How Performance Security Works for Australian Businesses

If you’re supplying goods or services to a larger customer, bidding for a commercial project, or working in construction, you’ve probably seen a clause asking for performance security.

It can feel like just another piece of paperwork - until you realise it may tie up a large amount of cash, affect your ability to get paid, and become a flashpoint if a project goes off track.

Performance security is ultimately about risk. Your customer wants comfort that if something goes wrong, they have a quick and reliable way to recover losses. But from your perspective as a small business or startup, it’s also something that needs to be carefully negotiated so it doesn’t become a one-sided weapon.

Below, we break down what performance security is, how it works in Australia, the common types you’ll see, and the practical steps you can take to protect your business.

What Is Performance Security (And Why Do Businesses Ask For It)?

In simple terms, performance security is a form of financial guarantee that a supplier, contractor, or service provider gives to a customer (often called the “principal”) to secure their obligations under a contract.

The idea is: if you don’t perform the contract properly (for example, defective work, failure to deliver, delays, or breach), the customer may be able to access a pre-agreed security amount under the contract and the relevant security instrument.

Performance security is common in:

• Construction (head contracts and subcontracts)
• Government procurement and large tenders
• Manufacturing and supply arrangements for high-value items
• Long-term services (managed services, facilities management, IT services)
• Franchise or distribution-style arrangements where the other side wants a financial backstop

From the customer’s perspective, performance security can be attractive because it may be quicker than suing you for breach and trying to enforce a judgment later.

From your perspective, the key issue is whether the customer can access the security fairly - or whether the drafting effectively lets them call it too easily, including while a genuine dispute exists.

Performance Security Vs Retention: What’s The Difference?

These terms are often used together (especially in construction), but they’re not the same thing.

• Retention typically means the customer holds back part of each progress payment (for example, 5%) until certain milestones are achieved (like practical completion and the end of the defects liability period).
• Performance security is a separate pool of value (cash, bank guarantee, etc.) that can be called upon under the contract terms.

Some contracts use both, which can significantly increase the financial burden on a small contractor or supplier. If you’re seeing both in a draft agreement, it’s worth slowing down and checking whether the overall risk allocation is reasonable.

What Types Of Performance Security Are Used In Australia?

“Performance security” is a broad concept. The contract will usually specify the form of security you must provide and the amount.

Common types in Australia include:

1) Bank Guarantee

A bank guarantee is a promise from a bank that it will pay the customer up to a specified amount if the customer makes a demand that complies with the guarantee and the contract.

Bank guarantees are popular because:

• the customer sees them as reliable (the bank pays, not you); and
• they don’t require you to hand over cash upfront (although the bank will usually require collateral or tie up your credit facilities).

The risk for you is that, depending on how the contract and the guarantee are drafted, the customer may be able to call the guarantee quickly - sometimes even where you strongly disagree that you’re in default. In practice, it can also be difficult to stop a call once made unless there’s clear evidence of fraud or a strict contractual restraint. This is why the wording of the call clause (and the form of the instrument) matters so much.

2) Cash Security (Security Deposit)

Some agreements require you to pay cash into an account (sometimes held by the customer) as performance security.

This is often the most painful option for startups and small businesses because it directly impacts cashflow. It can also become difficult if the contract doesn’t clearly set out:

• how the cash must be held (including whether it’s in a trust account);
• whether interest is payable; and
• when (and how) it must be returned.

3) Parent Company Guarantee Or Director Guarantee

Sometimes, instead of a bank guarantee or cash, the other party might ask for a guarantee from:

• a parent company in your group (if you have one); or
• an individual (such as a director) in a small business.

This can be framed as “security”, but it’s a different risk profile. It doesn’t usually give the customer immediate cash in the same way as a bank guarantee - instead, it gives them another party to pursue if the contract goes wrong.

If a guarantee is proposed, you’ll want to understand the scope, limitations, and whether it effectively defeats the protections you were aiming for by using a company structure in the first place.

4) Performance Bond

A performance bond is usually issued by a bank or insurer and operates similarly to a guarantee, depending on the drafting and the product.

These can be more common in large-scale projects, but you may encounter them if you’re working on infrastructure, large developments, or government-related work.

How Much Performance Security Is Typical (And What Should You Watch For)?

The amount of performance security is usually expressed as a percentage of the contract price. Common figures include 5% or 10%, though it varies depending on the project, the perceived risk, and negotiation leverage.

For a small business, the headline percentage is only part of the story. You’ll also want to look at:

The Trigger For Calling The Security

Some contracts allow the customer to call on the performance security “on demand” or “at any time” if they claim you are in default.

Other contracts set a higher bar, requiring (for example):

• notice of default and an opportunity to remedy;
• a certification process (for example, by the superintendent in construction); or
• a requirement that the customer has actually suffered loss.

In practice, the tighter and clearer the call conditions (and the more they’re built into the security instrument itself), the less likely the security can be used as leverage in a dispute.

How Long The Performance Security Must Stay In Place

Many contracts require security to remain until completion plus a defects liability period (for example, 12 months). Others are much broader and may extend until “all obligations are satisfied”, which can be vague.

It’s worth ensuring the contract clearly states:

• when the security must be provided;
• when it can be reduced (for example, at practical completion); and
• when it must be released (and the process to release it).

Multiple Securities Or Stacked Risk

Be careful if the agreement includes multiple layers of protection for the customer, such as:

• performance security + retention;
• performance security + set-off rights;
• performance security + broad indemnities; and
• performance security + personal guarantees.

Any one of these may be manageable. Stacked together, they can create a risk profile that’s disproportionate to your margin and cashflow.

How Performance Security Clauses Usually Work (And Where Disputes Happen)

Even when a contract is otherwise “standard”, performance security clauses can be drafted in a way that creates real commercial pressure - especially when there’s a disagreement about quality, delay, scope changes, or payment.

Here are common dispute hotspots we see:

1) “On Demand” Calls During A Dispute

A customer may threaten to call performance security to force you to accept a variation deduction, liquidated damages claim, or alleged defect responsibility - even where the issue is genuinely disputed.

It’s important not to treat the security clause as boilerplate. Whether a call can be made immediately (and how hard it is to stop) often depends on both the contract wording and the wording of the security instrument (for example, an unconditional bank guarantee). If the documents allow an on-demand call, you may be left fighting later unless you’ve negotiated clear contractual limits and processes upfront.

2) Ambiguous Default Events

Sometimes the contract defines “default” so broadly that almost any disagreement can be framed as a default (for example, failing to meet a milestone due to customer-caused delays).

Where possible, default events should be objective, clearly defined, and linked to notice-and-remedy steps.

3) Cross-Claims And Set-Off

Contracts sometimes allow the customer to set off amounts they claim you owe against amounts they owe you (progress claims, final payment, etc.). If performance security is also available, this can lead to a double hit.

As a supplier or contractor, you’ll want clarity on:

• whether set-off is allowed at all;
• what notice requirements apply; and
• whether set-off can occur for disputed claims.

4) Release Of Security Getting “Stuck”

Even where you’ve completed the work and addressed defects, it’s common for security release to be delayed simply because the process isn’t clear, responsibilities are unclear, or the customer wants leverage for unrelated issues.

A good contract will include a practical release mechanism and timing (not just a vague statement that security is released “upon completion”).

Practical Steps To Negotiate Performance Security As A Small Business

You won’t always be able to remove performance security entirely - especially when you’re dealing with larger customers, government procurement, or construction head contractors. But you can often make it safer and more workable.

Here are practical negotiation levers that tend to matter most.

1) Negotiate The Amount And Structure

If 10% performance security would strain cashflow, you may be able to negotiate:

• a lower percentage (for example, 5%);
• a cap on total security where the scope expands;
• a reduction at practical completion (for example, reduce to 2.5%); or
• substituting part of the security with retention (or vice versa).

When you’re proposing changes, it helps to tie it to project reality: your margins, delivery lead times, and the fact that too much tied-up capital can slow down your ability to deliver.

2) Tighten The “Call” Conditions

If there’s one area to focus on, it’s this: when can the customer actually call the security?

Common improvements include:

• requiring written notice and particulars of the alleged default;
• giving you a reasonable opportunity to remedy before any call;
• restricting calls to amounts that reasonably reflect actual loss (where the instrument and contract allow this); and
• limiting calls to specific categories (for example, defects not rectified after notice).

These changes don’t remove the customer’s protection - they just reduce the chance of unfair or premature calls.

3) Clarify Release Timing And Process

Spell out exactly when the security must be returned or released. For example:

• 50% released at practical completion;
• remaining 50% released at the end of the defects liability period, provided defects have been rectified; and
• release within a set number of business days after the relevant milestone.

Also consider whether you need a written release letter (especially for bank guarantees) and who is responsible for providing it.

4) Make Sure Your Other Contract Terms Match The Risk

Performance security doesn’t sit in isolation. If you’re giving security, you’ll want to ensure the rest of the agreement is balanced - particularly around variations, payment, and liability.

For example, if the customer has wide discretion to change scope without clear variation pricing, you could end up exposed to delay claims and security calls caused by changes outside your control.

This is also where strong “core documents” can make a difference. If you’re supplying services, a properly drafted Service Agreement can help clarify scope, milestones, and dispute pathways so the security clause is less likely to be misused.

5) Put Your Business Structure And Governance In Order

If you’re operating as a company, make sure your internal governance is solid - particularly if you have co-founders, investors, or a growing team.

When a dispute arises and security is threatened, decisions need to be made quickly and consistently. Having the right foundation documents (like a Company Constitution) can reduce internal friction when you need to respond to a contract issue fast.

What Legal Documents Help You Manage Performance Security Risk?

Performance security is usually documented inside your main commercial contract. But the broader “legal toolkit” you have around that contract can significantly reduce risk and keep disputes from escalating.

Depending on your business model, you may want to consider:

• Terms of Trade: If you supply goods or services repeatedly, clear Terms of Trade can define payment terms, credit risk, and enforcement rights (which can reduce the pressure that leads to security disputes).
• General Security Agreement: If you extend credit or provide goods on account, a General Security Agreement can be another way to secure payment (depending on the commercial relationship and bargaining power).
• Contract Variation Documentation: Variations are a common cause of disputes. A clear written variation process (even a simple form attached to the contract) helps avoid arguments about what was agreed and when.
• Privacy Policy: If your delivery model involves collecting personal information (for example, through a client portal, onboarding forms, or a website), a Privacy Policy can support compliance and smoother procurement processes - which can matter when larger customers are assessing risk (including requests for security).
• Employment Contracts: If delivery depends on employees (rather than just founders), clear Employment Contract terms can reduce operational risk that might otherwise lead to late delivery and performance issues that trigger security pressure.
• Shareholders Agreement: If you have co-founders or investors, a Shareholders Agreement can help manage decision-making, funding obligations, and dispute handling - which matters if a big contract (and its performance security) becomes contentious.

Not every business will need every document above. The key is that performance security is often a symptom of a bigger picture issue: risk allocation, unclear scope, unclear acceptance criteria, and disputes about payment. Good contracting reduces the chance you ever get to the point where a security call is on the table.

Key Takeaways

• Performance security is a financial guarantee designed to protect your customer if you don’t perform your contractual obligations, and it’s common in construction, large projects, and long-term supply or services.
• The most common types of performance security in Australia include bank guarantees, cash security deposits, and various forms of guarantees or bonds.
• The biggest practical risk is not just the amount - it’s when and how the other party can call the security, especially where the contract and instrument allow an on-demand call during a dispute (which can be hard to restrain once triggered).
• You can often negotiate performance security by reducing the amount, setting clear notice-and-remedy steps, and specifying a clear release process tied to completion milestones.
• Strong contracts and supporting legal documents help prevent disputes that trigger security calls by clearly defining scope, payment, variations, and risk allocation.

This article is general information only and doesn’t take into account your specific situation. If you’d like advice on performance security clauses or negotiating a contract for your business, you can reach us at 1800 730 617 or team@sprintlaw.com.au for a free, no-obligations chat.