01/ 19/ 2006
by Glenn Townes
The cliché of “you have my word” may soon be replaced by something akin to “you have my bond,” especially when it comes to small businesses acquiring service contracts. Bonding is a way for some small minority- or women-owned businesses to land contracts with various private and government agencies.
A bond is essentially an insurance policy for which the contractor pays a premium. The bond guarantees that the service provider will meet his or her obligations to complete the contracted project in a timely, satisfactory manner. If the contractor fails to meet the guidelines, the bonding company will pay the client for the services. Obtaining a bond tells the client that you will complete the job in a sufficient manner. If you don’t, then you––the contractor––will have to contend with the bonding company.
Many small-business industry advisors say that, in order for any business to grow and expand, becoming bonded is a prerequisite. In some states, if a contract is $100,000 or more, bonding is required under a law called the Miller Act. One drawback of bonding, however, is that the fees generally tend to be high and are often passed on to the customer, a situation similar to most standard insurance policies.
In order to bid on lucrative government contracts, being bonded is a necessity, particularly for construction-related projects. Contractors are generally required to purchase bonds in order to work on public projects. Entrepreneurs must know various types of bonds and catchphrases to fully understand the bonding process. Some of the most common words and phrases include:
- A surety bond. This is a three-party instrument between the surety (the bonding company), the contractor and the project owner.The agreement binds the contractor to comply with the specified terms and conditions of a contract. The next step in the process is to submit a bid, performance, payment or ancillary bond on a specific project.
- A bid bond. This essentially guarantees that when a bid is accepted, the contractor will sign the contract, then ultimately furnish a performance bond. Bid bonds also occur when a bond is posted as bid security. The bidder may submit a certified check in a specified percentage amount of the anticipated contract value as bid security.
- A performance bond. This guarantees that the contractor will perform the services in an acceptable, timely manner.
- A payment bond. This guarantees payment from the contractor of money to those who furnish labor, materials, equipment and/or supplies for use in the performance of the contract.
- An ancillary bond. This is incidental and essential items required in order to perform and complete the project.
In order to obtain a bond, a business must locate a reputable surety (bonding) company or an independent agent who issues bonds on behalf of surety companies. Similar to a bank or any other credit granting entity, the agent reviews the application and, if it is approved, forwards it to the bond company. If the bond company has reservations about actually writing and guaranteeing the bond solo, it may forward the application to the Small Business Administration. A surety agent may be reluctant to sign a bond in full and solo if the applicant is a start-up with a limited or unstable commercial history.
While the dollar amounts of bonds range from hundreds of thousands to tens of millions, the SBA will only guarantee up to $2 million for small, minority and emerging contractors working for qualified, eligible businesses. The number of bonds that can be guaranteed per contractor is unlimited. For the recently ended 2005 fiscal year–– Oct.1, 2004, to Sept. 30, 2005––the Small Business Administration guaranteed more than $18 million worth of bid bonds on federal contracts and more than $14 million in performance bonds in Florida, the country’s fastest growing state. Experts expect this trend to continue throughout subsequent fiscal years, making bonding a critical business component for small, mid-sized and large businesses.
