Contractors Could Find Surety Bonds Easier to Obtain in 2012
Surety capacity was increasing at the start of 2012, says Marsh Inc., the big brokerage.
Driven by new and expanded surety underwriting firms, new underwriting approaches and increased limits from existing sureties, the trend could mean that obtaining surety bonds actually becomes easier this year. Among the companies that have entered, re-entered or are expanding their work in contract surety are XL, Arch and Berkley Surety Group.
While most forecasts about surety in 2012 focused on increasing contractor defaults pasting higher losses on sureties, the surety underwriters remain solidly profitable, say underwriters and brokers.
Last year was the sixth consecutive year of strong earnings by sureties, Marsh says.
According to Marsh, surety-contract rate changes in the fourth quarter of 2011 were flat for large contractors. Rate changes in the same period for midsized contractors ranged from no change to 10% down.
Surety underwriters have refined their techniques during the last five years. In the last 10 to 15 years they have worked out new scoring models for individual accounts and looked at the accounts on a portfolio basis.
In the wake of the losses sustained a decade ago, sureties looked at their portfolios and saw that credit scores and bond risks were good but still had problems.
So now sureties are more likely to look at construction projects through the lens of their size and duration and whether the type of work involved is prone to defects, says Drew Brach, Marsh’s U.S. surety practice leader.
“A good example is a project [on which] the roofing comes at the end of the project, and the project is supposed to be done in three years,” Brach says. “Then, all of a sudden, the roofing isn’t starting on time, and the work itself will take nine months.”
“It’s a different risk,” Brach says. “And duration is a major, major factor for an approval of a surety bond due to the expected increases in subcontractor bankruptcies in 2012.”
Compared to a decade ago, when sureties took a financial bath, underwriters are feeling better about their maximum probable loss exposure on a project.
Among other factors, they are evaluating how contractors prequalify their subcontractors. The due diligence includes asking a prime contractor about the size of the subs and what the prime knows about the sub, says Brach.
If the prime contractor is subbing out a $40 million to $50 million job, says Brach, the surety wants to know whether the sub is being covered with its own surety bond or with Subguard insurance or some kind of default insurance.