In today’s manufacturing ecosystem—where businesses deal with government tenders, PSUs, EPC contractors, OEMs, and large corporates—bank guarantees (BGs) have become unavoidable. Whether you are bidding for a tender, accepting an advance payment, or executing a long-term supply contract, bank guarantees directly impact your working capital, risk exposure, and order execution capability.
This article answers the 10 most important bank guarantee questions relevant to manufacturers, explained in depth with real-world relevance.
1. What Is a Bank Guarantee, and Why Do Manufacturers Need It in Supply and Execution Contracts?
A bank guarantee is a financial commitment issued by a bank on behalf of a manufacturer, assuring the buyer or project owner that the bank will compensate them if the manufacturer fails to meet contractual obligations. For manufacturers, this assurance is often mandatory before securing orders, especially from government departments, PSUs, infrastructure companies, and large OEMs.
Manufacturing contracts typically involve risks such as delayed delivery, quality deviations, or non-performance. Buyers mitigate these risks by demanding bank guarantees. From the manufacturer’s perspective, a BG acts as a credibility enhancer, allowing participation in high-value projects that would otherwise be inaccessible.
Unlike upfront security deposits, a bank guarantee does not require immediate cash outflow equal to the guarantee amount. Instead, the bank issues the BG based on the manufacturer’s creditworthiness, collateral, or margin. This makes BGs a working-capital-efficient risk instrument, provided they are structured correctly.
Manufacturers commonly require BGs at different stages—during bidding, execution, advance receipt, and defect-liability periods. Understanding when and why a BG is needed helps manufacturers price contracts accurately and avoid liquidity stress later.
2. What Types of Bank Guarantees Are Commonly Required from Manufacturers?
Manufacturers encounter several types of bank guarantees depending on the nature of the contract. The most common is the Earnest Money Deposit (EMD) guarantee, required during tender participation to demonstrate seriousness of the bid.
Once the order is awarded, manufacturers are usually required to submit a Performance Bank Guarantee (PBG). This ensures that the manufacturer completes the contract as per specifications, timelines, and quality standards.
If the buyer releases an advance payment, an Advance Payment Guarantee is demanded to safeguard the buyer’s funds. In long-term supply or EPC contracts, a Retention Money Guarantee may replace cash retention withheld from invoices.
Each guarantee serves a distinct purpose and carries different risk levels. Manufacturers must clearly understand the obligation being secured and ensure the BG wording precisely matches the contract. Incorrect or loosely worded guarantees can expose manufacturers to unnecessary invocation risk.
3. When Is a Performance Bank Guarantee Mandatory for Manufacturers Supplying to Government or PSU Clients?
Performance bank guarantees are almost universally mandatory in government and PSU contracts. Once a tender is awarded, submission of a PBG is a precondition for contract execution. Without it, the order may be cancelled, and EMD forfeited.
Government buyers rely on PBGs because they offer immediate financial recourse in case of non-performance. For manufacturers, this means that the PBG effectively remains active until the contract is completed and accepted—sometimes extending into warranty or defect-liability periods.
Manufacturers must factor PBG costs and margin requirements into pricing. Ignoring this can lead to under-quoted bids that become financially unviable after BG issuance. Strategic planning around PBG tenure and timely release is essential to prevent long-term working capital blockage.
4. How Is the Bank Guarantee Amount Determined in Manufacturing Contracts?
The bank guarantee amount is usually calculated as a percentage of the contract value. For EMDs, this typically ranges from 1% to 5%. Performance guarantees usually range from 5% to 10%, while advance payment guarantees match the advance amount received.
In high-risk or turnkey manufacturing contracts, buyers may demand higher percentages. The guarantee amount reflects the buyer’s perceived execution risk, not just the manufacturer’s financial strength.
Manufacturers should evaluate whether the BG amount aligns with the actual risk exposure. In some cases, negotiation is possible—especially for repeat suppliers with strong performance records. Optimizing BG values can significantly improve cash-flow efficiency.
5. What Margin or Collateral Do Banks Usually Ask from Manufacturers?
Banks generally require manufacturers to provide a margin against the bank guarantee, which can range from 0% to 100% of the guarantee value. Well-established manufacturers with strong financials and banking relationships may receive non-fund-based limits with low or zero margins.
Smaller manufacturers or first-time borrowers may be asked for cash margins, fixed deposits, or collateral security. The margin requirement directly affects liquidity, making it a critical factor in BG planning.
Manufacturers should aim to improve credit profiles, diversify banking exposure, and negotiate margin reductions over time. Efficient collateral management can free up funds for production and expansion.
6. What Is the Difference Between Unconditional and Conditional Bank Guarantees?
An unconditional bank guarantee allows the beneficiary to invoke the BG on simple demand without proving default. These are common in government and PSU contracts and pose higher risk for manufacturers.
A conditional bank guarantee, on the other hand, can be invoked only if specific conditions are met, such as certification of non-performance. While safer for manufacturers, conditional BGs are often rejected by large buyers.
Manufacturers must carefully assess the risk before accepting unconditional BGs and ensure strict internal compliance to avoid invocation.
7. How Do Validity and Claim Periods Affect Manufacturers?
The validity period defines how long the BG remains active, while the claim period provides additional time for invocation after expiry. Poorly managed timelines can result in unnecessary extensions and extra costs.
Manufacturers should track BG expiry dates and ensure timely contract closure and release letters. Automating BG tracking is highly recommended for manufacturers handling multiple projects.
8. Under What Circumstances Can a Client Invoke a Bank Guarantee?
A client can invoke a bank guarantee if they believe the manufacturer has failed to meet contractual obligations—such as delayed delivery, quality failure, or abandonment of work.
Because most BGs are unconditional, banks pay first and investigate later. Manufacturers must maintain documentation, quality records, and communication trails to defend against wrongful invocation.
Strong contract drafting and disciplined execution are the best safeguards.
9. What Are the Costs and Charges Involved in Bank Guarantees for Manufacturers?
Bank guarantee costs include annual commission (usually 0.5%–3%), stamp duty, processing fees, and charges for amendments or extensions. Long-tenure guarantees significantly increase total cost.
Manufacturers should minimize unnecessary extensions and ensure BG values and durations are accurately aligned with contract terms.
10. What Happens If a Bank Guarantee Is Invoked, and How Does It Impact Manufacturers?
When a BG is invoked, the bank immediately pays the beneficiary and recovers the amount from the manufacturer’s margin, account, or collateral. This can disrupt cash flow, damage credit standing, and reduce future banking limits.
Repeated invocation affects trust with banks and clients, making future order acquisition difficult. Manufacturers should treat bank guarantees as high-risk financial commitments, not routine paperwork.