Before entering into a call option agreement, you must ensure you are familiar with the concept of what an option for your land or shares is, how the option works and when the holder of the option can exercise a right to buy.
A call option agreement is where the grantor gives the grantee (also referred to as the ‘option holder’) the right, but not the obligation, to buy an asset (eg land or shares in a company). The option is usually at a specified price (called the ‘exercise’ or ‘strike’ price). If the option holder doesn’t exercise their right during a given period, the option (and the rights that attach) expire.
The key terms of a call option comprises the following:
1. Parties to the Agreement (the grantee and the grantor)
The owner of the asset (land or shares) grants the call option for the asset to the option holder. A grantee (option holder) and grantor (the owner of the asset) are parties to the option agreement.
The asset of the grantor is the subject to the call option agreement are referred to as the ‘option asset’. Option assets can be any asset owned by the grantor. An option asset can even be an asset that a grantor has yet to acquire.
3. Option Premium
The option premium is the amount paid for the call option itself. Usually, this will be for a nominal amount since the option holder is typically required to pay the exercise price for the shares at the point of the exercise. The option premium is different to the exercise price (discussed in further detail below). If an option premium is required, it will be paid to the grantor of the option when the agreement is established. An option premium is not always provided for in a call option agreement, and whether one should be included depends on the commercial terms of the arrangement. In land transactions often, the grantee will seek to negotiate that the option premium form part of the deposit payable on an exchange of contract for the sale of land. If possible it is in the interest of the grantor to not agree to this. By agreeing to this the grantor in effect looses the option premium.
4. Exercise Price
The exercise price is the price payable for the option asset after the option holder has exercised the call option. This price is usually a pre-determined amount and set out in the call option agreement as a fixed price. The option holder pays the exercise price to the grantor of the option upon completion of the issue or transfer of the asset (as the case may be). In certain circumstances, there may be no exercise price because the option holder may need to achieve certain performance milestones as consideration.
5. Effective Date
The effective date is when the call option becomes effective. This may be the day the grantee signs the call option agreement of another pre-determined date in the future. The effective date should not be confused with the exercise date (i.e. the date on which the option holder exercises the call option).
6. Conditions to Exercise
Often, the exercise of a call option will be conditional upon certain events occurring. For example, the option holder may only be eligible to exercise the call option after a fixed period or after it has satisfied pre-agreed performance milestones. While the grantor’s commercial objectives usually determine these conditions, they are not necessary. A call option can be structured so that the option holder can exercise the call option at any time.
7. Expiry Date
The expiry date is the last day of the option period, that is, the period in which the option holder may exercise the call option. Usually, the call option agreement will terminate on the expiry date. The call option agreement can also be structured so that it terminates upon the occurrence of other special circumstances as determined by the parties.
8. Full or Partial Exercise
A call option may be structured so that it is either fully or partially exercised. A fully exercised call option means that the option holder must subscribe or purchase the option asset under the agreement upon exercise of the call option. For a grantor, this method creates more certainty.
For a partial option, parties typically agree on a minimum number of options that the option holder must exercise. The option holder has the right to exercise the call option until all the option asset have been subscribed for or acquired, or until the option period expires.
Before executing a call option agreement, parties must consider other company documents to determine whether additional approvals are required. For instance, in the case of shares: the any shareholders agreement if one exists) may contain pre-emptive rights over the issuance of shares or the transfer of shares in the company, and existing shareholders will need to waive those rights; and or
The constitution of the company as it contains provisions that affect the nature and rights of the option asset.
In the case of land:
The terms of any existing lease(s) over the land.
A call option agreement will usually contain standard representations from each party that the execution and performance of the agreement does not contravene either:
• any agreement that the party is part of;
• any applicable law.