Surety underwriters play a critical role in evaluating a company's financial health and capacity to fulfill bonded obligations. They scrutinize several key performance indicators (KPIs) to assess the risk involved. Here are the five main KPIs that underwriters typically focus on:
Working Capital: This measures a company's ability to cover short-term liabilities with its short-term assets. Sureties adjust the definition of working capital to exclude certain assets that may not be readily convertible to cash. A healthy ratio of working capital to annual revenue (often 10-15%) is a general guideline, but more importantly, underwriters look at working capital in relation to backlog. A high backlog relative to working capital could signal potential cash flow issues.
Backlog: This refers to the amount of contracted work yet to be completed. A backlog that is too high may indicate potential difficulty in managing future projects effectively. Conversely, a low backlog could suggest challenges in winning new contracts and generating sufficient cash flow.
Debt-to-Equity Ratio: This ratio compares a company's total liabilities to its shareholders' equity. Sureties typically prefer this ratio to be below 3 to 1, although adjustments may be made based on specific underwriting criteria.
Overbillings and Underbillings: Overbillings occur when billings exceed the costs incurred on a project, while underbillings occur when costs exceed billings. Sureties assess these to understand how well a company manages cash flow and project profitability. Consistently high underbillings could raise concerns about estimating accuracy and cash management practices.
Profit Fade: This refers to the situation where the actual profit from a project is lower than initially estimated. Sureties are cautious about repeated instances of profit fade, as it can indicate potential financial instability or poor project management.
These KPIs provide surety underwriters with insights into a company's financial stability, ability to manage projects profitably, and overall risk profile. Companies seeking bonding should maintain detailed and accurate financial records to demonstrate their financial health and capability to meet bonded obligations effectively. Understanding these KPIs and proactively managing them can enhance a company's ability to secure bonding and manage its growth effectively.
These KPIs provide surety underwriters with insights into a company's financial stability, ability to manage projects profitably, and overall risk profile.
Construction companies seeking bonding should maintain detailed and accurate financial records to demonstrate their financial health and capability to meet bonded obligations effectively. Understanding these KPIs and proactively managing them can enhance a company's ability to secure bonding and manage its growth effectively.
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