A Put Option is an Option pursuant to which the Vendors can require or force the Purchasers to purchase their Equity in the Business for a Pre-agreed Price and on pre-agreed payment terms.

In effect, a "Put Option" is the reverse of a "Call Option".

A Call Option is an Option pursuant to which the Purchasers can force the Vendor to sell their Equity in the Business for a Pre-agreed Price and on pre-agreed payment terms.

The Need for a Funding Mechanism

Put Options are relatively rare in the Business Succession context.

They are most common in the context of Put and Call Options in Insurance-funded Buy/Sell Agreements, where Insurance Proceeds will fund the Pre-agreed Purchase Price.

However, they are less common where there is no pre-agreed Funding Mechanism.

Clover Law is reluctant to document a Put Option, unless there is a pre-agreed Funding Mechanism in place.

If a Purchaser commits to buy the Equity regardless of whether there is a Funding Mechanism in place, then effectively they are taking on a contractual obligation to pay the Purchase Price, regardless of whether they can ultimately obtain or borrow sufficient funds.

If they cannot obtain or borrow the funds, then they could be sued for breach of contract.

However, it is possible to design a more binding Succession Plan (from the Vendor's point of view), if there is a:

Pre-agreed Purchase Price; and
Pre-agreed Funding Mechanism (such as Vendor Finance).

The pre-agreement of the Price and the Funding Mechanism means that:

there is no uncertainty about the amount of the Price; and
the Purchasers have a Funding Mechanism (other than borrowing from a Bank) that takes into account their ability to pay the Price out of the cash flow of the Business over time.

Put and Call Options

If this Strategy is acceptable to all of the parties, it is possible to structure a Succession Plan that consists of a combination of:

a Put Option that would be exercisable by the Vendor; and
a Call Option that would be exercisable by the Purchasers.

The exercise of an Option by either party would trigger a Sale for the Pre-agreed Sale Price on the pre-agreed Vendor Finance terms.

Click here to read more about Put and Call Options.

Adviser Tip

"Conditions Precedent" and "Put and Call Options" are just methods of legal drafting that postpone the date of disposal of the Equity in the Business from the date of the Business Succession Agreement to after the date of occurrence of the Insured Event.

If correctly drafted, both methods are acceptable to the ATO.

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