Surety Bonding Basics

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Surety Bonding Basics

• by
• Eduardo José Paternoster
• Vice President Director
• St Paul Reinsurance

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• Better known Bond types

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Surety Bonding in the US Market
 Key Characteristics

• World Premium Volume US 4.60 billion (gross)
• USA Premium volume US 3.10 billion (gross)
•  
• US 460 million (ceded)

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Surety Bonding
 The Simple Definition

• A promise by which one person (the SURETY)
  becomes accountable to another person (the
  OBLIGEE) for the debt obligation or conduct of a
  third person (the PRINCIPAL).

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Surety Bonding
 The Complex Definition

• A contractual Agreement whereby a SURETY joins
  with the PRINCIPAL in order to guarantee to the
  OBLIGEE the fulfillment of the principals
  contractual obligation.

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Surety Bonding
 Parties to the Agreement Simple Definition

• The PRINCIPAL is the party that undertakes the
  obligation.
• The OBLIGEE is the party who receives the benefit
  of the bond.
•  
• The SURETY guarantees the obligation will be
  performed.

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Surety Bonding
 Parties to the Agreement Complex Definition

• The PRINCIPAL is the party primarily responsible
  for the fulfillment of the obligation set forth
  in the bond. The principal must perform some act
  under certain conditions or respond in damages.
• The OBLIGEE is the beneficiary under the terms of
  the bond. Either the obligation is fulfilled or
  the amount of the bond responds for any
  shortfall.
•  
• The SURETY joins with the PRINCIPAL in order to
  guarantee to the OBLIGEE the fulfillment of the
  principals obligation.

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The 1st Rule of Surety Bonding
The Rule

• Surety Bonding is NOT Insurance.

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Surety Bonding
 Similarities to Insurance

• Both are subject to insurance law and regulatory
  requirements.
• The OBLIGEEs interest is to protect against
  loss.
•  
• Suretyship is based on the insurance concept
  whereby the many pay for the losses of the few.

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Surety Bonding
Differences from Insurance

• There is no transfer of risk between the
  PRINCIPAL and the SURETY. The PRINCIPAL retains
  all responsibilities in respect of the OBLIGEE.
• The premium charged is a service fee. The
  assumption is that there will be no loss.
•  
• Suretyship underwriting principles more closely
  resemble banking than insurance. The surety
  assesses the principals (financial) Capacity,
  Capabilities, and Character to perform its
  obligation under the agreement.

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Surety Bond Underwriting Fundamentals
The 3 Cs

• Capital Financial Condition (strength /
  wherewithal)
• Capacity Skill and Ability to perform
• Character Good Character

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Types of Surety Bonds

•        
• Contract Surety Bonds
• Non-Contract (or Commercial) Surety Bonds

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Types of Contract Surety Bonds

•        
• Bid Bonds
• Performance Bonds
• Advance Payment Bonds
• Payment Bonds (or Labor Material Bonds)
• Maintenance Bonds

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Types of Non-Contract (or Commercial) Surety
Bonds

• Taxes Bonds including Customs and V.A.T. Bonds
• Judicial Bonds
• Supply Bonds 
• Other Miscellaneous Bonds

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Non-USA Surety Market Characteristics

• Competition from Bank Guarantees.
• Legally required 1st Demand Bonds.
• Other legal requirements for Public Works.
• Smaller Percent (Penalty) bond amounts.
• Bond Insurance as an alternative.
• Lack of Work-In-Progress reports.
• Inconsistent Indemnity and / or Collateral
  Requirements.

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Surety Bonding in the USA Market
Key historical factors affecting the development
of the US Surety Bond Market

• Corporate Suretyship
• Uniform Laws governing bonds for Public Works.

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Factors which influence general Surety Bond
Market performance

• Changes in economic and political environments
• Technological changes
• Changes in bankruptcy laws
• Changes in banking regulations
• Changes in bond penalties

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Worldwide Surety Trends

• Uniform bond forms
• Higher bond penalties
• Stronger, more uniform Indemnity Agreements
• Concession bonds
• New bond types Payment bonds, tax bonds,
  judicial bonds, etc
• E-Commerce