A put option is a common term used in relation to shares, securities or asset transactions such as property. In the context of share transactions, a put option provides the grantee of the option (i.e. the option holder) the right, but not the duty, to sell their shares to the grantor of the option (usually, a company). The option holder will be an existing shareholder in the business. Below, we explain how a put option operates, the difference between a put option and a call option as well as how an option holder can exercise their put option.
How Does a Put Option Operate?
The grantor of the put option will be obliged to acquire the shares, subject to the terms of the put option, at a pre-determined price (also referred to as the ‘exercise price’ or the ‘strike price’) after the option holder exercises the put option. Sometimes the grantor will be paid an option premium for granting the put option and taking on this obligation, but this is not always the case (particularly if the put option agreement is part of a larger strategic transaction).
How is a Put Option Different to a Call Option?
A call option gives the holder the right, but not the obligation, to buy shares from the grantor. A put option, on the other hand, gives the option holder the right to sell.
In determining whether an option is a call or put option, the relevant question is which party has the right to trigger the option? That party is the option holder. Otherwise, the actual mechanics of a put option are very similar to the mechanics of a call option.
How is a Put Option Exercised?
An option holder can exercise their put option during the option period (i.e. the time in which the option holder must exercise their option). The put option agreement will usually terminate upon expiry of the option period.
A put option may be structured so that it can be exercisable at any time. Alternatively, it may be structured so that it can only be exercised upon fulfilment of time-based conditions or other types of commercial conditions that the grantor may impose on the put option.
When the option holder exercises the put option, it will issue the grantor an ‘exercise notice’ confirming that it wishes to exercise the put option. The exercise notice will serve as an irrevocable notice and completion will take place shortly after. The period between the service of the exercise notice and the date of completion will usually be pre-agreed and set out in the option agreement.
What Happens at Completion?
On the date of completion, the option holder will deliver to the grantor duly executed share transfer forms for the option shares in favour of the grantor (or its nominee). The option holder should also deliver its share certificates to the grantor so they can cancel them. The grantor of the put option will need to pay the option holder the purchase price of the shares. The company must then issue new share certificates to the grantor, update its share register and update the company’s ASIC records to reflect the new shareholding structure.
The constitution of the company (which the option shares are part of) needs to be complied with, as it is likely to contain restrictions on the transfer of shares. If the company’s existing shareholders have a shareholders’ agreement, then the option holder needs to comply with any provisions in the agreement relating to the transfer of shares (for example, pre-emptive rights).
While put and call options are similar in their functions, it’s important to understand the main difference between them. Look to who holds the option, and whether they are buying or selling the shares in question.
If you have any questions about share options or need assistance drafting a put option agreement, get in touch with our commercial lawyers on 1300 544 755.