Underwriting Larger Bid Bonds
Credit
Surety Bond underwriters want to verify that contractors have the financial strength to complete a project before providing a bid bond. An underwriter will generally want to see three years of a contractor’s financial statements to qualify for a bid bond. They will usually want to review the personal financial statements of the owner(s) as well.
They will also request a contractor’s
Work-In-Progress report to see how the contractor’s current
backlog is going and to look at profitability on existing projects. Finally, an underwriter will likely ask for an Aging of Accounts Receivable and a copy of the contractor’s bank
line of credit.
For bid bonds, a surety underwriter is looking for history of profitability on similar projects. They also want to make sure the contractor has the
cash and liquidity to finish the project, pay subcontractors and suppliers, and continue company operations throughout the life of the project.
Character
Character is a contractor doing what they say they are going to do. Surety bond companies want to make sure a contractor will stand behind their commitments, finish projects and reimburse the surety bond company if necessary.
Bond companies underwrite character by meeting the contractor and having annual meetings. They may also call the contractors suppliers, subcontractors, and previous customers to get references. The purpose of these meetings and calls is to understand the processes the contractor uses and to see if other believe the contractor has a history of fair dealings.
Capacity
Finally, the third “C” is Capacity. Capacity refers to a contractor’s ability to perform the work. This includes having adequate experience, staff, equipment, accounting and estimating systems in place. A surety bond company will not write a bid bond unless it believes the contractor has the capacity to do the project.
What Are the Amounts of Bid Bonds?
The Amount of a Bid Bond depends on the amount of the contractor’s bid. Bid Bonds are expressed as a percentage of the contractor’s bid amount. Most public projects have a required bid
bond penalty of 5%. However, 10% or even 20% is not uncommon. That means the contractor and/or
surety bond company could be liable up to percentage of the contractor’s bid if a Bid Bond claim is made. This is referred to as the Bid Bond’s
Penal Sum. An example is below:
The Penal Sum is meant to be the maximum amount of the Bid Bond. Often the penalty is less because of the second place bid amount. For example, assume that in the scenario above, the second-place bidder submitted a bid of $850,000. This would change the Bid Bond’s Penal Sum on the 20% Bid Bond. This is because the difference between the first and second bidder is only $150,000. The obligee could claim $150,000 and go to the second bidder.
On the other hand, the Bid Bond payout would remain the same on both the 5% Bid Bond and the 10% Bid Bond. This is because the $150,000
bid spread would be is greater than the Penal Sum on either Bid Bond. Therefore, the maximum claim under the Bid Bonds is just the Penal Sum.
As you can see, the actual dollars that a Bid Bond will cover depends on the contractor’s bid amount.
Forfeiture Bid Bonds
Forfeiture Bid Bonds require the entire Penal Sum to be paid, regardless of what other bids have been submitted. These Bid Bonds contain more risk and will come under more scrutiny from a surety bond underwriter. Forfeiture bid bonds are very uncommon.
What Happens to the Bid Bond After the Bid?
If a principal is read low bidder or most responsible bidder, the obligee will likely award the contract. Most Bid Bond Forms give the obligee up to 60 days to award and a contract. At that point, they may require the principal to provide
Performance Bonds,
Payment Bonds and
Maintenance Bonds.
If the Bid is not low or successful, the Bid Bond guarantee is no longer valid. There is no need to have the Bid Bond returned.
Bid Bond Claim Example
A contractor bids a project with a 5% Bid Bond. The contractor’s bid is submitted at $800,000. The second lowest bidder turned in a bid at $1,000,000. After careful review the first Contractor realizes they made a mistake. The contractor tells the obligee that they will not be entering into the contract at that price. The obligee can then make a claim on the Bid Bond for $40,000 ($800,000 x 5%) to compensate them for having to rebid the project or go to the next bidder.
Keep in mind that the contractor may be making a wise business decision. After all, paying the $40,000 Bid Bond penalty may be much less expensive than trying to build the project with the error. Unfortunately, contractors often feel they can make up the mistake later and this can lead to trouble down the road.
In the example above, the contractor may still want to build the project for $800,000, even though there is a significant Bid spread. Their surety bond company may decide they do not want to provide a
Performance Bond or
Payment Bond on the project due to the bid spread. The contractor must either find another surety bond company who will support the project, or the obligee can make a Bid Bond claim.
What to Look for in a Bid Bond Company
Most bid specifications require that your Bid Bond companies be rated A- or better by the rating agency A.M. Best or similar rating agency. Most bid specifications will also require Bid Bond companies to be listed on the U.S. Department of Treasury’s
Circular 570. This is sometimes shorted as a “
T-Listing”. Contractors should avoid Individual Surety Bond companies as providers of Bid Bonds. These companies are often backed by fraudulent assets and a contractor may have a worthless Bid Bond. It is always a good idea to
verify your bond.
Bid Bonds should not be complicated.
Contact the Surety Bond experts at Axcess Surety anytime.
