COVID-19 Impact on the Construction Industry
The construction industry is a significant part of the Canadian economy representing 7% of the country’s GDP and employing over 1.4 million people in 2019. In the past, governments have mitigated the impact of economic slowdowns through fiscal stimulus, including funding infrastructure and construction projects as a means to stimulate the economy. The 2008 financial crisis is a recent example of fiscal stimulus focused on “shovel ready” projects supporting the construction industry. Support for these projects created employment, economic activity and helped to mitigate potentially more severe consequences of the financial crisis.
During the COVID-19 crisis, many construction projects have been identified as an essential service to ensure the completion of vital infrastructure, housing and healthcare projects. Unfortunately, other significant, but ‘non-essential’ projects have been shut down or progress has been significantly impaired. In Quebec, almost all construction work has been completely shut down. Contractors will face severe economic hardships as a result of COVID-19 resulting from revenue impairment, delay costs and input cost escalation. They will face challenges including supply chain interruptions, labour shortages and contaminated job sites. At the same time revenues have decreased, they will bear unplanned safety costs, costs associated with temporary site closing and security. Contractors who have borrowed to finance their operations also face interest expenses that accrue even during periods of inactivity, as well as principal repayments unless their lenders are willing to defer those payments.
A large proportion of Canadian construction companies are small to mid-sized businesses, in many cases family owned. The reduction in revenue and increased costs will weaken the balance sheets of small businesses disproportionately vs. their larger peers. Many will need financial assistance to weather the COVID-19 pandemic.
It is important that these essential businesses remain solvent. Once pandemic restrictions end, Canada will need these construction companies ready to employ Canadians to complete existing projects and undertake anticipated “shovel ready” stimulus work. Alberta announced a $1.4 billion commitment for capital maintenance and renewal for 2020-21, and it is speculated that the federal government will accelerate the $180 billion ‘Investing in Canada’ plan that remains largely unspent.
As Canadians emerge from social distancing, construction companies will need assistance to finance the costs of re-mobilization. This includes payroll in advance of project revenues, and working capital to take on new projects and secure surety bonds.
Surety Bonds in Canada
The majority of publicly funded construction contracts require that surety bonds (performance and labour and material payment bonds) be posted by the contractor to the public authority. Ontario’s Construction Act requires all such public projects are bonded in the province. Most other provinces are currently in the process reforming builders’ lien acts, are addressing prompt payment concerns and are contemplating the mandatory use of surety bonds on all public projects as they are in Ontario.
Surety bonds are a form of performance security where a Performance Bond guarantees the contractual obligations of a contractor and a Labour and Material Payment Bond guarantees labour, subcontractors and suppliers will be paid. Contractors qualify for surety bonds based on their creditworthiness. The credit assessment is similar to that for a commercial loan. Balance sheet strength, working capital, prior experience and capacity are all elements of the surety’s assessment of a contractor. Generally, contractors with stronger balance sheets and working capital will qualify for higher levels of surety support. However, unlike a bank, a surety is not collateralized for the surety credit they authorize and the surety bond liability they assume.
In 2017, the Canadian Centre of Economic Analysis (CANCEA) published a study called the Economic Value of Surety Bonding in Canada [CANCEA Report]. The CANCEA study concluded that the benefits of surety bonds in high risk economic conditions are as follows:
- $25 of economic activity is recovered per $1 of premium paid
- $3 of tax revenue is recovered per $1 of premium paid by all levels of government
- 200 job-years recovered per $1 million of premium
As a result, in these extremely difficult economic times, surety bonds will be instrumental to help ensure the integrity of publicly funded stimulus projects.
Following the COVID-19 crisis, many construction contractors will face significant financial difficulties; some may face insolvency as a result of the pandemic. Those that survive will struggle with an impaired ability to re-start their business and may not qualify for conventional loans. Qualification for surety bonds is based on the creditworthiness, so any significant impairment of financial strength will negatively impact a contractor’s ability to both finance construction projects and to qualify for surety bonds. As stimulus projects are tendered, a healthy marketplace will require a diverse and active pool of contractors bidding the work.
Government Financial Assistance for Construction
Financial assistance for the construction industry will ensure that contractors survive the shutdown period and are positioned to re-start their business, employ workers and qualify for surety bonds once restrictions are lifted. The federal government has announced strategies for financial relief for businesses through loans, guarantees and wage subsidies. We urge the federal government to consider a specific strategy for the construction industry, given the importance of the sector to stimulate the Canadian economy. We suggest that this could be a two-stage process:
Stage 1 – Pandemic Restrictions & Economic Shutdown:
During the period of slower economic activity, contractors may need support to remain solvent. Federal government loans or guarantees to commercial lenders, coupled with relaxed credit assessment criteria and deferred repayment terms, will help contractors survive while revenues stall. If guarantees are made to commercial lenders, separate “pandemic” loan facilities can be established to keep relief proceeds separate from previous commercial loans. However, the terms and conditions of such loans must be uniform and consistent across all lenders and for each of their clients. Both BDC and EDC are vehicles available to the federal government to offer such financial assistance.
Additionally, the Canadian Construction Association is advocating an Emergency COVID-19 Construction Cost Relief Program that will be critical alongside expanding the eligibility criteria of the government’s wage subsidy program to aid contractors in maintaining key staff to be prepared when the shutdown period end.
Again, these contractors will be needed once the shutdown period ends to employ workers and build shovel ready projects.
Stage 2 – Stimulus Period:
Once pandemic restrictions lift and business operations resume, contractors will require access to working capital to fund the cost of re-booting their business. Such financial assistance from the federal government could be in the form of loans/guarantee with favourable interest rates and repayment deferrals.
Access to Surety Bonds:
Contractors will require access to surety bonds to bid new projects while pandemic restrictions are in place and more importantly, once restrictions end and the stimulus period begins. Unfortunately, contractors’ financial strength will be impaired and financial information reflecting the impact of recent shut downs may not be immediately available. EDC often structures reinsurance arrangements on behalf of Canadian companies and provides guarantees to primary surety companies in the event normal market capacity is not available. We understand that EDC’s “domestic powers” have been extended due to the pandemic. Reinsurance support from EDC to licensed surety companies could be an efficient way to maintain construction companies’ access to surety bonds during these uncertain times.
Government assistance specific to the construction industry will ensure Canada is well positioned during the stimulus period while the construction market stabilizes. Consensual time extensions to existing contracts and assistance with loans/guarantees from BDC and EDC to help with liquidity during the start-up period will aid construction companies, and additional initiatives to support contractors encountering increased costs will provide further assistance. However, companies will ultimately need revenues restored for when deferred liabilities such as taxes, workers compensation premium, debt payments and deferred costs materialize. Government stimulus through investment in shovel ready contracts during the recovery stage will be critical. For contractors to begin work, sufficient working capital and access to surety bonds will necessary and the government can bridge these issues.
Trisura supports initiatives championed by the Canadian Construction Association and many other federal, provincial and local construction associations. With the support of federal government-backed loans with adequate repayment deferrals, Trisura would consider such assistance as part of the contractor’s own equity as opposed to debt that must be serviced. This will favourably boost underwriting ratios that are used to assess creditworthiness.
In addition, with the support of EDC, Trisura is willing to commit a dedicated pool of risk capital to back surety bonds for contractors negatively impacted by COVID-19.
Trisura stands ready to work with the construction industry and with all levels of government in developing practical solutions to the challenges that will be faced by all stakeholders as we emerge from the COVID-19 crisis. Reinsurance offered by EDC is one such method which is familiar to the surety industry and would increase the available bonding capacity in the marketplace.
Trisura is a proud Canadian owned Surety company. We primarily support the small to medium sized businesses which are critical to the Canadian economy. Further, we are committed to innovation and delivering solutions to boost both the industry and the economy. We developed an online Contractor Bond Portal to qualify surety for small contracts, as well as Trisura Bond Portal for non-construction commercial surety products. In addition, we are the only surety in Canada to have developed its own technology to deliver electronic bonds as project procurement methods continue to evolve.
Trisura is committed to meet the challenges ahead and do our part to ensure the Canadian construction industry is successful in helping to stimulate the economy post COVID-19 and restore the market to a stable environment.