In construction projects, on-demand guarantees issued in favour of employers play a vital role in encouraging performance and managing risk in the event of non-performance by contractors.
Sechaba Mchunu, Advocate at the Johannesburg Society of Advocates and member of the Maisels Group of Advocates.
Calling up on-demand guarantees
On 20 May 2025, the Supreme Court of Appeal (SCA) in Set Square Developments (Pty) Ltd v Power Guarantees (Pty) Ltd and Another (099/2023 and 150/24) [2025], delivered a judgment which underscores the importance of separating the operation of on-demand guarantees from underlying construction contracts.
Briefly, Set Square Developments (the employer) had appointed Vahva Construction (the contractor) to execute certain construction and remedial works in a large low income housing project.
The contractor was appointed to do works on three phases of the project, resulting in the conclusion of a suite of contracts (the construction agreement) between the employer and contractor, for each phase.
The contractor was required to provide three on-demand guarantees for each phase as security for the fulfilment of its performance obligations under the construction agreements. It did so through Power Guarantees (the guarantor).
Terms of the guarantees
The relevant terms of the guarantee facility between the guarantor and the employer were as follows:
For on-demand guarantees one and two:
“Subject to the Guarantor’s maximum liability referred to in 1, the Guarantor undertakes to pay the Employer [Set Square] the guaranteed sum or the full outstanding balance upon receipt of a first written demand from the Employer to the Guarantor at the Guarantor’s physical address calling up this Performance Guarantee, such demand stating: 5.1 the contract has been terminated due to the Contractor’s default and this Performance Guarantee is called up in terms of 5.”
For on-demand guarantee three:
“Subject to the Guarantor’s maximum liability referred to in clauses 1.0 or 2.0, the Guarantor undertakes to pay the Employer the Guaranteed Sum or the full outstanding balance upon receipt of a first written demand notice from the Employer to the Guarantor at the Guarantor’s physical address calling up this Guarantee for construction stating that: 5.1 9 The agreement has been terminated due to the contractor’s default and that the security for construction is called up in terms of 5.0. The demand notice shall enclose a copy of the notice of termination.”
Between 4 December 2020 and 26 March 2021, the employer terminated the construction agreement in respect of all three phases. The terminations led to the employer calling up each guarantee. In respect of each phase, the employer made written demand of the guaranteed amount in accordance with the terms of the relevant on-demand guarantee facility.
Despite demand for the guaranteed payment to be made on each phase, the guarantor refused to make payment. The refusal necessitated the institution of legal proceedings by the employer to enforce its entitlement to payment of the guaranteed total across the three guarantees. The guarantor and contractor defended the matter.
Sechaba Mchunu 16 Jan 2023 The High Court
In respect of the first on-demand guarantee, the High Court found that the employer was to blame for the contractor’s failure to fulfill its obligations under the construction agreement in that it failed to grant it access to the site. As such, the High Court was of the view that the employer was not entitled to payment under the relevant on-demand guarantee.
In respect of the second on-demand guarantee, the High Court granted an order for payment in favour of the employer after finding that it had duly complied with the terms of the relevant guarantee facility.
In respect of the third on-demand guarantee, the High Court held that the employer was not entitled to payment on the basis that its termination of the agreement had been preceded by the contractor’s termination, notwithstanding the employer’s termination being predicated on a repudiation resulting from the contractor’s termination.
The Supreme Court of Appeal
The employer pursued an appeal against a portion of the order of the High Court relating to on-demand guarantees one and three. Conversely, the guarantor sought to appeal against the portion of the High Court order directing it to pay the employer in respect of the second on-demand guarantee.
Based on the grounds raised by the parties, the SCA had to mainly consider whether: the terms of the three on-demand guarantees prevented an interrogation into the employer’s claim that it had terminated the underlying agreements due to a breach by the contractor; whether the underlying construction agreements between the employer and the contractor existed, and if so, whether they were inextricably linked to the guarantees; and whether the guarantor’s defence of fraud is sustainable on the facts.
In a nutshell relating to the fraud defence – the guarantor argued that the employer had made fraudulent claim on the basis that the employer: had not completed an acceptance form in respect of one of the construction agreements; had signed different construction agreements from those covered by two of the guarantees.
Through established principles, the SCA affirmed that the autonomous nature of on-demand guarantees had the consequential effect of precluding a guarantor from interrogating a contractual dispute between the employer and contractor, devoid terms allowing it to do so.
This means the guarantor was not entitled to consider the legitimacy or validity of the termination of the respective construction agreements. All the guarantor had to do was to make payment to the employer, to the extent that the demand made in respect of each phase was compliant with the terms of the guarantee.
By extension, the overarching principles prevented the guarantor from disputing the existence of agreements which had been implemented by the employer and contractor in the project. That said, the SCA found that there was a correlation between the agreements and the issued guarantees.
In conclusion, the SCA determined that the employer had complied with the terms of all three guarantees and was therefore entitled to payment under each. The guarantor’s fraud defence was unsuccessful as it did not demonstrate any intent to mislead it or misrepresent any facts to claim payment under the guarantees.
Takeaway
This case is a reminder to parties involved in construction projects, and in particular employers and guarantors, to comprehensively understand the consequences of the structure and terms of the guarantee facilities to which they subject themselves.
The case makes is clear that on-demand guarantees mainly require guarantors to make payment to employers or beneficiaries when a guarantee is called up, provided the terms of the guarantee facility have been complied with.
The obligation to make payment, typically, does not extend to the vetting of the claim insofar as there may be an existing or potential contractual dispute between the employer and the contractor in respect of an underlying agreement, unless the guarantee facility carefully permits for such.
Generally, an on-demand guarantee facility has a life of its own, and liability under it is not affected by the underlying contractual relationship between the employer and contractor.
Although not a focal point of this article, the case does intimate that a claim proved to be predicated on fraud or material representation could halt the enforcement of on-demand guarantees. As such, a guarantor is not expected to rubber stamp a claim and may challenge it where there are reasonable grounds for fraud, provided the guarantor is able to prove that the employer knowingly presented false material representations to induce payment.
