What are bonds and why would you need one?
You may have heard the saying “My word is my bond”. This is a maritime expression dating back to the 1800’s where bargains were made with no exchange of documents and no written pledges being given. This is also the motto of the London Stock Exchange.
Nowadays a more formal approach is required. Bonds and guarantees are written promises to pay for direct loss or damage suffered by a third party as a result of a breach of contract. Traditionally banks have provided the financial backing for bonds and guarantees enabling companies by keeping bank facilities available to meet cash flow requirements.
As an alternative to using banks, it is also possible to arrange a bond or guarantee in the surety market. A surety is the guarantee of the debts of one party by another. A surety is the organisation or person that assumes the responsibility of paying the debt in case the debtor policy defaults or is unable to make the payments.
It is worth mentioning that Surety bonds are a form of credit and not an insurance policy, with surety bonds, risk is always with the principal (the person purchasing the bond).
Bond, Performance Bond…
The most common bond type is a Performance Bond. A Performance Bond provides the employer with between 10% and 20% of a contract value in the event of a contractor or supplier failing to perform to the agreed terms. Any company can use Performance Bonds but are more common in the construction or service industry sectors.
In addition to details of the wording of the bond the underwriters are likely to require the following information:
- Details of the beneficiary
- Details of the contract being undertaken & the duration
- The bond value
- Liquidated Damages for Non-Completion
- Percentage of Retentions
- The release date of the bond. i.e. practical completion of main contract or after making good any defects
- Details of any previous bonds
Other types of bonds include, Advanced / Stage Payment Bonds, Duty Deferment / Custom Bonds, Rent Bond and Reinstatement Bonds.