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Bonding Capacity and Surety Issues

Pursuing New Opportunities?
Be Sure You Have Adequate Bonding Capacity

With the construction industry experiencing modest growth with an optimistic outlook for the future, most contractors are eagerly seeking out new opportunities. In many cases, though, those opportunities can remain out of reach unless the contractor can increase its bonding capacity.

But how do you go about doing this? No single answer applies to all circumstances: Every contractor’s financial and operational situation is unique, and every bonding company will have its own standards and expectations – not to mention its own appetite for risk.

Despite the many differences, however, there are a few best practices that can get you started in the right direction.

Bonding Capacity Surety Issues, Financial Health

Demonstrate Solid Performance

Your company’s ability to complete projects on time and on budget is an obvious concern to a surety. Be prepared to provide a clear and complete picture of your project completion record. Also be ready to explain any problems, especially if they led to exposure for a surety company.

In addition to a successful job history, surety underwriters also want to see evidence that your company is in good financial health. This means presenting up-to-date, professionally prepared financial statements.

In the past, some sureties would be satisfied with an annual year-end financial statement that was reviewed by a CPA. This could be supplemented by a contractor’s own internal quarterly or mid-year updates.

These days, however, most underwriters require independent CPA review of all financial statements, including interim updates. And many sureties are requiring fully audited financials.

Boost the Surety’s Confidence

Beyond financial metrics, a bonding company is also looking for subjective assurance that your company is likely to complete its projects on time and on budget. For example, most bonding agents prefer to see that you are working on projects within your area of expertise, rather than venturing into unfamiliar work or new geographic territories.

If new specialties or markets are part of your growth strategy, you may be able to overcome such concerns by teaming up with a joint venture partner who has experience in the specific type of project being bonded. A joint venture can also help alleviate capital concerns on large or complicated projects.

A surety will also spend considerable time reviewing your work-in-process ledger, including job schedules, job performance histories and project updates. Be ready to demonstrate a strong grasp of the projected revenue flow for each job.

In addition, there are several immediate actions that could help boost your bonding company’s confidence, including the following:

  • Increase your lines of credit. Unused short-term borrowing capacity demonstrates to the underwriter that funding is available to help cover shortfalls. This decreases the surety’s risk.
  • Consider converting short-term credit lines to a longer term. If your lender is willing to do so, converting a typical one-year renewable line of credit to a two-year term removes it from the current liability section of the balance sheet. This also takes it out of the working capital calculation, a critical metric for most underwriters.
  • Reinvest profits back into your business. This boosts equity and strengthens the balance sheet. Of course, there are often tax reasons to take cash out of the business rather than reinvesting it. So this is a tactic you’ll need to discuss with your accountant to be sure the pros outweigh the cons.
  • Be prepared to add a personal guarantee. Bonding companies today often require owners and key officers to pledge personal assets to guarantee performance of the work. This provides additional assurance that they will be able to recover at least some of their losses in the event of a claim.

Build Credibility With Sureties

Above all, be honest with your surety. Trying to hide problems from the underwriter could seriously undermine your credibility.

Work to develop a solid relationship with your bonding company. Communicate openly and regularly about your plans and ask what steps you could take to build up your bonding capacity and grow your business.

Having a CPA with a strong expertise in construction will provide an added layer of comfort for the surety, as well as the bank. For more information on Sansiveri’s Construction and Related Services Group and how we can assist your company, please contact Jason DaPonte, CPA, CCIFP, CIT at 401-752-0558.