Basics of Bonding - Keep It Moving Dallas

(CIP) University Training
What you need to know to get a bond,
and how to GET IT DONE!
Brady K. Cox
Partner, Baldwin-Cox Agency,
over 12 years agency experience.
What Would You Do?
 Stranger comes up to you and says,
“Hey, Man, I’ve got this great construction job for
$2 million that I just landed. Would you mind
telling the owner that if I don’t build it right,
or finish it, and I don’t pay all the subs and
suppliers that YOU’LL take care of it? And,
tell you what, I’ll give you 2% if you’ll tell them
all that in writing!”
What is a surety bond?
 Bonds are NOT insurance. Losses NOT expected
 Definition of a SURETY BOND: A debt instrument issued by a surety on
behalf of an owner guaranteeing that the contractor will fulfill the
contractual terms of their agreement. In the event the obligations are not
met, the owner will recover their losses by defaulting the contractor and
making a claim on the bond.
 In other words, a performance and payment bond, simply means the
bonding company is guaranteeing:
 If you don’t do the job or if you don’t pay subs and suppliers, your
owner will kick you off the job and they will call the bonding
company to take care of the problems at the bonding company’s
expense and then the bonding company will come to you to pay
them back (indemnity).
 Not all bond forms are alike. Some owners have
their own forms and you always need to get a copy.
Some of them are UNWRITABLE in their current
 Bid bonds: Means you’re qualified to bid the job
 Performance and Payment bonds: Bonding
company guaranteeing performance & payment and
1st year of warranty
 Maintenance bonds: Warranty period – 1 or 2 years
 L&P and supply bonds
Three Parties to the Bond:
YOUR client:
The Owner or General
Bonding company
Bid Bond
Performance Bond
Labor & Material
Payment Bond
In progress
Underwriters look at what???
1. CAPITAL: Do you have money?
 Cash is King
 Bonding capacity based on a multiplier
(10X+) of the lower of your Working
Capital or Net Worth
 Not a lot of debt (D/E < 3 to 1)
2. CAPACITY: Can you do the job?
 Equipment
 People
 Is the job right based on your company’s
 Geography – have you worked there before?
3. CHARACTER: Your individual moral qualities.
 Will
check your and your spouse’s
personal credit reports.
 Will check references
 Do you honor your commitments?
 Will you fulfill your obligations in the
General Indemnity Agreement?
Accounting and CONSTRUCTION CPA’s
 Use CPA who specializes in working with BONDED
 You don’t want a brain surgeon fixing your broken leg!
 Find them in the TEXO directory, or your agent can refer
you to specialists
 Can help make decisions about taxes vs. bonding capacity
 Need to understand the % complete method of accounting
(financial reporting method and tax method can be DIFFERENT)
 Have a construction friendly, accurate accounting system
and USE it!
 Join Construction Financial Management Association
Financial statement types
 Compilation (simple)
 Review (medium, most requested)
 Audit (complicated, thorough and expensive)
 Required by TxDOT
Parts of the Financial
 Accountant’s Opinion Page (w/ compliance)
 Balance Sheet
 Income Statement
 Cash Flow Statement
 Notes to Financial Statements
 Work in Progress Schedule (Open & Closed)
 Be Sure to Request ALL OF THE ABOVE
How to Calculate Working Capital
 Current Assets minus Current Liabilities
 Maybe for TxDOT or your banker
 NOT according to your bonding company.
They’ll take out:
Loans to shareholders
Loans to employees
Half of inventory – depending on how fast you turn it over, or
whether it’s prior jobs JUNK in your yard
How to Calculate Working Capital…
 Current Liabilities –they count them ALL
 No deducts here!
 Lines of credit included here even if they mature further
out than 1 year.
 If any other entity besides a C Corp, they will add in a
tax provision for future taxes based on 30% of this year’s
taxable income
Work In Progress (WIP)
 A KEY report for bonding capacity – usually quarterly.
 Where your jobs stand at that date
 Are you making money?
 Are your estimates holding?
 Any profit fade or gain?
 Estimated Cost to Complete – to see how much
more work you can take on!
 Overbillings ARE OK!
WIP Components
 Contract Values for Each Project (Updated)
 Estimated Total Costs for Each Project
 Costs To Date for Each Project
 Billings to Date for Each Project
WIP Schedule - OPEN
WIP Schedule - CLOSED
 Bonding companies watch them closely
 Is the money collectible?
 Is it a temporary billing situation, back to normal next
 Is it a change order that will, or WON’T be approved?
 Is it cost overruns that can’t be billed?
 Underbillings can become losses – WILL get your
bonding company’s attention! Especially once a
job is over 80% complete.
Credit Score Programs
 There are a few markets that will approve bonds on
a case by case basis up to $250,000 single contracts
and no more than $500,000 aggregate at one time
based on you and your company’s credit score and
a three page application…
 If you need more bonding capacity you will need
to provide more paperwork, very similar to
applying for a bank loan.
 You can’t write two small bid bonds and combine
their values to equate to a bigger bid!
SBA Bond Guarantee
----In 1971 SBA launched the Surety Bond Guarantee
Program to assist small, emerging and disadvantaged
contractors obtain greater access to contract
opportunities through bonded projects via an SBA
What exactly is it??????
 An agreement between a surety and SBA where SBA
agrees to assume a percentage of loss in the event a
contractor breaches the terms of their contract
 SBA’s guarantee strengthens a small contractor’s
ability to compete and secure bonded work
How Can SBA Help Small Contractors
Obtain Bonding?
 SBA guarantees bonds written by any surety approved
to participate in the program and listed in U.S.
Treasury Circular 570
 SBA provides a 70%, 80% or 90% guarantee through
two separate programs
 The Prior Approval Program, administered by two
Area Offices, provides either an 80% or 90% guarantee
based on the contractor’s demographic information.
The Preferred Surety Bond Program, administered by
SBA HQ in Washington, DC, provides a 70%
What are the Eligibility
 The applicant must be a small business
 Average annual revenues for the past 3 years (or
number of employees for manufacturing firms) cannot
exceed the small business size standard established for
their primary NAICS code as outlined in 13 CFR 121.201
 The contract must require bonds
 The contract cannot exceed $6.5 million in size (Use to
be only 2 million, can go up to $10mm on federal
projects that are approved by contracting officer)
How Are Applications
 The agent reviews the contractor’s application package
and recommends it to a surety for approval
 The agent forwards an electronic application and
complete application package to an OSG Area Office if
the surety agrees to bond the project with SBA’s
 SBA issues a guarantee to the surety when an
application is determined to be qualified
 The agent executes the bond
How Long Does the SBA Bond
Process Take?
 Agent and Surety require time to evaluate the
contractor’s information prior to submission to SBA
 SBA Office of Surety Guarantees has established a goal
for processing applications within an average of four
(4) Federal working days
 Working Capital Calculation = OH MY GOODNESS
 Bank Line of Credit…. Used as Working Capital
 Can be helpful if you are in a Joint Venture
 BUT……Surety company still underwrites the account
What Costs Are Involved?
Surety Charges
 The surety charges the contractor a premium for
performance, payment and ancillary bonds based on
the rates approved in the state where the job is located,
usually between 1.5% and 3% of the contract amount
 SBA Charges a Contractor’s fee of .729% of the contract
amount for each final bond guarantee
 SBA does not charge a fee for a bid bond guarantee
 Get to know a banker who understands bonded
contractors. Watch out for COVENANTS AND
 Should be a local bank – so you know each other
 GET a line of credit BEFORE you need it! Someday,
you might have a client not pay you – and you can’t get
a line then!
 Line good for job start cash flow, too.
Paperwork You’ll Need
 Contractor Questionnaire – fill it in COMPLETELY!
 Resumes
 Financial Information
Three years of fiscal year end financial statements
Current interim if over three months since year end
Personal Financial Statement
Current Work In Progress Report
Accounts Receivable Aging, with retainage listed separately
Certificate of Insurance
Bank reference information
Copy of Bank Line of Credit
Subcontract Agreement, if you’re a GC
Continuity Plan
Company brochure, or any other information to help tell the bonding
company about your organization and its successes.
Selling your company to the
bonding company
 Help your agent learn what he needs to know to help sell
your company to the bonding company.
 How do poor plans & specs affect your bids? HIGHER
 For bonding companies
 Poor presentation = Higher Price AND LOWER capacity.
Bonding company review process.
Agent should send your file to more
than one bonding company. But
DON’T “Flood the Market”
Meet with the underwriter(s) offering
the best preliminary program
What is the General Indemnity Agreement?
 It’s your contract with your bonding company
 Bonding is NOT insurance – YOU WILL be reimbursing the
bonding company if they pay for anything! The premium you
pay is an underwriting fee, not a pooled risk fee (losses are not
expected or priced into your premium)!
They can even request that you give them collateral if they
even THINK there will be a claim situation.
All owners with 5%+ ownership, AND (in Texas) spouses will
be on GIA
In Texas, homestead not on the table
Retirement plans (IRA’s, 401K’s and Keogh’s) not included
Read it carefully or have your attorney. No changes accepted!
 Bonding company is your NEW PARTNER.
 Surprises are great for Birthdays, not Bonding
 Let your bonding company know the GOOD and the
 Better to hear it from you vs. anyone else
 Competitors WILL gossip, or make up stuff
 Bonding companies have seen nearly every problem you
can think of:
Project problems
Key employee changes
Profit slippage
Health problems
Employee theft (GET A FIDELITY BOND!)
Clients not paying
 Claims on your bonds
 Payment bond claims are common-subs & suppliers’ claims,
even if you don’t know about them. YOU can request subbonds which guarantee subcontractor performance and
payment to protect YOURSELVES.
 Performance bond claims are less frequent
 If YOU become a claim for your bonding company, be
sure to cooperate!
More bonding information sources:
 AGC National Office
 ABC National Office
 NASBP – Professional Association of Bond Producers
 SIO – Surety Information Office
 SAA – Surety Assoc of America
Baldwin-Cox Agency
5930 Preston View Blvd., Suite 200
Dallas, Texas 75240
Brady K. Cox
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