There have been shockingly hard lessons and knocks for a broad range of contractors over the past five years. For those who survived the pre-COVID-19 economic meltdown, the pandemic may have been the final straw, causing many defaults of contracts relating to construction work. These disruptions have challenged project execution and vastly changed attitudes towards the acquisition of performance guarantees, which have generally been considered a grudge purchase.

Clinton Spence, Head of Santam Guarantees, explains: “Unlike with traditional insurance, here, a third party is involved. Construction projects are based on an agreement between a contractor (the principal debtor), working on behalf of a beneficiary (employer/owner/creditor). Should a contractor fail to meet its obligation in fulfilling that contract, the project is at risk.

“This is where a performance guarantee comes in. It indemnifies the beneficiary of the project against a default or non-performance by a contractor, which, in return, puts an obligation on a guarantor (the insurer) to make payment should a specific event occur. But although contractors facilitate and pay for the premium on a guarantee, they do not realise any direct financial benefit should there be a claim.”

The construction sector comprises 90% of Santam Guarantees’ underwriting, 70% of which is performance based. “It is a highly specialised and extremely technical, risky business,” says Spence. “A guarantee issued today pushes our resources because the underwriting is made far more intensive. For example, we cannot judge how a company will be performing in a year’s time, let alone in six.”

Full-spectrum Offering

There are three types of guarantees that together contribute to the majority of business within the Santam Guarantees product suite. Performance, which covers elements of quality, specification, and scheduling; advance, which covers the expenses incurred to create the facilities that a site requires and addresses initial negative cash flows relating to the procurement of capital goods; and retention, which comes into play at the end of the construction period, and addresses employer risk associated with defects.

“This full-spectrum offering makes it incredibly difficult for underwriters. They have to consider whether the contractor has the financial and technical means to complete a job, and not fail. Ultimately, that’s what we are guaranteeing – non-failure,” says Spence.

Insurance Good and Proper

Underwriters have to consider an immensely complicated list of checkboxes, including contractor liquidity, performance over the previous five years, application of building standards, risk ratings, and technological and finance audits, to name but a few.

Time frames vary, but generally, the process from the day the application is submitted to when the guarantee is issued, can take up to a month. However, this only applies to the local market; foreign clients can expect the process to take up to three months because of the varying security checks and compliances.

Currently, 40% of the business Santam Guarantees underwrites is local; the balance is foreign. 

“At any one time, we have some 30 foreign guarantees in play, and only 25% of those are motivated through South African companies looking for support of their projects in other nations.”