For contractors who bid public work or work for owners who require bonds, bonding capacity sets the limit on how much work you can take on. That capacity is decided largely by how a surety underwriter reads your year-end financial statements. Knowing what underwriters look for, and preparing your statements with that in mind, can be the difference between growing your backlog and turning down work.
The three Cs
Underwriters weigh character, capacity and capital: your reputation and track record, your ability to perform the work with your people and equipment, and the financial strength to absorb a problem job. Your financial statements are the main evidence of capital, and they inform the other two.
The right level of CPA report
Sureties expect statements prepared by a CPA who understands construction. As your bond program grows, the required level of assurance rises from a compilation to a review to an audit. Ask your surety agent what your program requires; delivering less than expected can limit your capacity.
Working capital and equity
- Working capital, current assets minus current liabilities, measures liquidity. Underwriters often size bonding capacity as a multiple of it.
- Net worth shows the cushion available if a project goes badly.
Underwriters adjust both figures. Receivables more than 90 days old, amounts due from owners or related companies, prepaid expenses and some inventory may be discounted or excluded. Loans to shareholders in particular can reduce working capital in an underwriter’s eyes.
The work-in-progress schedule
The WIP schedule is often the most scrutinized page in the report. For each open job it shows the contract value, estimated costs, costs and billings to date, estimated gross profit and percentage complete. Underwriters look for:
- Underbillings (costs and earnings in excess of billings), which can point to billing delays, cost overruns or optimistic estimates;
- Profit fade, where gross profit estimates shrink as jobs progress, suggesting estimates weren’t reliable; and
- Concentration, where one large job dominates your results.
A schedule of completed contracts, comparing estimated to actual profit on finished jobs, shows how accurate your estimating is over time.
Timeliness and consistency
Statements delivered long after year-end raise questions; sureties generally expect them within 90 to 120 days. So do changes in accounting methods, inconsistent job-cost reporting and large year-end adjustments. Many sureties also ask for interim WIP schedules during the year.
How to strengthen your bonding capacity
- Keep profits in the company rather than distributing them, and avoid large shareholder loans.
- Bill promptly and collect receivables to reduce underbillings.
- Maintain a bank line of credit that is available but not fully drawn.
- Review job estimates regularly so profit projections stay realistic.
- Meet with your CPA and surety agent before year-end, while there is still time to act.
How we help
We prepare compiled, reviewed and audited financial statements for contractors, including WIP and completed-contract schedules, and we work directly with surety agents and underwriters. If you plan to grow your bond program, talk with us before your next year-end. Learn more about our construction practice.
This article is general information, not accounting, tax or legal advice. Requirements vary by surety and bond program. Consult your advisor and surety agent before acting.