A performance bond in construction provides further financial assurance that a contractor will complete a project according to the agreed-upon terms.
As described below, a performance bond involves three parties to a contract wherein one party (the surety), stands behind the performance of a second party (the principal), for the benefit of the third party (the obligee).
What Is A Performance Bond?
A performance bond is a three party agreement that provides a financial assurance for the project owner regarding the performance of their contract.
For example, let’s say the City of New York wants to build a $50,000,000 solar project.
The City puts out a request for proposals (RFP). The winning bidder is required to post a performance bond for the full $50,000,000 value of the project.
The solar contractor pays a small fee (the premium) to the surety to stand behind the $50,000,000 project.
In this case, the surety (i.e. the insurance company providing the bond), is backing the obligations of the principal (the solar contractor) to complete the $50,000,000 solar project according to the terms of the City of New York’s project agreement.
In a nutshell:
- Surety: In exchange for a small premium, the surety provides a financial backing that the principal will perform according to the terms of the obligee’s contract.
- Principal: The principal is the contractor that buys the bond. The construction contractor is underwritten based on their financial strength, or the financial strength of the contractor’s parent (if they’re providing a parental guarantee).
- Obligee: The project owner is the obligee. In the event the principal defaults, the surety steps in to fulfill the terms of the contract for the benefit of the obligee.
The performance bond may be combined with a payment bond (a P&P bond).
This is a financially underwritten assurance that the principal will perform according to the terms of the development contract, such as build a certain project, pay its suppliers, partners and sub-contractors, deliver the project on time, etc.
Solar EPC Performance Bond Example
In large solar projects, solar engineering, construction and procurement (EPC) companies are often required to post performance, payment or (payment and performance, aka “P&P” bonds).
For the EPC, a performance bond is usually preferable over a “letter of credit” because a surety bond will not be a liability on the company’s balance sheet, unlike a letter of credit.
A letter of credit ties up cash on the company’s balance sheet and reduces its ability to do business.
On the flip side, if the obligee is a strict utility or a municipality, they may prefer a letter of credit (LoC) because a LoC is a highly liquid demand instrument…
By working with an insurance broker who has expertise in renewable energy surety bonds these liquidity requirements may often be overcome in a way that is agreeable to the obligee and surety, while also being capital efficient (off balance sheet) for the contractor.
What Does A Performance Bond Cost?
In general, a performance bond cost will be in a range from 1-3% of the value of the bond requirement itself. Sometimes the requirements of a bond can change as construction milestones are met.1
As mentioned in this video, bond pricing is determined by a financial underwriting process evaluating the financial strength of the principal.
What Documents Are Required to Underwrite A Performance Bond?
The following are common documents and information a surety needs to underwrite a performance bond:
- Copy of the Contract (or Bid Documents): The full construction contract, subcontract (if applicable), specifications, scope of work, timeline, and any addenda. The underwriter reviews risks, project complexity, and how it aligns with the contractor’s capabilities.
- Completed Surety Bond Application: A standard form from the surety that includes basic company details, ownership structure, project specifics, prior bonding history, and a questionnaire about experience and operations.
- Financial Statements (Core Requirement): Audited, reviewed, or compiled statements for the past 2–3 fiscal years (balance sheets, income/profit & loss statements, cash flow statements, and notes/disclosures). Note: For larger bonds, CPA-prepared statements are often mandatory. Current interim financials may also be requested and are important because they provide insight into working capital, profitability, debt-to-equity ratios, and overall financial health.
- Personal Financial Statements and Tax Returns: Personal financial statement (PFS) for all owners/principals (detailing personal assets, liabilities, net worth, liquidity, etc.). Personal and business tax returns for the past 2–3 years.
- Work-in-Progress (WIP) Schedule: A detailed report showing current and upcoming projects, including contract values, costs to complete, billings, and profit estimates. This helps assess backlog and capacity.
- Project and Experience Details: List of completed projects (with owner references, contract values, dates, and outcomes). Evidence of relevant experience with similar project types, sizes, and locations.
- Resumes or bios of key personnel: C-level bios, as well as those of important project managers, superintendents, etc. and an organizational chart.
- Bank and Credit Information: A bank reference letter confirming relationships and creditworthiness. Some sureties may have predetermined lists of financial institutions that they approve of. Recent bank statements (e.g., past 3–6 months). Business and personal credit reports/scores (reviewed by the surety).
Additional Items may be requested, depending on the principal’s experience and the age of the company, which may include:
- Business plan or description of operations (types of work, geographic area, growth plans).
- Continuity/succession plan (how the business continues if key owners are incapacitated).
- Loan agreements, equipment lists, or details on available resources.
- Indemnity agreement (signed by the contractor and often personally by owners).
- Collateral (e.g., real estate, letters of credit) in higher-risk cases.
As described above, a performance bond stands behind the obligations of a contractor to perform according to the terms of a project owner’s contract.
If you’re a contractor, developer or utility in need of performance bonds, EPC bonds, decommissioning bonds, interconnection and procurement bonds, community solar subscriber bonds, pre-development PPA and conventional PPA bonds, schedule an appointment with me today.
