Team with a Financially Stronger Contractor
The financial condition presented in the contractor’s statement is not the only qualifier for bonding. Typically, sureties only extend bonding credit up to one and a half times the largest job completed. The amount of work a contractor can finance at any one time is called bond capacity or aggregate backlog, and it often is defined as remaining costs to complete all jobs (bonded and unbonded).
Because general contractors finance little of the overall work, sureties typically extend more capacity—about 20 times the working capital. For subcontractors that finance most of the work, sureties extend less capacity—about 10 times the working capital.
Exceptions exist, and often allowances are made for larger jobs and programs if there is a teaming agreement or if joint-venture partners present greater experience and cash flow. Some sureties provide bonding capacity for an under-capitalized small business if it teams with a financially stronger contractor. The teaming partner would be the subcontractor to the small business prime contractor.
Often, an escrow agent controls the funds from projects structured with teaming arrangements. The escrow agent receives the funds from the project owner, pays all subcontractors and suppliers first, and then pays the prime contractor its earned income. (Over-billings will not be paid until earned.) Such funds held in escrow are protected from outside claims.
If the teaming subcontractor elects to indemnify for the prime contractor in lieu of posting a bond for its portion of work, the surety will want to disclose the indemnity to the contracting officer if the project is part of any federally certified program, such as 8(a)
As for joint ventures, some sureties only provide bonding support if they bond both partners. Otherwise, sureties enter a co-surety relationship, and each partner bonds its own portion of work.
The joint-venture agreement should spell out the work to be performed by each party. For example, one joint-venture partner builds the shell and the other performs the interior work. Often the best joint venture is one that is organized as an LLC. Here, the equity in the joint venture will be reflected on the balance sheets of the participating companies as a line item called “equity in joint venture(s).”
However, under the rules of the U.S. Financial Accounting Standards Board’s
Generally Accepted Accounting Principles, if one joint-venture partner actually controls the joint venture, and the joint venture is deemed to be a variable-interest entity, the activities of the joint venture should be consolidated by the controlling partner, rather than accounted for under the equity method. Consider the SBA Bond Guarantee Program
An alternative surety resource for contractors is the Small Business Administration's (SBA) bond guarantee program, which is designed to enable bonding credit for all small business contractors by guaranteeing up to 90 percent of the bonded risk. Small businesses do not have to be a participant in the SBA’s 8(a) or small disadvantaged business programs to participate in the surety bond guarantee program.
The program now considers bonding joint ventures as long as the small business contractor performs 40 percent of the work. The SBA can only consider jobs of $2 million or less, and the sales volume cannot exceed the contractor’s NAICS code for small business. Under the American Recovery and Reinvestment Act of 2009, the SBA could consider projects as high as $5 million and up to $10 million if funded by the stimulus bill.
There are two types of SBA plans. The Prior Approval Program (Plan A) requires the bond account to be submitted to both the corporate surety and the SBA for approval. The Preferred Surety Bond program (Plan B) is for corporate sureties that maintain, underwrite and approve bonds on the SBA’s behalf.
Although the website www.sba.gov
provides examples and insights into teaming agreements, this type of agreement is not yet included in the SBA’s regulation. Therefore, the prime contractor must demonstrate past performance and be financially strong enough to support the project, or enter a joint-venture relationship.
Until the SBA program can consider larger jobs, small businesses will need to team and joint venture with large businesses. A small business will find it difficult to obtain its own bonding given the sizeable backlog large business partners may have accumulated. Until RFPs are issued with less onerous conditions and in a size small businesses can handle, it will be difficult for small businesses to break through the “Catch 22” and obtain adequate bonding support on their own.