Under a performance bond, a legally binding agreement is established between a construction company, a surety (the bond provider) and a project owner. Essentially, the bond guarantees that the business in question will fulfill the performance obligations of the construction contract or the surety will step in and assume liability for finding a replacement.
Generally, performance bonds are required for only publicly funded projects and certain high-value privately funded ones. So, some construction companies operate for years without needing one. If your construction business doesn’t have much experience with bonding but may soon need to “get bonded” to work on one or more jobs, here’s what to expect.
You’ll probably need a broker
Just as they do when buying insurance, contractors often use a broker to help them find a surety. This professional will help you identify a provider that best suits your company size, type and culture and can meet your current and future bonding capacity. (Sureties have caps on the maximum coverage they can offer.)
Naturally, you should choose a broker with experience in the construction industry who understands your business’s mission and services. Also, look for involvement in relevant trade associations and references from companies like yours.
As the broker brings you prospective sureties to consider, apply the same type of scrutiny that you’d give any insurer. Make sure the firm is familiar with your type of construction contracts and is licensed and authorized to issue bonds in states where you work. Look for an A rating or higher from AM Best or an equivalent rating from a respected credit rating organization, such as Dun & Bradstreet.
There will be paperwork
After finding a surety you believe is a good fit, you’ll need to navigate its application process. Be prepared to fill out a lot of paperwork and provide supporting documentation such as:
- An organizational chart,
- Business and continuity plans,
- Financial statements,
- Bios of leadership and other key personnel,
- Project/work history,
- References, and
- Statements of any active lines of credit.
Be sure to allocate plenty of time and patience to completing the paperwork. The more detailed and accurate the information is, the better.
Financial management will be key
Assuming you do obtain a bond, take a moment to celebrate. Clearly your construction business is successful enough for a surety to bet on it to continue to stay that way. However, your bonding provider will need regular reassurance that you can continue running a financially stable company going forward.
To that end, be ready to show how you’re maintaining a strong cash flow, stable backlog and timely billing schedule. Address red flags such as underbillings and unapproved change orders. Underbillings may indicate poor accounts receivable practices, which can lead to sluggish cash flow. Meanwhile, unapproved change orders may indicate substandard project management processes that could inhibit you from getting paid on time.
It’s a relationship
Above all, as you continue to seek out bonding for future jobs, expect to manage interactions with your surety like a business relationship. Because that’s what it is. You’ll be much more likely to maintain or even increase your bonding capacity if you communicate clearly and demonstrate transparency and reliability. Our firm can help you apply for a bond and better manage your financial performance to stay on good terms with your chosen surety.
© 2024
