To provide an expert’s view on construction payment and performance surety bonds, I sat down with Ellen Neylan, the owner of Surety Bond Associates, a WBE surety bond agency and consulting firm that provides specialty surety services to small, minority women and veteran owned contractors.
Often projects presented accompany a bonding requirement – too many times this is seen as an automatic disqualifier to an unbonded GC. Ellen stressed the abundance of options out there, and the importance of differentiating all risk reduction instruments from viable alternatives.
Many GCs are working with their insurance agencies to tackle bondability needs without realizing surety agents are their own specialty that add a different, more precise value. Ellen explained to me the contrast between a surety bond and subcontractor default insurance (SDI), two concepts that can be easily confused. In almost all cases, SDI is very inferior to surety bonding. Surety bonds exist to protect taxpayer dollars and a general contractor’s organizational health, while SDI serves to allow a GC to default subcontractors quickly with no payment protection downstream for anyone. High deductibles are associated with it – and since there is no qualification process to gain this protection, it is much more of a high-risk instrument.
Along with the confusion of bonds and SDI seeming interchangeable, comes a misinterpretation that bonds and insurance in general are comparable. I’ve previously heard the phrase that “Bonds are not insurance-they’re a credit instrument” and Ellen confirmed that in her Bonds 101 workshop, this is an idea that’s represented as fact.
Even though insurance companies can provide bonds, contractors have to qualify for bonding, which makes it quite different than insurance. Anyone can buy insurance if they can afford it, however bonds require an in-depth qualification process that fully vets a firm.
Prior to my conversation with Ellen, I read that many bonding professionals sum up their evaluation of a contractor with the use of “the three c’s: character, capacity, and capital” – and I was interested to hear if this captured her interpretation of the GC review scope. She emphasized that those are definitely the main ideas, however the importance of each area isn’t quite weighted equally in thirds.
The surety typically puts 70% emphasis on financial strength. For the capacity consideration, the contractor’s experience with project management and portfolio of work shape their rating. Some factors that are evaluated include:
– Staff resumes
– Typical project valuation “sweet spot”
– Scope of work
– References with subcontactors, suppliers, and banks
When evaluating the character review, this is a bit more challenging. Ellen rightfully mentioned that you don’t really realize a contractor’s true colors until there’s an issue. Since surety bonds are essentially a partnership between the surety and the contractor, the surety has to feel comfortable that the contractor can help them resolve any problems and deliver on promises. Project success is largely tied to a GC working with the surety so that they don’t have to file a loss.
So once you’ve taken the steps to become bonded – what is required for a firm to take steps to grow that bonding capacity?
Much of growing bonding capacity involves not taking on jobs that are too large for your company’s bandwidth. Preserving as much cash in the company and tightly managing it alongside accurate job cost accounting systems is key. A great CPA is critical to keeping a company in line financially. Surety companies look for detailed financial statements because the accounting needs of construction are very unique from other industries. Building that team of a solid CPA, surety agent, and bank is a powerful trio.
Payment and performance surety bonds can seem confusing, however with a bonding expert’s guidance, contractors are able to realize their full potential and not have to lose out on opportunities from lack of bonding. There are plenty of resources available for organizations looking to become bonded, and a “dead end” is far from how a bonding stipulation should be perceived.