Canada’s construction industry is a key sector of the country’s economy. A recent study seeks to estimate the socio-economic value of using surety bonds in public capital projects across Canada. Premiums paid for performance and payment bonds contribute to financial security and project completion, the study’s authors say.
Entitled Surety Bonding in Canada: Economic and Social Benefits, the research report was commissioned by the Surety Association of Canada (SAC). The study was conducted by the Canadian Centre for EconomicAnalysis (CANCEA) and released at the end of July. The Centre had previously published a 2016 study on the economic consequences of delays in infrastructure projects.
“Credit and operational risks within the construction industry are significantly influenced by interest rate fluctuations, economic downturns, supply chain disruptions, debt burdens and periods of credit constrained availability,” the authors note.
“Our analysis demonstrates that the use of surety guarantees, alongside the rigorous due diligence they entail, consistently yields positive impacts across various scenarios,” they write.
According to Paul Smetanin, President and CEO of CANCEA, “Surety bonds combine financial assurance with project accountability, ensuring work is finished, workers are paid, and taxpayer dollars deliver full value—no matter the economic climate.”
For his part, Steve Ness, President of SAC, states that the CANCEA report “clearly demonstrates that all public work should be protected by performance and payment bonds.”
Fewer bankruptcies
Nationally, the construction industry’s insolvency rates are at a historic low (excluding the pandemic period), with an average of 2.5 bankruptcies per 1,000 businesses over the past decade, according to the Centre. This is nearly six times lower than the rates reported in the 1990s, which reached 17.7 bankruptcies per 1,000 businesses.
Expanding the use of surety bonds to all capital projects—not just infrastructure—continues to generate positive economic returns, the authors say. However, non-infrastructure projects do not have the same systemic productivity impacts when delayed. For example, a commercial building that is not delivered on time will not result in the same systemic costs as a delayed public drainage or sanitation infrastructure.
CANCEA’s findings apply to all of Canada, but similar estimates were developed for six major regions: Ontario, Quebec, British Columbia, Alberta; the Atlantic provinces were grouped together, as were Manitoba and Saskatchewan.
Among the key findings in the study is that a construction company without a surety bond is 10 times more likely to become insolvent than one that has obtained such a guarantee.
Construction is Canada’s third-largest industry, representing 7.7 per cent of GDP nationwide. The sector employs 1,327,000 people, the vast majority of whom work for businesses with fewer than 20 employees.
150,000 projects
Seven insurance companies participated in CANCEA’s study by providing confidential data: Aviva, Intact, Liberty Mutual, Travelers, Trisura, Western, and Zurich.
Together, these insurers underwrite more than 85 per cent of construction surety bonds in Canada, the Centre reports. Data from approximately 150,000 bonded construction projects over a 10-year period were used for the report.
Even though sureties are provided by insurers, the product should not be confused with insurance. “A surety company is putting up its own resources to ensure projects get completed. This makes surety bonds more like an extension of credit with the assumption that there will be no losses, such as co-signing a loan,” the authors explain.
“If a particular contractor is deemed to risky, the surety will simply decline to issue bond. Premiums are collected to cover the costs of underwriting expenses, not to pay losses. Taking on a an overly risky contractor can be a costly decision.”
The combination
The report recommends using both performance and payment bonds, rather than just performance bonds alone. “Ensuring payment to subcontractors allows them to continue operations and reduces the risk of being unable to complete other projects,” the authors add.
A performance bond enables the contractor to guarantee to the project owner that the contract will be fulfilled. In the event of default, the beneficiary can turn to the surety to cover completion costs and associated expenses.
The payment bond—also signed by the contractor and the surety—guarantees that workers, subcontractors, and suppliers will be paid under a given contract. If the contractor fails to meet payment obligations, the surety will compensate them.
Scenarios studied
The socio-economic value was estimated based on two scenarios: the status quo and a high-risk scenario. The former assumes insolvency risk levels similar to those in recent years (excluding the pandemic), while the latter reflects the levels seen in the 1990s.
The authors evaluated the impact of surety bonding on gross domestic product (GDP), individual well-being, and government finances.
Low-risk scenario: “If 100 per cent of public infrastructure projects have performance and payment bonds, $3.85 million in GDP is protected per million dollars of surety bonds premiums paid. A total of 29.4 jobs per million are protected annually, providing stability for employees and employers. The well-being impacts resulting from reduced insolvencies and protected economic activity results in a social value equivalent of $1.32 million per million dollars of premiums paid.”
High-risk scenario: “If 100 per cent of public infrastructure projects have performance and payment bonds, $27.24 million of GDP is protected per million of surety bonds premiums paid. This is attributed to both the reduction in insolvencies of companies and the systemic benefits which arise from the infrastructure built on time. Since the likelihood of delay without bonding is greater in the high-risk scenario, a larger aggregate portfolio of projects is at risk of being delayed resulting in the greater impact for surety. By protecting 207.6 jobs per million in premiums, the well-being impacts of reduced insolvency rates and protected economic activity results in social value equivalent of $9.36 million per million dollars of premiums paid.”
