I recently appeared in a matter in the Real Property List of the Supreme Court of New South Wales where the main question for argument was whether a party was entitled to exercise a right of first refusal.
The plaintiff in that matter owned a commercial property in Sydney (‘Premises’) and the defendant leased the Premises for its business (‘Lease’). The Lease was for five years with an option to extend for a further five years. If the plaintiff wanted to sell the Premises, the Lease gave the defendant a right of first refusal on certain terms to be discussed below.
The plaintiff gave a third party a call option with respect to the Premises which was expressed to be ‘subject to and conditional upon the exercise of’ the right of first refusal by the defendant. This call option was simultaneously provided to the defendant.
The plaintiff said it complied with the terms of the right of first refusal and commenced proceedings in the Supreme Court seeking a declaration that the defendant did not exercise its right of first refusal and the Premises could therefore be sold to the third-party in line with the call option.
So let’s get down to the nitty gritty.
Clause 31 of the Lease provided for a right of first refusal in respect of the purchase of the Premises, which was in the following terms:
31 Right of First Refusal
31.1 During the term of this Lease or any extension or holding over of it, before the Lessor may sell the freehold property of which the premises form part, to a third party, the Lessor shall first offer the Property to the Lessee or its nominee on the same terms and conditions as are offered by the third party. The Lessee or its nominee shall have 30 days during which to accept the said offer. If the Lessee or its nominee does not accept the said offer within the 30 day period then the Lessor shall be free to accept the third party offer. If the Lessor does not enter into an agreement with the third party on the said terms and conditions and close the transaction within 120 days then the Lessors right to sell the Property to the third party shall expire and the procedure described in this Clause 31 shall again be applicable.
On 21 October 2017, the plaintiff indicated to the defendant that it intended on selling the Premises. It sent the defendant a copy of a call option as provided to a third-party later that week. The call option included:
2.1 - Definitions
“Call Option Commencement Date” means the date 35 days after the Agreement Date.
“Call Option Expiry Date” means the date which is 366 days from the date of the Call Option Commencement Date.
“Call Option Exercise Period” means the period commencing on the Call Option Commencement Date and ending at 5:00pm on the Call Option Expiry Date;
“Call Option” means the option to purchase the Property granted by the Grantor to the Grantee in clause 2.1;
“Contract” means a contract for sale of the Property, to be entered into by the Grantor and the Grantee or the Grantee’s nominee upon exercise of the Call Option, which contract will be in the form contained in annexure A and which need not be executed by the parties to be valid and binding, but will regulate the terms of the sale of the parties as if they had entered into it on an unconditional basis and not subject to finance and all statutory protections of the Grantee waived;
2. CALL OPTION
2.1 Grant of Call Option
Subject to clause 2.2, in consideration of the execution of this Agreement, the Grantor grants to the Grantee an irrevocable:
(a) Call Option to require the Grantor to enter into the Contract to sell the Property to the Grantee; or
(b) Right to nominate a person, or an entity, as selected by the Grantee, to enter the Contract with the Grantor to purchase the Property on the terms contained in this Agreement.
2.2 Conditional Nature of Call Option
This Call Option is subject to and conditional upon the exercise or otherwise of the Right of First Refusal by the lessee of the Ground Floor at the Property (“Right of First Refusal”).
In the event that the lessee exercises the Right of First Refusal then the Grantor will be at liberty to rescind this Call Option and the Option Fee will be refunded to the Grantee and neither party will have a Right against the other for any reason whatsoever.
In the event that the lessee does not exercise the Right of First Refusal then this Call Option becomes unconditionally binding on the Grantor and the Grantee.
2.3 Exercise of Call Option by Grantee
The Call Option may be exercised at any time during the Call Option Exercise Period by serving at the Notice Address of the Grantor’s Representative by personal delivery or express post:
(a) a Call Option Exercise Notice signed by the Grantee or its Authorised Representative; and
(b) two copies of the Contract executed by the Grantee or the Grantee’s nominee (as the case may require),
or the Grantee may exercise the Call Option during the Call Option Exercise Period by serving Notice by email in which case the Contract referred to in paragraph (b) of this clause must be delivered personally or by express post, within two Business Days of service of the Call Option Exercise Notice.
2.5 Binding Contract
On exercise of the Call Option the Grantor and the party exercising the Call Option will become immediately bound as Vendor and as Purchaser respectively under the Contract.
2.6 Date of Contract
The Contract will be dated with the date on which the Grantee or the nominee from the Grantee (as the case may be) exercises the Call Option and both parties are authorised to date the Contract with that date.
2.7 Return of Contract
Within two Business Days after receipt of the Contract, the Grantor must execute the two copies of the Contract and return one executed copy of the Contract to the Grantee’s Solicitor and if the Grantor fails to do so, the Grantor appoints the Grantee and each of its Authorised Representatives as its attorney for the purpose of signing the Contract.
2.8 Option Fee
The Option Fee must be paid by the Grantee to the Deposit Holder on the Agreement Date.
The Option Fee will be held by the Deposit Holder for 35 days following the Agreement Date pending the exercise or otherwise of the Rights of First Refusal.
In the event that the Right of First Refusal is not exercised then the Option Fee will be released to the Grantor (or as it directs) forthwith.
The Option Fee will be and remain the property of the Grantor whether or not the Call Option is exercised, but if the Call Option is exercised, the Option Fee will be and be deemed to be a part payment of the deposit and purchase price under the Contract. If this Agreement is terminated as a result of a default on the part of the Grantor or as a result of the Grantee exercising a right of termination, the Option Fee will be refunded to the Grantee.
On 23 November 2017, the plaintiff refused the defendant a further 2 week period to consider the right of first refusal and indicated that the defendant had lost its right of first refusal.
The plaintiff argued that it complied with clause 31 of the Lease and that if the call option was exercised, it would result in a sale of the Premises. The defendant submitted the words ‘before the lessor may sell’ in clause 31 made it clear that what had to be offered was a contract for sale. It was argued that a call option was not such a contract and was no more than a condition contract (relying on Laybutt v Amoco Australia Pty Ltd (1974) 132 CLR 57).
His Honour noted the principles set out by the High Court in Woodside Energy Ltd v Electricity Generation Corporation  HCA 7 at :
“Both Verve and the Sellers recognised that this Court has reaffirmed the objective approach to be adopted in determining the rights and liabilities of parties to a contract. The meaning of the terms of a commercial contract is to be determined by what a reasonable businessperson would have understood those terms to mean. That approach is not unfamiliar. As reaffirmed, it will require consideration of the language used by the parties, the surrounding circumstances known to them and the commercial purpose or objects to be secured by the contract. Appreciation of the commercial purpose or objects is facilitated by an understanding “of the genesis of the transaction, the background, the context [and] the market in which the parties are operating”. As Arden LJ observed in Re Golden Key Ltd, unless a contrary intention is indicated, a court is entitled to approach the task of giving a commercial contract a businesslike interpretation on the assumption “that the parties ... intended to produce a commercial result”. A commercial contract is to be construed so as to avoid it “making commercial nonsense or working commercial inconvenience”.”
His Honour indicated that a reasonable businessperson would have understood clause 31 of the Lease to mean that the plaintiff could not sell the Premises without giving the defendant an opportunity to purchase the Premises on precisely the same terms as those being offered to the third party. The last sentence of clause 31 of the Lease (‘lessor’s right to sell the property shall expire within 120 days’) was deemed very important. The intention of those words was the plaintiff had a window of 120 days within which to complete the sale of the Premises. This 120 day period would commence after the 30 day period during which the defendant could accept the plaintiff’s offer.His Honour held that terms and conditions which could satisfy clause 31 of the Lease could extend to terms and conditions in the form of a call option provided that those terms were not inconsistent with the completion of the sale of the Premises within the 120 days limited by the last sentence of clause 31 of the Lease.
The call option was held not to satisfy the requirement of being such ‘terms and conditions’ because, while it could certainly be exercised during the 120 days, it was a one year option that could also be exercised in a way that would result in the completion of the sale outside the 120 day period.
His Honour found in favour of the defendant.
If you would like to discuss a right of first refusal, please do not hesitate to contact me by:
Phone: (02) 9232 4466
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