A recent SCA ruling confirms that contractors who enter government contracts exceeding budgeted amounts are still entitled to payment for work done, even if the contract is deemed invalid.

On 27 December 2024, the Supreme Court of Appeal (the SCA) handed down a decision in Zeal Health Innovations (Pty) Ltd v Minister of Defence and Military Veterans and Another (967/2023) [2024] ZASCA 183.

The case concerned a contract awarded by the Department of Defence and Military Veterans (the Department) to Zeal Health Innovations (Pty) Ltd (Zeal Health) for the provision of health and wellness services to military veterans.

The Department awarded Zeal Health a contract worth R198 million. In addition to its other financial obligations and contracts, the contract sum exceeded the Department’s cumulative approved budgets for the three relevant financial years by R76 million.

Zeal Health instituted an urgent application in the High Court for an order for an order compelling the Department to make payment to it for services rendered. The Department instituted a counterapplication for the judicial review and setting aside various decisions made by the Department’s officers, the award of the tender to Zeal Health and the conclusion of the contracts between the Department and Zeal Health.

The High Court dismissed Zeal Health’s application and granted the Department’s counterapplication.  The court ruled that the contract was invalid due to non-compliance with section 38(2) of the Public Finance Management Act 1 of 1999 (PFMA). This provision expressly prohibits accounting officers from committing a department to financial obligations for which funds have not been properly appropriated Zeal Health appealed the High Court’s decision.

The SCA upheld the High Court’s decision to set aside the contract. It held that the contract was set aside on the basis that under section 38(2) of the PFMA, an accounting officer may not commit the Department to any liability for which money had not been appropriated.  The SCA noted that the Acting Director-General did not have the power to commit the Department to liability for which sufficient funds had not been appropriated. It further noted that the Acting Director-General had the responsibility of ensuring that the Department did not overspend its budget and that the Acting Director-General had acted unlawfully when he breached the provisions of section 38(2).

However, the SCA upheld Zeal Health’s appeal in part. It found that whilst the contract was invalid, Zeal Health had rendered services in terms of it.

The court made a just and equitable order in terms of section 172(1) of the Constitution. Zeal Health was not involved in the perpetuation of irregularities. It was an innocent party. In the circumstances, the SCA found that Zeal Health was entitled to payment of any amount it could establish. The SCA found that the quantum of the services rendered had not been determined and that it was not its responsibility to do so. The SCA held that it was open to the parties to determine further course of action regarding the amount payable to Zeal Health for the services rendered and that this could be determined in the pending action proceedings in the High Court.

What the court has seemingly now confirmed is that the innocent contracting party will nonetheless be entitled to compensation for the work performed by it, even where a contract is set aside. The innocent party must establish what is owed to it. If payment is not made, then it can approach the court.

For contractors, this is an important judgment, as it potentially entitles them, upon award of a tender at the start of each financial year in circumstances where a contract spans multiple years, to place the government on terms to provide proof that funds are available. If those funds are not available or are used elsewhere, there is potential for proceedings to be instituted against the relevant officials (see our article titled: Are Municipal officials personally liable for unauthorised or irregular expenditure?).

Government’s failure to provide proof that funds are available will not automatically entitle contractors to suspend and/or cancel works (unless the contract allows for this) but will certainly provide leverage for government to place the relevant officials in breach of their obligations in terms of the PMFA.

The decision also confirms that innocent contractors should be paid for the work done, even if the contract is set aside on the basis that the contract sum exceeds the approved budget.

In theory, the same logic and principles will apply to contracts where the initial budget increases, either through delay claims, variation orders, escalation, scope creep, etc.

Ultimately, the case highlights the balance courts must strike between upholding statutory requirements and ensuring fairness where an innocent party has acted in good faith.