Surety / Funding Solutions
Surety bonds are a form of credit where insurers carriers issue third party guarantees to support a wide range of obligations and guarantees.
Surety bonds for construction and other performance type guarantees are widely accepted globally, the renewable energy space is still relatively new and evolving in certain parts of the world. Surety bonds can be used to help facilitate project financing for wind, solar and BESS by allowing developers to achieve better terms and keeping traditional bank lines of credit preserved for other uses.
Surety bonds in the Oil and Gas space are typically well established in areas such as the UK, United States, Central and South America. In areas such as the Middle East, Africa and Asia, surety bonds are not as common since legislation and underlying law do not support surety guarantees from insurers carriers and letters of credit are the norm.
Surety Bonds for Renewable Energy
Within the renewable energy market, we commonly see surety bonds issued for construction, decommissioning and interconnection projects, as well as bonds to guarantee the quality of workmanship on a project. The market is supported by a wide range of insurers. Over the past 18-24 months, the construction industry has seen an uptick in bond claims tied to inflationary pressure from labour and material, causing companies to default on unprofitable projects. This has constricted the construction surety market with some insurers exiting the space, or tightening their underwriting practices, driven by higher reinsurance scrutiny and increased costs. While we see inflation levelling off, which allows contractors to adjust pricing and contract terms, we see this trend continuing for the foreseeable future.
We expect there will be ample capacity and competitive rates for higher quality credits. For marginal credits, we continue to struggle finding capacity and terms that are competitive against other forms of collateral. Most of the bonds required in renewable development are required at the early stages, when the company has little to no asset value, and financing for projects is not in place, making these very high risk. The indemnitor needs to have a balance sheet to support these, and there is typically a reluctance to offer higher levels of indemnity as the preference is to silo each entity and insulate against cross default. Having these conversations early in the process help set the expectations of what is achievable.
For renewable energy developers, we have seen markets pivot to this space as ESG pressures from corporate initiatives and reinsurers have forced them to look at other industries for revenue opportunities. Many of the major European carriers such as Allianz, AXA XL and SwissRe have seen growth in this industry, and we see that trend continuing. Many of the types of bonds required for developers can be long term, non-cancellable guarantees which can be tougher placements. However, with the right indemnity package and credit strength insurer appetite is strong.
Over the past 18-24 months, the construction industry has seen an uptick in bond claims tied to inflationary pressure from labour and material, causing companies to default on unprofitable projects.
Surety bonds for Oil & Gas
In the Oil & Gas subsector, we commonly see Surety Bonds issued for decommissioning projects, to guarantee transportation of commodities, ensure Rights of Way and to enable operators to obtain licences or permits. Over the past 24-36 months the surety market for Oil and Gas related bonds has become increasingly constricted. This is due to several high-profile bankruptcies and court cases that have driven insurers to shift away from a reliance on an asset based underwriting approach and focussing more on cash flow and liquidity. We have seen several markets exit this space altogether due to pressure from reinsurance insurers and losses. While many of these losses have come from US Gulf of Mexico operators, the ripple effects have been felt globally.
For buyers with healthy balance sheets and strong operations, there is still considerable appetite from markets that remain dedicated to this space.
However, for buyers with leveraged balance sheets and constrained access to sources of additional capital, we are seeing a trend toward the use of collateral to offset the liability on certain bond programmes. There has been a keen focus on capital structure, access to liquidity, hedging philosophy, and operational efficiency. We expect this trend to continue for the foreseeable future.
Surety Bonds for Power Generation
The most common types of bonds for power generators are to support power purchase agreement guarantees. Depending on the off-taker, they may or may not accept surety bonds. Where bonds are accepted, the bond forms are typically forfeiture demand guarantees with short pay periods. As such, the market for these is narrow and there are strong credit requirements for the bond principal. In cases where bonds are not accepted, a surety backed letter of credit is a good alternative.
The surety market for these types of guarantees is limited, and underwriting will focus on balance sheet strength and liquidity due to the short-term payment terms in the event of a demand. The bond forms utilised in these instances will have a similar structure as a letter of credit, where the surety will be required to respond with no other option than to pay. For buyers that qualify for a surety backed letter of credit, this allows them to utilise surety capacity to support these obligations without tapping into their existing credit facilities. Markets that are actively supporting these types of guarantees include Allianz, AXA XL, SwissRe and Liberty, among others. We see a minimum credit rating of BB- as the entry point to qualify for surety backed letters of credit.
Getting the most from the market
The benefits of these products remain, as by using surety credit as opposed to cash, parent guarantees or letters of credit, businesses will preserve liquidity and headroom under their existing credit facilities allowing deployment toward better uses.
The surety market for energy has been in transition the past five years. Large losses in the Oil & Gas industry combined with continued ESG initiatives from reinsurers have impacted pricing and terms.
We are seeing insurers pull back in certain sectors, such as renewable energy as concerns with project delays, tax incentives, global tariffs and supply shortages could negatively impact projects where bonds are outstanding. Insurer appetite has shifted toward higher quality credits and less willingness to negotiate on terms.
As surety is a form of credit, the best outcome for a client is demonstrating open communication and transparency when it comes to financial statements, pro-forma projections, potential issues and operational updates on a regular basis. This goes a long way in developing trust and will benefit them in the long run. Surety insurers view themselves as creditors alongside the client’s banking and equity stakeholders, and as such expect to be treated in the same manner.
By understanding a client’s needs and positioning a conversation around these issues we demonstrate a depth of understanding to help them navigate the complexities of using surety as a valuable resource for managing credit. Whether a developer, owner/operator or looking to divest assets, surety credit can be vital to preserving balance sheet liquidity.
We are a global surety operation with dedicated personnel and capabilities. Our relationships and expertise with markets sets us apart.
We have a long history supporting Oil and Gas surety programmes and have built a reputation on it. We have also invested in renewables through learning and development of our surety team and using a collaborative approach to stay current on surety market trends and industry challenges.