Overview of an Option Agreement

What is an Option Agreement?

An Option Agreement is a contract by which a company gives a buyer an option to buy new shares in future.

An Option Agreement specifies the type and amount of shares to be issued to the buyer, the exercise period, the exercise price, and any condition to be fulfilled before it can be exercised.

Under an Option Agreement, shares are issued to the purchaser when he exercises the option and pays the exercise price. This is also known as “forward vesting”, which is contrary to “reverse vesting” under a Share Vesting Agreement.

What is meant by an “option”?

An “option” is a right (but not an obligation) to buy shares at a future date at a pre-determined price.
Under an Option Agreement, the buyer does not receive any shares until the option is exercised. This mechanism is commonly known as “forward vesting”, as opposed to giving shares to the buyer upfront subject to the company’s right to buy back under a Share Vesting Agreement, which is known as “reverse vesting”.
The Option Agreement is for a “single grant”, i.e. the company is giving this option to this specific buyer on these specific terms. If you intend to give options to a number of your employees or persons who provide services to you, you should use a Share Option Plan instead. 

Key terms explained

Option Shares” means the shares that will be issued to the buyer when the option is exercised. In the Zegal app, you can choose to input a fixed number of shares or a percentage i.e. when new shares are issued, what per cent will these shares represent in the then entire issued share capital of the company? You should note that this “total issued share capital” is calculated on a fully diluted basis, i.e. all outstanding convertible instruments, notes, and warrants are assumed to be fully converted.
“Exercise Period” means the period during which the option can be exercised. In the Zegal app, you will input the start date and the end date for this period. You can also add conditions to the exercise of option, i.e. those conditions that need to be fulfilled before the option can be exercised. In the Zegal app, you can specify that the condition is to achieve funding of a target amount (called a “Target Funding” in the document) or you can input any other conditions that apply in your case.
Option Purchase Price” means the price to be paid by the buyer for this option. It is different from “exercise price”. This price should be paid at the same time as the Option Agreement is signed.
Exercise Price” means the price per share to be paid when the option is exercised. In the Zegal app, the exercise price can be either a fixed amount or a price that is determined by dividing an agreed valuation by the number of issued shares in the company.

How to create a share option?

Step 1: Create an Option Agreement on the Zegal app.
Step 2: Check your constitutional document or consult your company secretary to confirm how to approve the execution of the Option Agreement (typically the issue of option needs to be approved by shareholders of the company).
Step 3: Execute the Option Agreement; at the same time, the buyer should pay the purchase price for the option to the company.
Step 4: During the exercise period, provided that the conditions (if any) have been fulfilled, the buyer can exercise the option by giving the company an Exercise Notice.
Step 5: On the date specified in the Exercise Notice as the completion date:
(i) the buyer will pay the exercise price to the company;
(ii) the board of directors of the company will by resolution approve the issue of new shares to the buyer and other related matters; and
(iii) the company will issue a new Share Certificate to the buyer.

Key points included

  • Purchase price of the option;
  • Number and type of new shares to be issued upon exercise of the option;
  • Period during which the option can be exercised;
  • Whether there is any condition to be fulfilled before the option can be exercised, and if so what the conditions will be;
  • Purchase price for each share when the option is exercised, which is called the “exercise price”; and
  • Within how long after the exercise of option completion will take place.

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