“I have an option”-What the law says!
By Sean Bosse
Bosse & Associates Attorneys (Cape Town)
Tel: +27 21 556-9451
In recent years, we have come to observe that many entertainment (commercial) agreements that purport to be “option” agreements are, by their very legal nature, in fact “rights of first refusal” contracts. While we have yet to litigate on such contract terms of dispute, it appears to us that it will only be a question of time before we do, all being the result of the contracting parties not knowing or understanding the subtle differences between an “option” contract and a “right of first refusal” contract.
This article sets out to explain, in broad terms, the differences between the two types of agreements with the aim to empower contracting parties to understand “what the law says” about each type of contract.
The South African law of contract is based on the principle of freedom of contract. That is to say, parties can enter into any type of agreement with each other so long as it is not illegal or against public policy. It is a further tenant of South African contract law that the premise of any agreement is to be found in the mutual understanding and agreement between the parties as to the content, nature and execution of the contract and contract terms.
Understanding and mutual agreement of the terms and conditions of the contract is fundamental to a binding commercial contract. It is for that reason that the parties must understand and be aware of what the terms and conditions of the contract are and how they will apply when the contract is executed. Failure to do so may result in the contract being thwarted and, possibly, result in expensive and acrimonious litigation.
Option contracts and contracts of a right of first refusal find regular inclusion in many entertainment contracts, whether they be in the film, music, sports and/or sponsorship sector of the industry. While these two types of contracts (or clauses within a contract) may appear to be and mean the same thing, the reality is that they do not and the law treats them very much as mutually exclusive contractual concepts.
To illustrate the difference between the two legal concepts, let’s consider the following scenario. A South African distributor wishes to secure the rights to distribute certain home video products in South Africa from the US producer of a certain well-known television series that currently airs in South Africa. The South African distributor concludes a distribution agreement with his US counterpart and which distribution contract incorporates an option that the South African distributor may continue to distribute the product in South Africa for a period of two years after the termination of the original contract(subject to certain conditions having been met and certain guarantees being fulfilled).
In a second agreement concluded by the South African distributor with his US counterpart, a contract is entered into in terms of which the US producer grants to the South African distributor the right of first refusal to distribute in South Africa the second season showing of the popular television series once such series makes its way to video distribution.
Both agreements provide certain rights to the South African distributor and while they may appear to grant him rights that are the same, the terms of those contracts are decidedly different. In the first instance, the option granted to the South African distributor are rights that are vested in him as soon as the ink dries on the signing of the distribution contract. The “option” clause in the agreement cannot be taken away from the distributor and he has the right to elect to exercise the option should he fulfil any terms or guarantees linked to such exercise of the option (for example that the distributor must sold at least a million units within the first year). If the distributor elects to exercise the option granted in his favour, the US distributor is obliged to honour the contract.
The option clause is different from that of the second contract that the South African distributor concluded. In the second scenario, the contract vests in the South African distributor only a right that in the event that the US producer decides to distribute the second series of the television show in South Africa, the US Producer is obliged to first offer the distribution opportunity to the South African producer before he may offer it to any other third party producer. As can be seen from this clause, the contract term is not as strong in favour of the South African distributor as that of the option agreement.
In assisting clients finalise entertainment and commercial agreements, we far too often find that parties intend one thing and then conclude agreements that don’t necessarily record those intentions in the contract terms. Many times, the issue of whether to grant and accept an option or right of first refusal comes up as a sticking point in negotiations simply because the parties don’t understand the subtle differences in the legal concepts. This not only has legal ramifications but will also affect the commercial value and viability of concluding such agreements (especially if the parties do not know the differences between the two legal concepts)
Most legal systems in the world will come to the aid of parties should there be disagreement about the true intentions of contract terms. However, this not only comes at a price to litigate but all courts apply the founding principle “caveat emptor; caveat venditor” (loosely translated: contracting parties beware!). Ignorance of the law is frowned upon, especially in the conclusion of commercial agreements where the contracting parties may be expected to have a higher sense of understanding of the terms of the contract they have concluded.
We would strongly suggest that before concluding any type agreement, especially entertainment and commercially oriented entertainment contracts, the parties have their respective attorneys and legal advisers review such contracts to give the parties peace of mind that that which is stipulated is what the contracting parties intended to apply and ….that it is what the law says!
Bosse & Associates Attorneys copyright 2013 (c)
Entertainment law specialists