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Note: To assure performance of a construction contract, CF Projects Cape (Pty) (Contractor/Applicant) obtained a construction guarantee governed by South African Law issued in favour of the University of the Western Cape (University/Beneficiary) by ABSA Insurance Company Ltd (Guarantor) for the amount of ZAR 20,880,442.85 (approximately USD 1,305,027), but it was later reduced to ZAR 13,128,265.71 (approximately USD 820,516).

Clause 5 of the construction guarantee stated that:

“Subject to the Guarantor’s maximum liability . . . the Guarantor undertakes to pay the Employer the Guaranteed Sum . . . upon receipt of a first written demand from the Employer to the Guarantor at the Guarantor’s physical address calling up this Construction Guarantee stating that:

“5.1 The Agreement has been cancelled due to the contractor’s default and that the Construction Guarantee is called up in terms of 5.0. The demand shall enclose a copy of the notice of cancellation . . .” (Emphasis added.)

Clause 8 of the guarantee provided that the payment had to be made within seven calendar days after receipt of the first written demand. A note on the last page of the guarantee further provided:

“In the event of a call on this Guarantee, Payment will only be made against return of this original Guarantee by the Employer or the Employer’s duly authorised agent. (Emphasis added.)

When Contractor/Applicant failed to perform in terms of the underlying contract, University/Beneficiary cancelled the contract on 30 May 2014. University/Beneficiary then made a demand on the construction guarantee.

The demand was not made by University/Beneficiary, but by its agent, LMC Project Management (Agent), on behalf of University/Beneficiary, and on the Agent’s letterhead, and not on University/Beneficiary’s letterhead. The last paragraph of the demand letter read as follows:

“University/Beneficiary of the Western Cape (Employer) herewith notifies the Guarantor that the Principal Building Agreement with . . . has been terminated due to the Contractor’s default and the Construction Guarantee is called up in terms of Clause 5.1 of the Guarantee.”

The demand was accompanied by a copy of the letter of cancellation of the underlying construction contract. When Guarantor refused to pay the guarantee, University/Beneficiary sued Guarantor. The High Court of South Africa, Gauteng Local Division, Johannesburg, Fourie, J., entered judgment in favour of University/Benficiary, ordering Guarantor to pay the amount claimed plus interest and ordered it to pay the costs of the legal proceeding, including the costs of two counsels.

Guarantor resisted payment in terms of the guarantee on two grounds: (1) University/Beneficiary had failed to comply with the terms of the guarantee; and (2) University/Beneficiary’s conduct in making the demand was tainted by “impropriety”.

Guarantor argued that strict compliance, as in the case of letters of credit, was also applicable to construction guarantees. It insisted that the demand that was made did not constitute strict compliance with the terms of the construction guarantee as the demand was not made by the University/Beneficiary, but by its principal agent. The Judge stated it was clear from the letter of demand, in particular the last paragraph as quoted above, that Agent was acting not in its own name, but as the representative of University/Beneficiary and that the letter was intended to be a first written demand on University/Beneficiary’s behalf. He pointed out that it was seemingly common cause that the principal agent was indeed acting on behalf of University/Beneficiary when the demand letter was written (para 10). The Judge stated that the “… issue [was] therefore whether performance by a representative can be regarded as strict compliance with the terms of the guarantee” (para 10).

The Judge dismissed Guarantor’s defence and stated that it was common cause that the principal agent was acting on behalf of the employer, and that representation or agency is generally accepted by the business community. He found that, in this case, there was no requirement that the employer act personally in calling up the construction guarantee. Fourie, J. added (para 12):

“[T]here is no term or condition in the guarantee which explicitly excludes performance by a representative or an agent on behalf of the employer. I am also unable to find that such a term or condition should be inferred by necessary implication. The note at the end of the guarantee referring to the ‘Employer’s duly authorised agent’ relates to the return of the original guarantee before payment will be made. The intention was, so it appears to me, to ensure the return of the original guarantee before any payment will be made and not to authorised representation only in this instance.”

He therefore concluded that there was “no merit in the defence relating to representation".

The Judge proceeded to deal with the second defence, the alleged impropriety of the call by University/Beneficiary. There were two main disputes concerning the underlying contract raised by Guarantor. First, concerning the issuing of a practical completion certificate, and secondly, that the cancellation of the underlying contract by University/Beneficiary was unlawful and also contrived. The contractor third party apparently denied that it had received a practical completion certificate. From the evidence placed before court by University/Beneficiary, The Judge, however, found that a practical completion certificate had been sent to the contractor and there was no evidence before him that indicated that University/Beneficiary had falsified the proof that it had sent the said certificate.

The Judge confirmed that University/Beneficiary did not have to prove to the court that it had validly cancelled the underlying contract due to the contractor’s default. “[A] dispute with regard to the question whether or not the applicant was entitled to cancel the contract is irrelevant and does not entitle [Guarantor] to raise it as a defence” (para 18). He said the only defence would be to allege and prove that University/Beneficiary had committed fraud in this regard. Guarantor carried the onus to prove clear fraud. Guarantor was convinced that the cancellation of the underlying contract was contrived, because in its opinion University/Beneficiary knew the underlying contract had not been cancelled on account of the Contractor’s default. The Judge nonetheless, stated “[i]t is not sufficient to say the contractor holds the view that the call was made in bad faith as this may probably only indicate the existence of a dispute between the applicant and the building contractor with regard to the question whether or not the applicant was entitled to cancel the contract” (para 21). As a result, the Judge concluded that Guarantor had failed to prove that a fraud was committed by University/Beneficiary. He found that the application had to succeed.

Legal Analysis:

Comments

When the different clauses and the general wording of the construction (see, e.g., the definitions given to the parties in the guarantee, clauses 5 and the note on the last page of the guarantee), as set out from the facts in the judgment, are considered it seems that a clear distinction is drawn between what the different powers and obligations of the employer and its principal agent (“duly authorised agent”) are (for a similar view, see R. Scott, N. Gabryk and K. Swart “On-demand bonds: Is substantial compliance enough?” (14 December 2015) available at http://www.clydeco.com/insight/updates/view/on-demnand-bonds-is-substantial-compliance-enough last accessed on 18 January 2016). Fourie, J., however, disagreed and was of the view that there was nothing specifically in the guarantee that prohibited the principal agent to make the demand on behalf of University/Beneficiary (Employer). In deciding the matter Fourie, J. took a somewhat similar approach to Satchwell, J. in Kristabel Development (Pty) Ltd v Credit Guarantee Insurance Corporation of Africa Limited (23125/2014) [2015] ZAGPJHC 264 (20 October 2015) (see supra the discussion of this case in the 2016 Annual Review). Judge Fourie’s judgment seems to imply that strict compliance with the terms of a construction (demand) guarantee is not required (for more on the application of strict compliance in terms of the South African law, see the comments made under the discussion of the Kristabel case).

The court upheld the autonomy/independence principle of construction guarantees by holding that only fraud would constitute a valid exception to the independence principle. This is in line with the recent judgments delivered by the South African Supreme Court of Appeal, for instance, in Firstrand Bank Ltd v Brera Investments CC 2013 (5) SA 556 (SCA) and Coface South Africa Insurance Co Ltd v East London Own Haven t/a Own Haven Housing Association 2014 (2) SA 382 (SCA) (for a discussion of these cases, see 2014 ANNUAL REVIEW at 451–452 and 420-423, respectively). However, for a recent view by a High Court in South Africa that there are also other exceptions, besides fraud, see Sulzer Pumps (South Africa) (Proprietary) Limited v Covec-MC Joint Venture (1672/2013) [2014] ZAGPPHC 695 (2 September 2014) (for a discussion of this case, see 2015 ANNUAL REVIEW at 488–492).

* Professor of Law, Department of Mercantile Law, School of Law, University of South Africa.

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