Come stroll with me down econometric memory lane, back to the late 1980s - early 1990s.  The economy then was in the tank.  Credit markets clammed up, and lending virtually ceased.  The savings and loan industry imploded, with many institutions having to be taken over by the federal government’s “Resolution Trust.”  Evil Wall Street scoundrels such as Ivan Boesky, Michael Milken, and Charles Keating appeared to financially rape us.  Black Monday in October of 1987 saw the Dow drop 22.6% — in one day — a steeper one-day decline than any single day in 1929.  Construction in the private sector came to a screeching halt, resulting in the public works arena becoming flooded, muddied, and bloodied.  Things looked bleak, and we all ran for cover since it seemed as though the sky was falling.

Those of us who survived that cycle eventually enjoyed a nice lucrative run from trough to peak in construction and construction-related business.  Now let’s fast forward to our current economic environment.  As Yogi Berra said, “It’s like deja vu all over again.”

Thus far, the only difference is that since 1990, 10 of the top 20 bonding companies have either exited the surety business or have been absorbed via mergers and acquisitions.  Rumor on the street is that another major bonding/insurance company is on the ropes, and without significant capital infusion, it too will disappear.  The reinsurance market for surety has also followed suit with the primary carriers.  Less choices/competition is not good for the industry.

It is said that Wall Street is run by two emotions:  Fear and Greed.  The same can also be said of the bonding companies.  The past run/cycle was very good to the bonding industry, the Greed cycle.  Now Anxiety and Fear have become the driving factors for the re-insurers and bonding companies, based on the lack of work and some contractors’ desire to take work at “less than desired margins.”  The bonding companies now fear the brewing tide of contractor defaults that they will have to clean up.  What does this mean to contractors on a go forward basis?

During this Fear cycle, losses will occur, and bonding companies will knee-jerk.  Their underwriting philosophy will seem to be that of picking fly excrement out of pepper with a prevailing attitude of:  If I don’t do anything, I can’t do anything wrong.

The most frustrating aspect of this cycle with the bonding companies is that historically, their losses hit as the construction economy begins to improve, resulting in a tighter bond arena (now with less players), just when work availability and margins begin to improve.  Go figure!

Where do we go from here?

The stimulus money should help, but the reality is that the politicians will probably screw this up as well.  Many “shovel-ready” projects have been pulled back in hopes of funneling this money elsewhere while utilizing stimulus monies for projects that were scheduled to proceed.  This is leaving us with questionable “new work.”  The harsh, cold reality is that this is an ugly cycle that has to run its course, and the forces of economic Darwinism will eventually thin the herd.  The best advice I can give contractors to protect their bonding today is to apply simple common sense.

• Hoard your cash.
• Make sure your bank line of credit remains in place, and TRY not to use it.
• Provide your bonding company with quarterly financial statements on a timely basis.
• Don’t “bid stupid”.
• Stay in close touch with your bonding agent and make sure that you effectively communicate your business plan along with any changes to your business with them.  Proactive vs. reactive.

This cycle will pass, and history tells us that the lower the trough, the higher the eventual peak.  Position your business as best as possible for this recovery and we’ll have a strong wind at our back for a while.  One contractor recently told me, “I’m not sure if I have to outlast the recession or my competition” … either way, every day you close the doors to go home at night, you’re one day closer to the recovery.

***

This article is solely the product of the author and is intended for informational purposes only.  John Maloney is chief executive office and co-founder of Maloney & Associates Insurance Services, an EGCA Affiliate member headquartered in Escondido, California.  John heads up the underwriting and marketing division and manages the day-to-day client contact.

]]> http://www.maloneybonds.com/didyouknow/?feed=rss2&p=32 http://www.maloneybonds.com/didyouknow/?p=28 http://www.maloneybonds.com/didyouknow/?p=28#comments Wed, 09 Feb 2011 18:07:06 +0000 Maloney Bonds http://www.maloneybonds.com/didyouknow/?p=28 The history of our economy tells us that each and ever industry continually faces its cycles … up and down, with a few in-betweens.  Accept this fact, learn from it, and take appropriate steps now to position your firm to benefit from the coming cycle.

The construction and bonding industries trail the overall economy by 18 to 24 months.  Surety company executives fully expect to see significant contractor defaults on a nationwide basis in this coming year.  This will happen and wil result in many expensive messes for them to clean up. As those “hits” manifest themselves, the bonding companies and their reinsurers will act much like the banks in the past few years.  They will pucker up, with surety credit becoming much more constrictive and difficult to obtain.

This will all take place as our construction economy begins to improve.  Kind of like taking the spiked punch bowl away, just as the party gets going.

What can you do now to maximize your bond line of credit and fully take advantage of the pending next run?

• Do a business plan for the coming year.  This can be as elaborate or simple as you wish.  Taking some time for an introspective look, reviewing of all aspects of your operation, along with a realistic roadmap of where you want to go and how you will get there is critical.  “FAIL TO PLAN … PLAN TO FAIL.”
• Prepare projections of anticipated sales volume and average margins along with specific budgeted overhead line items.  If you anticipate showing red ink, detailing revised budgets along with corrective action plans will benefit you greatly.
• Eliminate/reduce debt on bank line of credit prior to the close of your fiscal year, by any and all means.
• Get your year-end CPA financial statement out as soon as possible.
• Provide quarterly “in-house” financial statements that tie in with work in process and closed job schedules.  If you don’t have the capability for doing this right now, outsource it!  The benefits will far outweigh the cost.  Need help with names of people who do this?  Contact our CPA or call me.
• Collect your receivables with all the vigor of Tony Soprano.  Unfortunately it appears as though the days of the handshake, cowboy-style contractor may be vanishing with our “New Normal” … you now have to be part CEO/MBA, attorney, engineer/architect, salesman, and cheerleader.

In many ways the past cycle spoiled us and turned many Vikings into Farmers.  Now it’s time to focus, form a plan, and execute your plan to the best of your abilities.  Once accomplished, keep an eye out for the next cycle because it WILL come.

***

This article is meant to inform and is solely the product of the author.  John Maloney is a longtime EGCA member whose career has been devoted to providing surety bonding for the San Diego construction industry.  For more information, visit www.maloneybonds.com or email jmaloney@maloneybonds.com.

The Good: All recessions eventually do come to an end and it appears as though this one has run its course.

The Bad: The cycle for the Construction and Bonding industries trails the overall economy by twelve to eighteen months.

The Ugly: Unemployment on a national basis still hovers around ten per cent… Nationally, unemployment in the construction sector sadly is twenty-five per cent.  The “Kiplinger Letter” predicts that ten percent of contractors will “bite the dust” this year.  The Bonding Industry and their reinsurers are far more fearful.  Economic Darwinsim applies now more than ever.

Bonding Companies are very nervous.  Contractors, now more than ever should provide their sureties with a basic business plan along with their financial statements… Especially if the results are somewhat disappointing. Please call me if you would like some  assistance with this.