Subcontractor prequalification

Prequalification is the contractor's decision about who is allowed to bid. It happens before prices are seen, which is its strength: a contractor that screens on safety, finances, capacity and experience first, and only then compares prices among firms it would be content to hire, is protected from the temptation to award to a low number from a firm that cannot perform. Subcontractor default is one of the most damaging events on a project, because the contractor usually has to finish the work at its own cost, under time pressure, while the owner's schedule keeps running. Prequalification is the cheapest insurance against it.

This lesson sets out what to assess, where the information comes from, how to score it, and how to keep the approved list current. Insurance, surety bonds and subcontractor default insurance are introduced only briefly here; CON-350 covers them in depth.

What to assess

Prequalification looks at five broad areas. The weight given to each depends on the package: for a small painting subcontract, safety and basic finances may be enough; for a $5 million mechanical subcontract on the critical path, every area matters.

Safety: reading the numbers

Safety record is often the first screen, because a trade with a poor record puts everyone on site at risk and exposes the general contractor, as constructor or controlling employer, to orders, penalties and liability. The common measures are injury rates normalized by hours worked.

The constant 200,000 represents 100 full-time workers working 40 hours a week for 50 weeks, so the rate is the number of cases per 100 full-time workers per year. The same formula gives a total recordable rate if all recordable injuries are counted, or a lost-time rate if only cases with days away from work are counted.

In the US, contractors commonly ask bidders for their workers' compensation Experience Modification Rate (EMR or e-mod), their OSHA 300A summaries for the last three years, and their total recordable incident rate (TRIR) and DART rate (days away, restricted or transferred). An EMR of 1.00 is average for the firm's class of work; above 1.00 means the firm's claims have been worse than expected, and many contractors set a maximum such as 1.0 or 1.2. OSHA citation history can be checked on OSHA's public establishment search.

# Safety screen for four electrical bidders (3-year totals, illustrative)
bidders = {
    #            recordables  lost-time  hours worked
    "Bidder A": (6,           1,         412_000),
    "Bidder B": (14,          5,         388_000),
    "Bidder C": (3,           0,         165_000),
    "Bidder D": (9,           2,         520_000),
}
industry_trir = 2.4   # illustrative benchmark for the trade
for name, (rec, lt, hrs) in bidders.items():
    trir = rec * 200_000 / hrs
    ltr = lt * 200_000 / hrs
    flag = "review" if trir > 1.25 * industry_trir else "pass"
    print(f"{name}: recordable rate {trir:4.2f}  lost-time rate {ltr:4.2f}  {flag}")

Bidder A: recordable rate 2.91  lost-time rate 0.49  pass
Bidder B: recordable rate 7.22  lost-time rate 2.58  review
Bidder C: recordable rate 3.64  lost-time rate 0.00  review
Bidder D: recordable rate 3.46  lost-time rate 0.77  review

Bidder B's recordable rate is more than twice the illustrative benchmark, so it is flagged for review. A flag is not an automatic rejection: a single bad year, a change in management, or a small number of hours can distort rates, and Bidder C's rate rests on fewer hours than the others. The reviewer looks behind the numbers at the safety program, recent audits and how the firm responded to incidents. But a pattern of poor results with no credible improvement plan should keep a firm off the list for high-risk work.

Financial strength

A subcontractor is paid in arrears, typically 30 to 60 days after the month its work is done, and often has part of each payment held back. It must carry its payroll, materials and equipment in the meantime, so financial strength matters even more for subcontractors than for general contractors. The ratios are the same ones sureties and lenders use (CON-320); here the question is narrower: can this firm carry this subcontract without running out of cash?

# Can each mechanical bidder carry the Larch Street mechanical subcontract?
sub_value = 5_600_000
months = 14
monthly_billing = sub_value / months
bidders = {
    #           current assets, current liabilities, equity, total liabilities, annual revenue
    "Mech 1": (6_800_000, 4_100_000, 3_900_000, 5_300_000, 24_000_000),
    "Mech 2": (2_900_000, 2_450_000, 1_100_000, 3_600_000, 11_500_000),
    "Mech 3": (9_400_000, 6_200_000, 5_800_000, 8_900_000, 38_000_000),
}
for n, (ca, cl, eq, tl, rev) in bidders.items():
    wc = ca - cl
    print(f"{n}: WC {wc/1e6:4.2f}M = {wc/monthly_billing:3.1f} months of billing | "
          f"current ratio {ca/cl:4.2f} | D/E {tl/eq:3.1f} | job = {sub_value/rev:4.0%} of revenue")

Mech 1: WC 2.70M = 6.8 months of billing | current ratio 1.66 | D/E 1.4 | job =  23% of revenue
Mech 2: WC 0.45M = 1.1 months of billing | current ratio 1.18 | D/E 3.3 | job =  49% of revenue
Mech 3: WC 3.20M = 8.0 months of billing | current ratio 1.52 | D/E 1.5 | job =  15% of revenue

Mech 2 stands out. Its working capital covers barely a month of billing on this job, its current ratio is about 1.2, its debt is more than three times its equity, and the subcontract would be almost half of its annual revenue. Even if Mech 2 submits the lowest price, the risk that it runs short of cash partway through, slows down or fails is high. Halyard could still use it with protections, such as a performance bond, joint checks to its major suppliers, or a smaller scope, but those protections should be decided before bids, not after Mech 2 has submitted an attractive number.

Collecting the information

Contractors collect prequalification information using a standard form, which makes firms comparable and saves subcontractors from filling in a different questionnaire for every contractor.

In the US, AIA A305 (Contractor's Qualification Statement) and the ConsensusDocs subcontractor qualification statement are common standard forms. Third-party prequalification services collect safety, insurance and financial documents for many owners and contractors at once.

Whatever the form, the contractor should verify what matters: call references (and ask specific questions, such as whether they would hire the firm again and how it handled changes), check that insurance certificates name the right insured and limits, confirm licenses or certifications with the issuing authority, and treat unaudited financial statements with appropriate caution. Large subcontracts may justify reviewed or audited statements and a meeting with the firm's principals.

Scoring and the approved list

A simple, transparent scoring method helps make consistent decisions and explain them later. The usual approach has two parts: knock-out criteria that a firm must meet regardless of anything else (for example, a valid trade license, required insurance, and no serious unresolved safety orders), and weighted scores for the remaining areas.

# Weighted prequalification scoring with knock-out criteria (scores out of 10)
weights = {"safety": 0.30, "financial": 0.25, "capacity": 0.20, "experience": 0.25}
bidders = {
    "Mech 1": {"knockout_ok": True,  "safety": 8, "financial": 8, "capacity": 7, "experience": 8},
    "Mech 2": {"knockout_ok": True,  "safety": 7, "financial": 3, "capacity": 4, "experience": 6},
    "Mech 3": {"knockout_ok": True,  "safety": 9, "financial": 9, "capacity": 8, "experience": 7},
    "Mech 4": {"knockout_ok": False, "safety": 9, "financial": 8, "capacity": 9, "experience": 9},
}
threshold = 6.5
for n, b in bidders.items():
    if not b["knockout_ok"]:
        print(f"{n}: excluded (knock-out criterion not met)")
        continue
    score = sum(weights[k] * b[k] for k in weights)
    print(f"{n}: weighted score {score:4.2f} -> {'approved' if score >= threshold else 'not approved'}")

Mech 1: weighted score 7.80 -> approved
Mech 2: weighted score 5.15 -> not approved
Mech 3: weighted score 8.30 -> approved
Mech 4: excluded (knock-out criterion not met)

Mech 4 scores well but is excluded because it failed a knock-out criterion (on this project, its insurance limits were below the owner's requirement and it declined to increase them). Mech 2 falls below the threshold, mainly on finances and capacity. Mech 1 and Mech 3 are approved to bid. Weights and threshold are the contractor's choice and should be set before scoring begins, so that the result is not tuned to favor a preferred firm.

Approved lists should be kept current. A firm approved two years ago may have lost key staff, taken on too much work or had a serious incident. Many contractors refresh full prequalification annually and ask for updated safety and insurance information for every new bid. After each project, the contractor's evaluation of the subcontractor's performance (Lesson 11) feeds back into the list.

Protecting against subcontractor default

Even good prequalification cannot eliminate default. For packages where failure would be serious, contractors add protection. The options are introduced here and covered in CON-350.