How Improving Equity Impacts Your Bond Program

Author, Andy Roberts, Account Executive, Surety Group, Rancho Mesa Insurance Services, Inc.

In our current series of articles, we are taking a deeper look into the properties of a balance sheet that will affect a contractor’s bonding capacity. We have previously discussed bonding capacity and summarized working capital in regards to the impact it can have on a contractor’s capacity. However, another very important component on the balance sheet that surety underwriters will consider is net worth, also referred to as equity.

Equity is calculated by subtracting a company’s total liabilities from their total assets on the balance sheet, and is a measurement that is used to determine their long term liquidity. From a bonding standpoint, surety underwriters love to see equity increase year after year. They analyze each item in the equity section of the balance sheet such as common stock, additional paid in capital, and shareholders’ loans. One item that carries a particularly large amount of weight is retained earnings.

Retained earnings represents the net income or profit that a company reinvests in its business after distributions are paid to the shareholders. This is important because as a general guideline we say a contractor can qualify for an aggregate bonding capacity that is ten times their company’s equity. Thus, their retained earnings heavily influence the overall equity of the company. Contractors looking to maintain a strong bond program, or increase their bond program, will want to retain as much profit in the company as they can. This allows their retained earnings and their equity to continue to grow through the years, making it even more important to have a knowledgeable and proactive bonding agent on your side. This should be someone who understands your business and overall goals, can analyze your balance sheet, and will discuss strategies with you to reach optimal capacity.

For many contractors, building a strong bonding capacity can create opportunities for significant revenue growth. Perhaps one of the more critical elements to note as you review your balance sheet is being educated on the importance of having strong retained earnings inside your financials. You can start this process and leapfrog your competitors when you request a quick capacity analysis from our surety team. They’ll provide you with a detailed evaluation.

To answer more questions about your bonding program, contact me at aroberts@ranchomesa.com or call my direct line at (619) 937-0166 and we can get started.

A Contractor’s Guide to Bonding Capacity

Author, Andy Roberts, Account Executive, Surety Group, Rancho Mesa Insurance Services, Inc.

For contractors that do a lot of bonded work, their bonding capacity is a critical element of their business. Capacity often determines which projects a company can and cannot pursue, so it is managed very closely. However, for contractors that are new to bonding or have not bonded previously but remain interested in performing bonded work, this is likely a foreign concept to them. So, what is bonding capacity, and what items determine the amount of capacity that a surety carrier is willing to offer?

Generally speaking, a contractor’s bonding capacity is comprised of single and aggregate limits, where the surety underwriter will approve performance and payment bonds for a job, up to the single limit. The aggregate limit is the cap that the surety carrier sets for how much total bond liability a contractor can have extended at one time. Having these caps is what makes it important for contractors to have an understanding of what information sureties use when determining how much capacity to offer. Underwriters will look at personal and business credit, industry experience, as well as personal financial wealth. Typically, though the most important item a surety underwriter will focus on is the company’s financials, specifically, their balance sheet and income statement. 

When reviewing the balance sheet and income statement, two important items that an underwriter will be reviewing are the contractor’s working capital and their equity. We took a deeper dive into working capital in a previous article, but simply put, working capital represents a contractor’s current assets minus current liabilities, and this measures how much a company has available to pay its current debts. Equity, or net worth on the balance sheet, is made up of retained earnings, common stock and additional paid in capital, and these numbers provide a measure of the long term liquidity of a company. Surety carriers take a hard look at this number because they want to ensure that there are sufficient reserves to complete the work that they have issued performance and payment bonds on.    

Building an effective bonding program can take time and requires collaboration with competent, trusted advisors. Determining what type of bonding capacity you can establish and/or deserve is a key part of the process. To find out what your bonding capacity looks like, request a quick capacity analysis and I will provide you with the information you need for your company. To answer more questions, you can email be at aroberts@ranchomesa.com or call my direct line at (619) 937-0166. Stay tuned for my next article which will take a deeper dive into strategies for improving equity and how this can increase capacity.