In recent years, many sureties have taken a more proactive approach towards claim handling. By engaging with and assisting the Principal early in the claims process, the surety, and their consultants, are able to more regularly achieve favorable outcomes. The following is a discussion of the consultant’s role in a proactive claims handling process.
Assess the Actual Financial Status
Before default, the surety may begin to see warning signs of a troubled Principal through complaints of late payment from vendors, correspondence from Obligees alleging poor workmanship or schedule slippage, or notifications from the Surety’s own underwriters. At this time, the Surety is in a great position to place a consultant in the Principal’s office in order to assess the actual financial status of the Principal and the Surety’s bonded obligations. Through this assessment, the consultant can gain a familiarity with the Principal’s books and records, file systems, and operational structure in order to both assist with preventing a potential default or more smoothly transition to a take-over or financing situation.
Supplement the Principal’s Operations
In addition to the review of the Principal’s financial position and monitoring of project status, consultant involvement at this stage also offers the opportunity to supplement the Principal’s operations in areas where they may be deficient. For example, when faced with a difficult Obligee, the surety consultant can assist with the development or vetting of claims which the Principal’s staff may not have as much experience with. Similarly, a surety consultant could assist the Principal’s accounting staff with the handling of vendor payment issues that would otherwise develop into payment bond claims.
Funds Control Program
An effective tool at this point for the Surety to employ is a Funds Control program where all bonded contract receipts and payments pass through an account set up specifically for the bonded projects. With this arrangement, the Obligees are directed make payments directly to the funds control account, and the Principal requests payments to be made to subcontractors and suppliers from the receipts. Additionally, the Principal should be able to make withdrawals from the account for its own labor costs. And, once all other obligations are satisfied, and it is proven that future costs will not exceed future receipts, the Principal may request draws to cover its overhead and profit, disbursements of which are governed by the Funds Control agreement between the Surety, Principal, and the consultant responsible for administering the contract. Such an arrangement allows the Surety the peace of mind that bonded contract funds are properly being used to pay for bonded contract obligations but does not necessarily prevent losses as the amounts disbursed to pay for the bonded obligations are limited to the amounts received.
Monitoring Cash Flows and Operations
Once a default has occurred, and the Surety has elected to finance the Contractor, the role of the consultant shifts towards monitoring cash flows and operations of the Contractor to ensure that the Surety’s funds are being properly and efficiently used. Based on their prior involvement and knowledge of the Principal’s systems and staff, the consultant should be well equipped to effectively monitor the Principal’s operations and to ensure the proper usage of the Surety’s funds.
An effective monitoring program includes three components:
- Tracking of the Principal’s billings and receipts
- Review of the use of all Surety funds
- Monitoring of work on the projects
Tracking the Principal’s Billings and Receipts
To effectively monitor the Principal’s billings and receipts, the Surety and/or consultant should immediately send letters of direction directly to the Obligees to require all future payments for current and future payment applications to be sent directly to the Surety or consultant’s offices so that receipts can be properly be deposited to the account or accounts dictated by the financing agreement. Once the letters are sent, the consultant should, along with a representative from the Principal, contact both the Accounts Payable departments and Project Managers for each of the bonded projects. Frequently the Letters of Direction are received by an employee in the Contracts Department of the Obligee who may have little to no interaction with the individuals who are directly involved with the processing of payments. In the worst of situations this lack of communication within the Obligee can be abused by the Principal to cause checks to be diverted to their own accounts. Following the initial distribution of letters directing deposits to be made to controlled accounts, the consultants should continue to track the processing of payment applications by the Principal to ensure that they are being submitted timely and are being appropriately processed by the Obligee. Additionally, the consultant should continue to track the payment applications from approval through payment to ensure that all the payments are properly deposited to the Surety controlled accounts.
Monitoring of the use of Surety Funds
For monitoring of the use of Surety funds, the consultant follows a very similar process to the administration of a Funds Control account: the Principal submits payment applications including all of the relevant supporting documents, and the consultant reviews and then recommends specific applications for payment. In fact, transitioning from a pre-financing situation where the Surety has already established a Funds Control account with the Principal and a monitoring consultant allows for a smooth transition to a financing agreement as nothing necessarily changes except for the source of the funds backing the payments made from the account. During this review, the consultant should verify that the requested payments are properly supported including all relevant releases, union paperwork, and any other required contract compliance documentation.
Monitoring the Progress of the Work
Finally, and perhaps most importantly, the consultant should maintain an active presence in monitoring the progress of the work being done on the bonded projects including any changes, disputes, or issues that arise. Obviously the goal of Surety financing is to execute the completion of the bonded projects in the most efficient manner possible. To this end, it is critical that the Surety’s consultants maintain a regular presence and dialogue with the Principal’s on-site personnel to ensure that the work is proceeding appropriately and any issues that arise are resolved before they impact the completion of the projects. Throughout the completion of the work, the monitoring consultant should provide regular reports of the status of the projects and should work with those who are processing the payments requested by the Principal in order to verify that specific payments are for work done on the projects and that the work was completed in an acceptable manner.
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