties
slide32

Other Threats - Integrity Challenges

  • Subcontractors and suppliers should not rely on contracting officials to exercise sufficient due diligence
  • If an insurer is not subject to governmental oversight – i.e., under the control of the state insurance commissioner - watch out!
slide33

Bond Verification

  • Caution and due diligence are needed in this economic climate
  • Obtain a copy of the bond
    • On federal construction projects, see FAR 28.106-6(b), (c) & (d)
  • Verify both the surety and the bond
bond verification corporate sureties
Bond Verification – Corporate Sureties
  • State Insurance Departments
    • http://www.naic.org/state_web_map.htm
  • US Department of Treasury, Circular 570
    • http://www.fms.treas.gov/c570/c570_a-z.html
  • Private rating organizations – e.g., A.M. Best
    • http://www3.ambest.com/ratings/default.asp
  • Bond Obligee’s Guide – SFAA
    • http://www.surety.org/resource/resmgr/pubs-public/bondobligeeguide2011.pdf
slide35

Federal HR 3534 – Security in Bonding Act of 2011

  • Bill would change how the federal government treats the assets of individual sureties ensuring that such assets are real and in the care and custody of the federal government
contact information
Mark McCallum

CEO

NASBP

Washington, DC

mmcallum@nasbp.org

Susan Hecker

Area Executive VP

Gallagher Construction Services

San Francisco, CA

Susan_hecker@ajg.com

Contact Information
for more information
For More Information

National Association of Surety Bond Producers

1140 19th Street NW

Suite 800

Washington, DC 20036

Phone: 202-686-3700

Fax: 202-686-3656

www.nasbp.org