Here is an interesting question, and the answer has important implications for you. Even if you are providing Bid and Performance Bonds on your projects, you may not be bonded. Sounds crazy? Read on.
For most contractors, the vehicle used to perform the construction activities is a corporation or LLC (Limited Liability Company). Remember the bonding questionnaire you completed? The top line asked for the Legal Company Name, not your name.
And consider the bonds that were issued. The “Principal” is the party whose actions the bond concerns. Who is the Principal on your bonds? Unless you are a sole proprietorship, your company is the named party, not you personally. What’s so significant about this?
For the bonding company, the decision making on bonds (the underwriting) is primarily focused on the principal. In most cases, that means they start the review by looking at the company, not you personally.
- What projects has the company successfully completed?
- What is the financial condition of the company?
- How does the business D&B credit report look?
The business is the principal on the bonds, and the primary indemnitor on the General Indemnity Agreement. From the surety’s point of view, when a claim or problem arises, it is the company they’ll look to for a solution – and for financial recovery. The individual owners are secondary.
Company is a Legal Entity
Here’s the catch. You may feel that you are the company. It’s seems that all the assets should be viewed together because they ultimately belong to you, but the surety doesn’t see it that way. The bond underwriter recognizes the company as a separate legal entity.
Why do people form companies and operate through them instead of conducting all business personally? There are tax advantages, of course. But the other reason is the legal protection that is afforded. There is a hint in the name “Limited Liability Company.” The separation that exists between the assets of a company and its owners is a primary reason to form corporations and LLCs. This separation is the reason underwriters focus on the company, and depend on it as the primary buffer between the surety and a bond loss.
Financially Strong Applicant
For the business owner, it is important to remember that money left in the company is more beneficial to your bonding than funds that are taken out by bonus or distribution. When we look at companies that have not typically needed surety or bank credit, we may see profitable operations but very little net worth. The owners are not interested in making the company rich. After all, the mission of the business is to make money for its owners, so the net worth flows out to their personal financial statement.
For bonding purposes, this strategy can be detrimental. When a profitable company is kept poor, it can have great difficulty qualifying for bonds. The company is the applicant. If the applicant looks weak because funds have been drained, bonding support may be difficult or impossible to obtain.
When owners choose to leave money in the company, and allow it to build up, they are making a direct investment in the company’s future. The benefit is paid back in multiples when higher bonding capacity facilitates the acquisition of larger contracts, more sales, and more profits.
Who Has the Experience?
Another important underwriting element is the prior experience. When a highly experienced person starts a new company, how is this issue addressed? The company may have little or no experience, but the key person may have a long personal track record. Can that help the new company? It is not equivalent to work accomplished by the new organization, but it is relevant nevertheless. Provide details concerning the size, nature and location of the prior jobs. Identify the key person’s role. (Project Manager? Field Superintendent?) These facts can help overcome the company’s lack of history.
If you operate as a sole proprietorship, everything is “you.” However, if you use a corporation or LLC, it is a separate entity. Your business vehicle must be cultivated and groomed so it can qualify for surety and bank credit when needed. Failure to do so can hinder future bonding and growth opportunities.
Think like an underwriter. Make sure your company can qualify for bonds. It is the company that is the applicant and bonded entity, and it is your means of achieving personal financial success.
Contractors, when you need a bond give us a call. We also welcome brokerage opportunities.
Bonding Pros: 856-304-7348 www.BondingPros.com