What Affects Bonding Capacity in Construction?
Improving your bonding capacity is a great goal, but without understanding the factors that play a part in determining your bondability, you risk focusing on elements that are of little consequence to a surety or inadvertently doing something that negatively impacts your bondability. In order to arrive at a destination, you need directions, and below we’ll lay out the map for increasing your bonding capacity.
To better help California contractors take the initial steps towards growing their bonding capacity and successfully bid on the projects they want, we’ve assembled this guide to understand what affects bonding capacity in construction.
The Guide to Increase Your Surety Bond Capacity
To help California contractors understand bonding capacity and how to increase it, we’ve assembled this handy guide below to help you navigate the processes along with tips for increased capacity.
Factors That Affect Bonding Capacity in Construction
Sureties examine several aspects of a contractor’s business, from past experience and internal financials to their character and team. Read below and learn about each of these factors in greater detail to understand bondability from a surety’s perspective.
The Character of the Contractor
The most important underwriting factor that surety companies look for is strong character which is why we ranked it at the top of our list. A few of the specific character qualities that a surety looks for when determining bonding capacity are integrity, transparency with others, clear and timely communication, and judgment. While a successful financial track record is very important to surety companies, it doesn’t mean much if the owners and key management of the construction company are unscrupulous and can’t be trusted.
To determine if a contractor has quality character, a surety will meet with a contractor and their key team members to understand their personal backgrounds, their values and principles, the culture of their company, how they approach risk, and their goals and aspirations. The surety also checks references and examines the past project performance and job history of the contractor. Much like how an employer will want to look at an applicant’s past experience, a surety will want to examine your track record with past projects, whether or not they were completed within the schedule, claims filed against previous bonds, and if you have experience with similarly sized construction jobs.
The Capacity of the Organization
Having the people and equipment to successfully complete a project is essential to your bonding capacity. With respect to personnel, the surety will be looking to understand your capabilities both in the field and in the office to execute a particular project or manage a growing backlog. In the case of a growing backlog for example, the surety will want to know if you have enough field labor to staff the work, project managers to run the increasing number of jobs, and accounting staff to handle the billing and stay on top of potential change orders.
When it comes to your team and employees, a surety will look at their experience to find what kind of talent you have access to. For example, you may have a person on your team that has a decade or more experience with similar projects before working for your company, and a surety will factor in that experience before calculating bonding capacity or issuing a bond.
With equipment, a surety wants to know if you own the necessary equipment to execute the work or if it will be rented. If It’s going to be rented, is the equipment readily available or is it specialized creating potential risk in either the rental cost or schedule.
Internal financials, accounting practices, and the financial strength of your company are essential to both construction bonds and your bonding capacity, as these are the factors that help a surety provider determine the ability to cash flow work. There are also other aspects that can impact your bondability that a surety will look at, such as:
- Bank line of credit
- Claims and Change Orders
- Work-in-Progress schedules
- Accuracy of your internal financials
Construction accounting is unique to our industry and requires specialized knowledge and experience. To better your bondability, it’s a good idea to work with a construction-oriented CPA to ensure your statements are error-free. Having a construction-oriented CPA also provides the surety with further verification that your accounts and financial documentation are accurate.
Having a bank line of credit shows the surety that you have access to cash if a project was underestimated or doesn’t go as planned. You can think of it as a life raft in the event you spring a leak in the boat as a result of a bad project. And just like you would want the life raft on your boat before leaving the port, you want to have a bank line of credit in place before there is an issue on a project as a bank is not likely to bail you out when things are going poorly. As the saying goes, banks will generally lend you money when you don’t need it, not when you do.
Your work-in-progress schedule is looked over to see if you’re stretched too thin or have unapproved change orders, increasing the risk of running out of available money and being unable to finish your projects. To learn more about this, read our article:
Why It’s Important to Work with a Surety Specialist
Another factor often overlooked by contractors trying to invest in building up their bondability is their surety agent. While some use their insurance agents for their surety bond needs, a professional surety agent whose career is devoted to surety bonds would make a better ally as their knowledge is specialized to surety bonds, bonding capacity, and the construction business. Think of it this way, you wouldn’t go to a foot doctor for a heart problem would you? Having a quality surety specialist by your side can help you navigate bonding capacity, and show you the road towards increasing it, among many other advantages of working with a surety expert. That’s why we at CSBA create these guides and publish articles, to help California contractors learn the intricacies of bonding to build their business.
We are committed to our partnership with California contractors and endeavor to help them toward their business goals by guiding them on the steps to take to increase their bonding capacity.