Contract surety bond underwriting is an art however the artist must also be an analyst. Analyzing the financial condition of a bond principal does not admit creativity. In fact, being “creative” with the numbers is a strict no-no. Coupled with a discerning eye for the values on a financial statement and their relationships, the performance bond underwriter must be able to match up the “logic” of statement with the information on a contractor’s work on hand (WoH) or work in progress (WiP) report. If a principal’s financial statement is prepared on a percentage of completion basis and the work on hand schedule is fresh and accurate, then it is fairly simple to pair up revenues with specific jobs, over and underbillings. The result? The underwriter feels much more comfortable with the accuracy of the entire financial presentation.
A work on hand schedule is simple a contract status report. Underwriters refer to the projects that appear on the report as a contractor’s “backlog”. The value of the work in progress document is the addition of “contract performance” information to the financial picture. Why is this contract performance overview important to performance bond approval? Without going in to detail (which we will explore in future posts) the most important backlog considerations are:
- Capacity of the contractor to perform open and anticipated jobs without overextension.
- Contractor’s ability to continue to finance ALL work on hand and presently anticipated.
- Developing a clear understanding the risk posed to the contractor by each open job.
Work on hand is an excellent predictor of future operating results. Not only should the performance bond underwriter be able to understand backlog. The contractor as well must have a profound understanding of a healthy WiP and whether his or her report demonstrates maximum use of the contractor’s capacity and financial resources. Both parties must review the work in progress on a qualitative and quantitative basis. For example, profit margin adequacy and stability are key qualitative considerations. Under/overbilling amounts, backlog amounts, gross profit amounts (the key word here being “amounts”) are largely quantitative. When paired with the contractor’s financial statement matching similar revenue periods, the performance bond underwriter’s clear understanding of each of the open jobs and their inherent risks, and the perception of a healthy backlog contract surety bond capacity can be much more generous.
Interested in learning more about contract performance bonds? We recommend two excellent publications on the topic at PerformanceBond.com (Learn page). Call us at (800) 373-2804 and ask for Constantin Poindexter or email Underwriting@SuretyOne.com for more. National surety bond leader, Surety One, Inc. is an experienced underwriter of contract surety bonds. We offer experienced support of your bid, payment and performance bond needs in all fifty states, Canada, Puerto Rico and U.S. Virgin Islands. We accomplish rapid review and response to your performance bond request regardless of the contract class.