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The conventional wisdom among construction executives is that surety bonds are a necessary evil. But surety bonds can be a blessing in disguise when a company fails on a construction project.



Surety bonds provide financial security and construction assurance on construction projects by providing a financial guarantee that contractors will perform the work and pay specified subcontractors, laborers and materials suppliers.

There are two types of surety bonds. A bid bond guarantees to the project owner that the winning bidder will undertake the contract under the terms at which they bid. When the job is awarded to the winning bid, a payment and performance bond is then required. The payment bond guarantees subcontractors and vendors will get paid on the project, while the performance bond is an insurance policy for the owner guaranteeing satisfactory execution of the project. If the contractor fails, then the bonding company comes in and takes over the project.

Surety to the Rescue

If a subcontractor is unable to complete a construction project, the relationship between the subcontractor’s bonding company and the project’s owner and general contractor can be stressed. This is because the bonding company often exercises the complete leniency of time for response as written in the bond, causing the project schedule to further slip from the contract commitment. However, there are the exceptional projects on which all interested parties pull together to turn a potential disaster into a success.

For example, during the construction of the new 420,000-square-foot Gaithersburg High School in Maryland, the bonding agency and the surety cooperated closely to understand the owner’s need for the school to open as scheduled. It facilitated a speedy resolution of the subcontractor default that paved the way for the successful on-time completion of the project.

Construction started in the summer of 2011 and completion was required by the first day of school in August 2013. Although the construction manager had some reservations about the original mechanical contractor, it was obliged to accept it because it was the low bidder and had been pre-approved by the owner, Montgomery County Public Schools.

The first indication of trouble came with the mechanical contractor’s inability to maintain adequate manpower on the job to remain on schedule. Then, in the fall of 2012, Insurance Associates learned suppliers had not received payment for previous deliveries to the jobsite and vendors were refusing to ship anything more until they were paid. Despite the mechanical contractor’s assurances that everything would be fine, the bonding agent’s team turned to the surety agent, which quickly determined it did not have the resources to complete the project successfully. They would need to be replaced.

In early January 2013, after obtaining bids from three subcontractors, The Hartford selected Shapiro & Duncan, Inc., based in Rockville, Md., which agreed to a cost-plus-fee arrangement to accelerate the work and get the project successfully completed.

[caption id="attachment_6620" align="aligncenter" width="467"]Shapiro & Duncan Shapiro & Duncan stepped in to complete the project on time.[/caption]

 

When Shapiro & Duncan entered the project, it was told the mechanical construction was approximately 65 percent complete. However, Shapiro & Duncan’s investigation and survey revealed the work was actually less than 40 percent done. Within two weeks, the contractor had 60 craft professionals working multiple shifts to bring the schedule back on track. Within eight weeks, it was able to bring the project back on schedule and finished in time for the original school start date.

Finding the Right Surety Bonding Agent

According to Stephen Spencer, president of Insurance Associates, there are five key questions a construction contractor needs to ask in order to find the right surety bonding agent.

  1. Does the agent add value to my relationship with a bonding company? The agent is the intermediary between the contractor and surety. Surety companies want an agent with knowledge of the industry and a good reputation with local bankers, CPAs and lawyers who specialize in the construction business.
  2. Is the agent experienced in handling surety bonds? According to Spencer, out of 1,000 insurance agents, only about 10 percent are surety specialists. Agents who specialize in surety bonds know what a surety company is looking for in terms of presentation of financials; they are able to communicate clearly the contractor’s business plan and work program for a proposed project.
  3. How many similar accounts does the agent handle in my industry? In Shapiro & Duncan’s case, it wanted an agent who handles other mechanical contractors.
  4. How many surety companies does my agent represent? According to Spencer, there are 40 different surety companies in the market. Some lean more to primes versus subcontractors. A company similar to Shapiro & Duncan needs a bonding agent that works with surety companies that are used to handling bigger contractors.
  5. Is my agent a member of the National Association of Surety Bond Producers (NASBP)? Membership in NASBP shows commitment by the agency to the surety industry as well as a level of education and familiarity with legislative issues that are important to the contracting community.
The key takeaway is contractors want to deal with a bonding agent with whom they have trust and confidence--someone who is looking out for the contractor’s best interest. That is because every contractor needs to have the right surety bond in their toolbox in case something goes wrong on a project.
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