IN AN UNCERTAIN ECONOMY, WHY IS IT IMPORTANT FOR CONTRACTORS TO INCREASE THEIR CAPITALIZATION IN ORDER TO MAINTAIN SURETY CREDIT?
Brock Masterson
COO – Surety Division
Crum & Forster
Surety Division
Even the best contractors can’t foresee every challenge throughout the life cycle of a construction project. Supply-chain delays, cost inflation, unexpected change orders and contractual claims can wreak havoc on project schedules, profitability and, perhaps most importantly, cash flows. Contractual dispute-resolution clauses often require contractors to continue working and performing their contracts during the claim-resolution process, regardless of ultimate responsibility. To the detriment of the contractor, this process often includes a combination of mediation and arbitration before proceeding to litigation. This can lead to contractors using their own capital to fund disputed work—potentially for years and many times without payment by responsible upstream parties. During the past year we have seen news coverage of numerous contractor failures due in part to liquidity problems caused by litigated contractual disputes. Contractors should build balance sheets that maintain sufficient capital and liquidity, so unexpected conflicts or cash-flow issues cannot impair the ability to pay bills as they become due. Establishing stable credit facilities to support unexpected cash-flow shortages on a short-term basis is a best practice. Firms should build strong relationships with bankers, attorneys, surety agents and surety carriers, as they can offer valuable insights on the best practices needed to overcome unexpected conflicts or cash-flow issues. A disciplined financial plan and trusted professional relationships can help contractors weather uncertain times.
HOW DO RELATIONSHIPS WITH THE SURETY PRODUCER, UNDERWRITER, BANKER AND OTHER PROFESSIONAL ADVISORS IMPACT A CONTRACTOR’S ABILITY TO OBTAIN BONDING?
Ryan Springer
Vice President-Bond
EMC Bond
A strong surety-contractor relationships goes beyond transactions; it’s a true partnership that can weather the ups and downs of business. This partnership should be consultative and collaborative, extending to the contractor’s surety producer, banker and accountant.
Having a dedicated team of advisors transforms a contractor’s journey, ensuring stability, growth and a pathway to becoming an industry leader. Advisors offer valuable insights and guidance, helping contractors navigate challenges and seize opportunities. Together, they ensure that the business remains financially stable and ready for new projects and increased surety capacity.
This teamwork not only strengthens the contractor’s bond program and credit but also drives overall growth and profitability. By nurturing these relationships, contractors can achieve best-in-class status, solidifying their position in the industry. Ultimately, a strong support system is crucial for long-term success and resilience in a competitive market.
IS IT IMPORTANT TO A CONTRACTOR’S ABILITY TO OBTAIN SURETY BONDING TO HAVE A BUSINESS CONTINUITY AND SUCCESSION PLAN IN PLACE?
Guy Tenold
Senior Director, Business Development
Nationwide Surety
Yes, it definitely is. I have been in the business for 37 years and I have seen serious or even fatal accidents involving contractors occur in the middle of a project. When something tragic like that happens, the project is thrown into turmoil. As a surety, if we are bonding a contractor, we need to know that they have a plan in place in the event of a serious or fatal accident to ensure the project will be completed, as promised.
And while that is important for us as a surety, it is equally important for contractors that they have a continuity or succession plan in place in case there is a serious disruption in their ability to complete the work. That’s because having a plan will help protect their employees and their families if an injury or worse occurs. It is in the best interest of all parties that there is a contingency process in place to complete the project, because it increases the likelihood of financial stability and reduces the chances of litigation.
Continuity plans are especially important for larger projects with a longer duration since the longer a project is, the greater the risk of a significant disruption. However, a continuity plan is important for smaller or shorter projects because, given the nature of risk, anything can happen at any time.
When contractors go through the effort of developing a continuity plan for their company, it demonstrates to sureties that they are a good-faith partner and a more worthy risk.
Tom Williams
Underwriting Director
CNA Surety
Business continuity planning is a critical piece of the Surety/Contractor relationship. Sureties want to know what happens to their bonded work if something happens to key people and/or shareholder(s). More importantly, a well thought out continuity plan can benefit key employees and protect family members in the event of the incapacitation or death of one or more key people or shareholders. The responsibility–and liability–of the construction company often falls on family members who are unprepared for that responsibility, thus jeopardizing family assets as well as careers.
Continuity planning falls into two, general categories: Completion Planning, and Continuance Planning.
Completion planning simply involves a plan to finish all outstanding work so that the business will wind down in an orderly fashion, satisfying all obligations (performance and financial) in a way that relieves all interested parties of those obligations. It should be supported by a formal agreement with those key people, identifying the individuals and how they will be compensated.Continuance planning on the other hand, involves a formal plan to transition company ownership to others. Business continuance plans are many and varied in their structure. Such planning helps ensure the future viability of the firm and provides an exit strategy for the current owners, who are compensated for the transfer of ownership.
Regardless which option is chosen, having a plan to complete the work and satisfy outstanding obligations is an important piece of any business owner’s larger financial plan. It is an equally important part of the surety underwriting process.
WHY IS IT IMPORTANT TO PROVIDE THE SURETY WITH A CERTIFIED FINANCIAL REPORT?
Mike Hall
Vice President – Surety
Philadelphia Insurance Companies
Featured Products
Providing the surety with certified financial reports is important for several reasons. The first reason is risk assessment. Sureties need to assess the financial stability and creditworthiness of the principal (the party seeking the bond). When prepared by a construction-oriented CPA, certified financial reports offer a clear, accurate picture of the principal’s financial health.
These reports also help sureties with decision-making. Sureties use these reports to make informed decisions about whether to issue a bond and under what terms. Accurate financial data helps a surety evaluate the risks associated with the project or contract.
Since they are often audited by an independent accountant, certified financial reports provide transparency and assurance that the information is reliable. This transparency helps build trust between the surety and the principal.
In addition, certified financial reports are important for compliance. Many sureties require certified financial statements as part of their underwriting process when a contractor performs larger projects. Failing to provide these can lead to delays or denial of bond issuance.
Finally, these reports are important for ongoing monitoring. Even after a bond is issued, sureties typically request updated financial reports to monitor the principal’s financial condition throughout the bond’s life. This helps manage potential risks early on.
Overall, certified financial reports play a crucial role in the bonding process, ensuring all parties have the necessary information to make sound financial decisions.
Tim Mahoney
Principal – Construction Industry
CLA (CliftonLarsonAllen LLP)
Providing a certified financial report demonstrates a contractor’s commitment to maintaining high standards of financial management and accountability and helps to establish a foundation of trust between the contractor and the surety. A certified report from a qualified construction CPA provides a comprehensive overview of the contractor’s financial health and operations, offering a clear picture of the financial position, which is critical for the surety’s evaluation process. It provides a level of consistency and transparency in the contractor’s reporting. It also enables sureties to base their critical decisions on the financial strength of a business and evaluate the contractor’s ability to meet their obligations and handle potential risks. This can ultimately lead to better bonding terms, lower premiums and increased opportunities for contractors to secure projects and grow business.
The information contained herein is general in nature and is not intended, and should not be construed, as legal, accounting, investment, or tax advice or opinion provided by CliftonLarsonAllen LLP (CLA) to the reader. For more information, visit CLAconnect.com.
HOW CAN TRANSITION OF OWNERSHIP AFFECT A CONSTRUCTION FIRM’S ABILITY TO OBTAIN SURETY BONDING?
Monique Nightingale-Pitter
Vice President, Construction Surety
Chubb
Construction Surety Bonds
A construction company’s principals may desire to transfer ownership due to reasons such as retirement, succession planning or the need for additional capital or expertise. This transition can take various forms, including internal management buyouts, employee ownership, mergers/acquisitions, sales to competitors or investors, or even going public through an IPO.
Whatever the reason, any time a construction company is considering transferring ownership, it is important to consider the impact on their surety relationship and involve their surety in discussions early in the process. An ownership transition can have various implications on the company’s ability to obtain surety bonding. Two major considerations that surety providers will review are financial impacts and key personnel changes.
Ownership transitions often bring about substantial financial changes for the company. For instance, increasing debt or reducing capital to finance the transition can negatively impact balance sheets. Such financial consequences can make it more challenging for the surety to provide capacity at the construction company’s preexisting limits.
In addition to the financial impact, the surety’s relationship with key personnel who are responsible for driving the construction company’s continued success also plays a crucial role. If the ownership transition introduces new or inexperienced key personnel to the company, it may impact the surety’s consideration whether to support larger, more complex projects.
It is imperative to have a clear, well-defined transition plan in place along with proactive and transparent communication with the surety throughout the ownership transition process. By doing so, construction companies can navigate this period smoothly while preserving strong bonding capacity.
Shawn Scott
Chief Underwriting Officer, Contract East
Liberty Mutual Surety
Surety Solutions
A construction firm’s ownership transition could impact surety credit, but presents an opportunity for the contractor, agent and underwriting team to align business continuity with surety needs. Early and often communication is key to understanding the intent of an ownership change. It is important to bring the surety in early to allow an opportunity to ask key questions and help identify potential impacts on surety credit. Underwriting considerations include understanding the ownership transaction and assessing the quality of management succession. An ownership transaction is mostly financial in nature, while management succession is largely about people. Underwriters will want to understand the purchase price and related impact to the business plan. Company valuations should be performed by an independent, reputable firm. Providing components and expectations contributing to the valuation, including forecasted balance sheets and income and cash-flow statements, helps create alignment between contractor and underwriter. A construction company’s results can be volatile. Frequently, a consultant will secure different valuations based on various revenue and margin assumptions. This information helps the underwriting team determine surety credit related to need. Managing succession planning can be difficult. Successful ownership transitions develop continuity plans long before putting the company up for sale. Strong leadership and culture promote the best engagement and alignment to revenue and profitability objectives. Key business relationships need to be maintained. In the end, construction firms benefit from early planning, putting the right people in place, and maintaining adequate capital through an ownership transition.
Jason Dettbarn
SVP – National Contract Surety Leader
Merchants Bonding Company
Succession Planning
A well-crafted succession plan ensures the continuity of a contractor’s business and is a vital aspect of a long-term business strategy. It can also significantly impact a company’s surety credit, which is why it’s so important they invite their surety’s input when selecting a succession plan. The three most common options are an internal transition, an external sale, and an employee stock ownership plan. No matter which option a contractor selects, sureties want the plan to address the following:
Continuity and Stability: A well-structured succession plan ensures business continuity and keeps key operational and financial personnel in place which can improve a contractor’s surety credit.Financial Wellbeing: Financial arrangements tied to a succession plan can severely affect a contractor’s balance sheet. Sureties will review these transactions to assess their impact on financial strength and surety limits.Experience and Leadership: The experience and track record of the incoming leadership are critical. Sureties are more comfortable with leaders who have a proven history in the industry.
Integrating succession planning into the broader strategic framework is essential for contractors who aim to safeguard their business’s future. Contractors should involve their surety partners early, through communication of plans and updating them on significant changes, in order to protect their ability to obtain or retain their surety credit.
Henry W. Nozko, Jr.
President
ACSTAR Insurance Company
Transition of ownership may or may not have an affect on obtaining bonds. Under some structures there is no affect to a surety program but under other configurations there could be a substantial affect including discontinuation of a surety program.
In family-owned construction companies, if ownership is transitioning from one generation to another, and both generations are active in management, and the company is not leveraged to accommodate the transition, there is usually no change in availability to bonding.
When an owner-operator sells its ownership in a construction company to an unrelated third party, but continues to manage the company, and the company’s financial position is not leveraged by the acquisition, and the new ownership provides indemnification to the surety, it is unlikely any change will occur in the surety program.
If a construction company is sold to a third party in a leveraged buyout, financed in part by the company, then the surety program is usually reunderwritten and the terms for surety usually change. If the new owner provides indemnification and has substantial financial resources, that would mitigate changes in the terms.
If a contractor is sold to a private equity firm and the company is leveraged in part, to finance the acquisition, and the private equity firm does not provide indemnity, most likely the surety program will be discontinued.
The above are just a few examples of how ownership transitions can affect availability of bonding. If an ownership transition is being considered, and the company relies upon having access to a bonding program, before proceeding, careful analysis should be given to the affects the transition may have on the availability of bonding.
WHAT FINANCIAL HEALTH CHECKLIST WOULD YOU GIVE A CONTRACTOR SEEKING SURETY BONDING?
Todd Feuerman, CPA, CCA, MBA
Director in the Audit and Accounting Department
Ellin & Tucker
Contractors looking to secure surety bonding must have their finances in order. Sureties need confidence in your company, your people, your reputation and ultimately, your financial well-being. Here are the five most critical areas to focus on:
Accurate Financial Statements: Ensure your financial statements follow proper accounting standards and are accurate for under-writing purposes. Financial statements should include a balance sheet, income statement, and a schedule of contracts completed and in progress as of a defined reporting date.Up-to-Date Work-in-Progress Schedule: The WIP schedule is probably the most important source of data you need to prepare for financial statements and by far the most important schedule a surety will need for underwriting.Strong Financial Health: Good health is important and that includes the financial strength of your business. Sureties will examine it closely as they build a bonding program.Bank Credit Availability: A solid relationship with your bank is crucial. Sureties like to see that you have access to a suitable line of credit to assist in cash flow planning.Manageable Project Backlog: A healthy backlog of future projects shows stability but don’t overextend yourself. Sureties want to see that your backlog matches your capabilities, experience, geographic comfort zones and financial resources.
These five items will help ensure financial fitness to secure the surety bonding needed to grow your construction business. Take these steps to ensure you’re not just ready to get bonded—but to thrive as a contractor.
HOW DO SURETY BOND CLAIMS IMPACT A CONTRACTOR’S ABILITY TO OBTAIN FUTURE BONDING?
Darrel Lamb
Regional Vice President
Old Republic Surety
A claim on an existing bond or bonds will not automatically end all future bond approvals. Claims are sometimes a part of doing business and often can be resolved with good communication and cooperation of the principal. However, if communication and cooperation breakdown and the claim(s) result in the surety writing checks, surety credit on new projects could be suspended resulting in a declination for a new bid. It is always in the contractor’s best interest to resolve claims as quickly as possible to not interfere with their ability to bond new work.
If the underlying reason that triggered the claim is the result of some material adverse change to the construction company, then these issues would likely need to be rectified before the surety would consider additional bond credit.
The surety application for new surety credit will ask if the contractor has had previous surety claims or if a prior surety has paid out claims on the contractor’s behalf. If the answer is yes, this will be a red flag to the new surety and may result in further investigation of the circumstances around the prior loss and may result in the decline of surety credit. If the contractor has made the surety whole again after a payout, the outlook for future bonding capacity is greatly improved.
HOW CAN A CONTRACTOR PROTECT THEMSELVES FROM SURETY BONDING FRAUD?
Zach Mendelson
NASBP President
National Association of Surety Bond Producers
Social Media: @nasbp
Contractors and subcontractors can take simple actions to avoid becoming inadvertent victims of fraudulent or unauthorized bonds. Construction businesses should undertake a straight-forward two-step process to verify all bonds: first, determine the authority of a surety to issue a bond in the jurisdiction of the project—i.e., that the surety company possesses a valid certificate of authority from the state insurance commissioner—then verify that the surety company actually authorized issuance of the bond. To determine if the surety has the necessary certificate of authority, contact the relevant state insurance department directly. See the National Association of Insurance Commissioners to get state-specific contact information. Please note that calling the insurance department ensures that you receive the most current and complete information about the surety company’s status. Next, verify that the surety authorized the issuance of the surety bond. Contact the surety company directly to receive verification that the surety bond has been duly authorized by that surety company. Contact information should be available from the state insurance commissioner and, if the surety company is certified to write surety bonds on federal contracts, from the U.S. Department of Treasury Circular 570. Remember that your licensed bond producer is an invaluable resource about the market reputation of individual surety companies and can guide you in this process, including helping direct you to the right contacts.
WHAT ARE THE MOST COMMON REASONS A SURETY BONDING APPLICATION IS DENIED?
Josh Billiard, CPA, CCIFP
Partner
Plante Moran
Surety underwriters are experiencing greater losses recently (size and frequency) compared with the last few years. Driven by concerns that contractors have been artificially buoyed the past few years by government subsidies such as PPP and ERC funding, which has now run dry, underwriters have a heightened focus on the basics of working capital, tangible equity and overall debt loads.
In this environment, contractors will struggle to obtain bonding for two primary reasons:
The contractor’s fundamentals are not aligning with more traditional pre-COVID/pre-government subsidy benchmarking required for the type of bonding program requested. In particular, contractors asking for greater single-job or overall bonding program coverage may be in for a bad answer when the contractors’ working capital and tangible equity are weaker compared with pre-COVID/pre-government subsidy measurements.Challenges with executing the current work program profitably, with significant profit fade from previous projections.
As is always the case with obtaining surety bonding, the earlier the contractor requests the needed program, the better. If a contractor has a weakened balance sheet now compared with recent history, the time is now to open up dialogue with the bonding agent to avoid an untimely denial.
Given the greater volatility underwriters have experienced in contractor performance recently, combined with a challenging reinsurance market, they are simply not taking as much risk now compared with the last few years. Contractors would benefit from greater frequency of communication and collaboration with their bonding agents to ensure those agents can effectively manage their client’s need with the underwriters.
HOW SHOULD CONTRACTORS APPROACH THEIR PLAN RENEWALS THIS YEAR?
Steven D. Davis
Director/Senior Vice President
McGriff Construction Insurance Services
Contractors with upcoming insurance renewals should consider four best practices to assure that they are getting optimal results from the underwriting community. First of all, start the renewal process earlier than normal, about 90 or more days in advance. Underwriters are getting to look at multiple accounts due to the current market conditions, and the objective is to allow ample time to sort through options, coverage issues and any required actuarial analysis. Secondly, the underwriting submission should be comprehensive and recommend that the AGC risk profiler be completed, which will allow a deep dive into the construction operations as well as risk management and safety/loss control practices.
Relationships matter in this business and can make a difference when managed well. Think about delivering your renewal jointly and in-person, with key individuals from the construction company.
Lastly, more and more contractors are looking at captive or other risk-financing solutions to better manage their insurance programs. Whether a construction group captive or single-parent facility, contractors do have options to evaluate during the process.
SEE ALSO: EXECUTIVE INSIGHTS 2023: LEADERS IN SURETY BONDING
