3 Ways for Contractors to Boost Cash Flow and Increase Bonding Capacity
- Jun 7, 2023
Securing a surety bond is often essential for contractors participating in private or public construction projects. Contractors with higher bonding capacities can bid on larger projects, potentially leading to greater growth and revenue. Financial stability is one of the main factors in determining a contractor's bonding capacity, as bonding companies (and banks) want to see that you have healthy cash flow and working capital on your year-end financial statements. These three strategies can help boost your company's cash flow and increase your bonding capacity.
Depreciate assets over their lifespan
Construction equipment purchased for the business that you expect to last for more than one year can be written off on a straight-line basis over the asset's lifespan, rather than being written off entirely in the year it's acquired, increasing the company's net worth on your balance sheet. For example, if a business spends $1 million on equipment that will last 12 years and writes it off over 12 years, they'll have $83,330 in yearly depreciation. If they write off that same equipment using the tax depreciation method, they could possibly write off the full $1 million in one year. However, doing so would result in $1 million in expenses the year they acquired the equipment as opposed to $83,330, creating a $916,667 reduction in net worth on the company’s balance sheet. It’s a strong incentive for using the straight-line basis.
Create a balance between using cash and long-term debt
It's crucial to always maintain a cash reserve by striking a balance between using cash and long-term debt (any debt payable to the bank that is due more than one year from the balance sheet date). Pay special attention to the implications of paying with cash versus financing to decide if it will improve or deteriorate your working capital each year.
For example, let's say that instead of spending $5 million in cash to buy a new piece of equipment, you financed the equipment and incurred $5 million of long-term debt on your balance sheet. Keeping that $5 million as long-term debt instead of using your cash would increase your working capital by $5 million. Because bonding companies typically determine your bonding capacity by starting at ten times your working capital, preserving the extra $5 million in working capital could increase your bonding capacity by $50 million.
Replace lines of credit with long-term debt
In some cases, businesses may want to pay off a line of credit and replace that with long-term debt to increase their working capital. Keeping more available credit can also help increase your bonding capacity by assuring the bonding company that you'll have a source to pull funds from if needed to complete a contract.
These are just a few actions construction companies can take to help boost cash flow and increase bonding capacity. We can't control certain things when properly preparing financial statements, but we do have control over making intelligent decisions along the way.
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Donald N. Hoffman
Donald Hoffman is Partner-in-Charge of the firm's Maryland office. His expertise includes accounting, tax planning, business consulting, strategic planning, business succession, buy/sell agreements, and estate planning.
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