The Downfalls of Prequalification Shortcuts

It can be tempting during a severe market downturn to cut corners during the subcontractor prequalification process, but that plan is a dangerous gamble. Dependable, financially stable subcontractors are critical—now more than ever—to a project’s timely completion.

There’s really no excuse for an inadequate prequalification process in today’s market. New technologies and online tools have exponentially improved a general contractor’s ability to find and process information, no matter their size. By doing so, they can easily reduce risk and keep a project on budget and on time.

“There are some simple things that any general contractor can do, whether they’re large or small,” says Troy Dohmeyer, technical services manager of construction at Cincinnati Insurance. “It’s a matter of how they want to spend their dollars, a little now or a lot later.”

A rigorous subcontractor prequalification process is critical for managing default risk, reducing overall risk and keeping projects on budget and on time. In the process, a general contractor should gauge a subcontractor’s financial health by using pre-established risk and quality analysis criteria.

“It requires a formalized program that assesses subcontractors against a list of predetermined metrics,” says Matt Burrows, assistant vice president of commercial key accounts at Cincinnati Insurance. “It brings an objective view to analyzing subcontractors.”

Fundamentally, the “Three C’s of Prequalification” haven’t changed for years:

• Character – evaluating a subcontractor’s reputation, e.g., past claims, litigation, payment practices, etc.
• Capacity – evaluating a subcontractor’s ability to handle the size or type of project, e.g., experience, manpower, geographical reach, etc.
• Capital – evaluating the strength of a subcontractor’s balance sheet, working capital, cash flow, etc.

Unfortunately, the COVID-19 pandemic has added some wrinkles to the process. “Part of any good prequalification program is the financial analysis,” Burrows says, “but a subcontractor’s financial statement might not accurately reflect the impact of the last several months.”

Attrition and business failures have exacerbated the problem as existing companies become strained and struggle to find workers. Therefore, general contractors should have open and honest conversations with their subcontractors about the current state of their capital.

“That communication piece underlies everything,” Burrows says. “If you don’t have a good working relationship and consistent dialogue with your subcontractors, then you can’t be sure you’re going to deliver your projects on time and on budget.”

Of course, dependability goes both ways. General contractors should be equally reliable by paying subcontractors in a timely manner. It can be challenging in the current environment, as contractors burn through backlogs and cash flow is restricted, but paying promptly heightens the level of trust among project team members, improves communication and creates a stronger relationship.

Once the Project Begins

It’s never too late to minimize risk on a jobsite. There are steps a general contractor can take even after a project begins. If they’re faced with a struggling subcontractor, they should:

• Monitor every source of information available. Notice how subcontractors are performing not only on your job, but in the overall work program. Effective communication is vital to addressing potential concerns.
• Start asking questions. Engage the subcontractor directly to learn the depth of the problem and explore potential solutions. Use a proactive approach; schedule touch point discussions with every subcontractor on a project and develop a risk matrix. Ignoring a problem or hoping that it goes away can lead to bigger problems.
• Notify the surety. General contractors that can’t motivate a subcontractor to perform or that struggle to get answers to critical questions that could impact performance should put the surety on notice of default. This tactic may help get the subcontractor’s attention so you can obtain requested information.
• Make sure the subcontract provides the ability to suspend, supplement or terminate the subcontractor. The route you choose will depend upon the bond form and job circumstances.

Of course, the hope of any prequalification process is that it will circumvent these problems down the road. While not guaranteeing the elimination of risk, it can definitively improve the chances of an on-time, on-budget project, as well as help a project team weather any challenge—including a global pandemic.

For More Information, Visit CinFin.com