Set Square Developments (Pty) Ltd v Power Guarantees (Pty) Ltd and Another (Case No 099/23); Power Guarantees (Pty) Ltd v Set Square Developments (Pty) Ltd and Another (Case No 150/24)

Set Square Developments (Pty) Ltd (Set Square) awarded construction contracts to Vahva Construction (Pty) Ltd (the contractor) for various phases of the Lethabong Housing Development. Power Guarantees (Pty) Ltd (Power Guarantees) issued three on-demand performance guarantees to secure the contractor's performance under these contracts. The guarantees were: (1) PWR 111504 for R3,333,500.57 (Phase 3), (2) PWR 111632 for R1,940,290.78 (Phase 2), and (3) PWR 111623 for R1,999,875.19 (Phase 2.2). Set Square alleged that the contractor fell behind on progress and failed to remedy defective work. Set Square issued notices of default and subsequently cancelled the underlying construction contracts for breach. Set Square then made written demands on Power Guarantees under each of the three guarantees, providing statements that the contracts had been terminated due to the contractor's default and attaching copies of the termination notices as required by the guarantees. Power Guarantees refused to make payment under any of the guarantees. Set Square launched an application in the Gauteng Division of the High Court, Pretoria, claiming payment totaling R7,273,666.54 plus interest and costs.

• Whether the terms of on-demand performance guarantees preclude interrogation into the underlying contractual disputes between the employer and contractor
• Whether the underlying construction contracts existed and if so, whether they were inextricably linked to the performance guarantees
• Whether the guarantees could be vitiated by mistake where the contracts described in the guarantees allegedly differed from those actually concluded
• Whether the fraud exception applied to prevent enforcement of the guarantees
• Whether unconscionability constitutes a recognized exception to liability under on-demand guarantees in South African law

1. The appeal under case number 150/24 (Power Guarantees' appeal) was dismissed with costs. 2. The appeal under case number 099/23 (Set Square's appeal) was upheld with costs. 3. Paragraphs 2 and 3 of the high court order were set aside and replaced with orders that Power Guarantees pay: (a) R1,999,875.19 under guarantee PWR 111623; (b) R3,333,500.57 under guarantee PWR 111504; (c) R1,940,290.78 under guarantee PWR 111632; plus interest at 7% per annum on each amount from the respective demand dates to final payment. 4. The respondents (Power Guarantees and the contractor) were ordered to pay costs of the application jointly and severally, the one paying the other to be absolved.

1. On-demand performance guarantees are autonomous and independent from the underlying construction contracts they secure. 2. Where a beneficiary complies with the terms of an on-demand guarantee by making a demand that includes the required statements and documents, the guarantor is obliged to pay without interrogating disputes between the employer and contractor under the underlying contract. 3. Where a guarantee expressly provides that references to the underlying contract are made for convenience only and not to create accessory obligations, the guarantor is precluded from challenging the existence or validity of the underlying contract. 4. The fraud exception to enforcement of on-demand guarantees is narrow in scope and requires proof on a balance of probabilities that the beneficiary presented documents containing material misrepresentations of fact which the beneficiary knew to be untrue. Mere error, misunderstanding or oversight does not constitute fraud. 5. The party alleging fraud bears the onus of proof, which will not be lightly discharged. 6. Unconscionability is not a recognized exception to liability under on-demand guarantees in South African law (at least not on the facts where it was not properly pleaded). 7. Mistake (whether unilateral, mutual or common) cannot be relied upon to vitiate on-demand guarantees where it is not properly pleaded and where interrogation of the underlying contract would undermine the autonomous nature of such guarantees.

The Court made several notable observations: (1) The Court noted that clause 10.0/9.0 of the guarantees provided that the employer had the absolute right to arrange affairs with the contractor in any manner deemed fit, and the guarantor could not claim release on account of any conduct alleged to be prejudicial - emphasizing the breadth of the employer's discretion. (2) The Court observed that the contractor and Set Square both executed their obligations under the principal agreements and did not dispute the validity of those contracts - their disputes concerned performance issues only. (3) The Court noted that where parties seek relief on the ground of mistake, they must explicitly plead details of the nature of the mistake and show it was reasonable, citing National and Overseas Distributors Corporation v Potato Board and Von Ziegler v Superior Furniture Manufacturers. (4) The Court indicated that unconscionability was 'not squarely raised' in the pleadings and the facts were not specifically advanced, suggesting that even if unconscionability might theoretically be a defense, it must be properly pleaded and substantiated. (5) The Court remarked that it was 'remarkable' that the court a quo did not deal with the fraud exception but noted the reason was that the court had determined the underlying agreements existed.

This case provides important clarification on the autonomous nature of on-demand performance guarantees in South African construction law. It reaffirms the principle established in cases such as Aveng/Strabag v SANRAL and Coface v East London Own Haven that on-demand guarantees are independent from underlying contracts and must be honored upon compliant demand without interrogation of contractual disputes. The judgment emphasizes that guarantors cannot escape liability by challenging the existence or validity of underlying contracts, except in cases of proven fraud. The Court rejected the extension of the 'inextricable link' doctrine from tax law (Clicks Retailers) to on-demand guarantees. Significantly, the Court declined to recognize 'unconscionability' as a basis for avoiding liability under on-demand guarantees, leaving fraud as the only recognized exception. This decision reinforces commercial certainty in the construction industry by upholding the efficacy of performance guarantees as liquid security instruments. The judgment clarifies that where guarantees expressly state that references to underlying contracts are for convenience only, guarantors are precluded from disputing contract validity. This case is essential authority on the narrow scope of defenses available to guarantors under on-demand performance bonds in South Africa.