12 January 2021 by and Dispute Resolution Alert

Performance bonds: New developments on the call up of guarantees?

Whilst contractors have been adversely impacted by the effects of the COVID-19 pandemic, employers have not escaped unscathed. Employers, both public and private, have had significant pressure placed on their cash flows. In an effort to release this pressure, such employers may seek to find ways of calling upon construction guarantees provided by contractors under the various construction contracts.

Whilst COVID-19 and the associated lockdowns have internationally been treated as force majeure or events of supervening impossibility, new arguments may be developed going forward relating to the foreseeability of such events and their effect on the rights of the parties under a construction contract. Such arguments could potentially be used by employers to establish grounds for a call under a construction guarantee.

In Joint Venture between Aveng (Africa) (Pty) Ltd and Strabag International GmbH v South African National Roads Agency Soc Ltd and Another (577/2019) [2020] ZASCA 146, the Supreme Court of Appeal (SCA) recently revisited the principles applicable to construction guarantees under South African law. The case concerned an appeal by the joint venture against the decision of the Gauteng Division of the High Court, Pretoria, which dismissed the joint venture’s application for an interdict restricting SANRAL from demanding payment in terms of a performance guarantee issued in its favour.

The SCA was tasked with considering whether the law should be developed to recognise an exception (the underlying contract exception) to the effect that where the underlying construction contract restricts or qualifies a beneficiary’s right to call up the construction guarantee, a contractor is entitled to interdict a beneficiary from doing so until the conditions in the underlying construction contract have been met.

At the outset, the SCA confirmed the well-established South African law position that a construction guarantee is autonomous from the underlying contract and that the issuer of such guarantee is bound to pay in accordance with the terms of the guarantee, unless fraud on the part of the beneficiary is established.

With the above principle established, the SCA embarked on a consideration of Australian and English law, as well as the previous decisions of South African courts, to determine whether room existed for the incorporation of the underlying contract exception. Ultimately, the SCA decided that a contractor may, without alleging fraud, restrain an employer from calling up an unconditional construction guarantee issued pursuant to a construction contract, if the contractor can show that the employer would breach a term of the construction contract by doing so, subject to the proviso that the terms of the construction contract should not readily be interpreted as conferring such a right.

The joint venture’s appeal was ultimately dismissed by the SCA which found that the joint venture had failed to show that the parties had intended anything other than that SANRAL would be entitled to payment before any underlying dispute between them was determined.

Although the decision of the SCA does not depart materially from previous jurisprudence, it has confirmed an additional ground, outside of fraud, which may be relied upon by contractors to restrain employers from calling up construction guarantees. In calling up construction guarantees, employers will therefore need to ensure that they guard against the possibility of the contractor raising this additional ground or face the risk that their call may be interdicted. 

Due to the uncertainties intimated above and the likelihood that employers will seek to adopt increasingly creative grounds for the calling up of construction guarantees to supplement their cash flow, there is no doubt that the underlying contract exception will become an area of future litigation and our courts could be called on to consider and expand upon this exception in the near future.

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