Surety sits at the intersection of banking and insurance, and has long been used to back the performance of a contract.
But the product, which works similarly to a bank guarantee, has to date not been widely adopted in the trade sector.
In this Industry Perspective, Daniel Storr, co-head of Emea surety for insurance broker Aon, suggests that businesses conducting international trade would do well to consider the use of surety.
Storr argues it can be a powerful tool to help complement existing credit lines and unlock extra liquidity for corporates.
GTR: What industries has surety traditionally supported?
Storr: Historically, surety was predominantly used in construction, a sector that is very experienced with the product and how it works. But during the last 10 to 15 years, there has been a lot of innovation, and because of that, surety is diversifying. The product is now doing a lot more, in addition to just construction. That’s being driven by the value creation that surety can bring. It’s now also widely used in sectors such as oil and gas, renewables and manufacturing.
GTR: How can surety be used by companies involved in international trade?
Storr: Its suitability depends on each individual business. But essentially, when businesses are trading and one company is providing something to somebody else, there’s a contractual obligation to deliver that product or service. If the beneficiary of that contract wants more certainty, they might ask for some form of security. Surety can be introduced to bring that security.
Surety effectively gives the companies additional liquidity that they can draw upon. The surety provider will give the guarantees on the client’s behalf to the third party. For the third party, that means that they’re diversifying their risk by getting well-rated paper from insurance companies. So that gives them comfort by alleviating a counterparty risk that they may have had before.
GTR: What advantages does using surety in trade have compared to guarantees, standby letters of credit and similar products provided by banks?
Storr: Surety can provide additional liquidity on top of existing trade finance or other credit lines. The advantage is that you’re not restricting or replacing banking capacity, but instead complementing it and allowing that working capital to be used for other purposes. When a company uses bank capacity, quite often it will be counted as debt, whereas surety can be considered a contingent liability. That has obvious benefits for businesses.
GTR: How much appetite and capacity are there among insurers for expanding surety to a broader range of risks?
Storr: The level of appetite insurers will have depends on the sector, the strength of applicant and the bond requirement itself. Sureties can support a wide range of requirements. As one example, surety insurers support decommissioning obligations that extend to 20 to 30 years, or longer.
For well-capitalised and well-managed businesses, there’s always been strong surety support available. At the moment, we’re seeing more capacity come into the market and a lot more interest from new providers, which is great. Surety providers are also looking at expanding their offering overseas, which is essential for the growth of the market and for expansion in international trade.
There have been challenges. During Covid-19, there was a contraction in capacity because lots of businesses had to shut down or curtail their operations, and surety providers, having suffered an increase in claims activity, needed to get comfortable with what they could support. And some markets are still largely bank-led, such as the Middle East. But that just means we can put together deals that work alongside banks, and facilitate trade that way.
GTR: How has Aon supported the development of surety products to cater for clients’ trade needs?
Storr: Surety can provide off-the-shelf products, like construction or performance bonds. In those cases, the requirements are obvious – you’re guaranteeing that one party will deliver something for another party. But outside of that, it’s really about understanding what the client needs and how extra liquidity can support their business. Once you have that, you can tailor solutions.
For example, we use surety as a negotiation tool. A client might want to push out their payment terms. If they can bring cash in sooner but delay paying it out, that’s cash flow positive. Surety can back them up by guaranteeing to their customer that obligations will be met, whether that’s a payment, service or performance. That guarantee might not be part of the original contract, but introducing it can help the client negotiate better terms.
We’ve also seen clients bring in surety simply because they want certainty. During Covid-19, and again with the energy crisis, volatility drove price fluctuations and inflation. The challenge for businesses was that if you can’t control variable costs, it’s hard to protect margins. Having surety in place to support purchasing became essential.
