CHAPTER 11 PREFERENTIAL PURCHASE RIGHTS
| Jurisdiction | United States |
(May 1981)
PREFERENTIAL PURCHASE RIGHTS
and Brian T. Dolan
Davis, Graham & Stubbs
Davis, Graham & Stubbs
Denver, Colorado
Washington, D.C.
TABLE OF CONTENTS
I. INTRODUCTION
II. THE NATURE OF PREFERENTIAL PURCHASE RIGHTS
A. As a Contract Right
B. Analogous to an Option to Purchase
C. As an Equitable Interest in Real Property
D. As a Severable or Dependent Right
E. As a Covenant Which Runs With the Land
III. VALIDITY OF PREFERENTIAL PURCHASE RIGHTS PROVISIONS
A. Requirements of Contract
1. Valid Consideration
2. Mutuality of Obligation
3. Certainty of Terms
a. Price
b. Property Description
c. Time for Performance
B. Statute of Frauds
C. Rule Against Restraints on Alienation
D. Rule Against Perpetuities
E. Particular Statutory Requirements
IV. APPLICATION OF PREFERENTIAL PURCHASE RIGHTS
A. Occurrence of the Condition Precedent
B. Exercise of the Purchase Option
C. Application to Multi-Property Transactions
D. Rights and Remedies of the Parties
1. Specific Performance
a. No Adequate Remedy at Law
b. Trial Court's Discretion
c. Controlling Equitable Principles
d. Parties Subject to the Decree
e. Incidental Relief
f. Equitable Defenses
2. Damages
[Page ii]
V. PREPARATION OF PREFERENTIAL PURCHASE RIGHT AGREEMENTS
A. Matters to be Considered in Preparing a Preference Right Provision
1. Identification of Objectives
2. Selection of Format
3. Identification of Property Covered
4. Definition of the Condition Precedent
5. Establishment of and Matching the Price
6. Other Matters
B. A Sample Preferential Purchase Right Provision
Appendix 1
———————
[Page 11-1]
I. INTRODUCTION.
When viewed in a broad context, it is apparent that minerals transactions have common features—indeed, in certain respects inescapable features—which explain the frequency with which parties involved in such transactions have chosen to agree upon a preferential purchase right procedure. For example, by their nature, most mineral deposits are hidden from the perception and ready access of man. They can be located and evaluated only by expensive and imprecise procedures. As an inevitable result, a substantial degree of uncertainty about the extent, location and value of such deposits is inescapable. A preferential purchase right arrangement enables the holder of the right to take advantage of information developed over time (information which may be of unique value to the holder of the right as a party familiar with the deposit), in order to make a determination about the value of a right or interest which becomes available, and to act to acquire the interest if warranted.
In addition, because minerals transactions involve greater risks than most other commercial ventures, such transactions frequently include a number of participants, each sharing a portion of the risk. In such cases, successful exploitation of the deposit is highly dependent on the maintenance of an effective working relationship among the participants. That effectiveness is a function of the agreements among the parties, their relative financial and technical skills, the commonality of their goals, their personnel, and other factors. In these circumstances, it is certainly desirable, and it may be vitally important, for the participants to have a first refusal right to insure that any new participants in the joint effort are compatible, or to acquire or maintain control of the joint effort to insure that desirable objectives are achieved.
There are many other justifications for the use of such devices. An owner of severed mineral rights may want to insure that if ownership of the surface changes, it can be
[Page 11-2]
acquired to eliminate surface damage obligations, to improve access, to provide sites for operating activities, or for other reasons. A party which has invested the early high risk funds and effort for a project may want to have an opportunity to acquire available interests for the long term rewards they offer. A party with customer supply obligations or plant feed requirements may want to be able to assure itself of access to additional production which may become available. Obviously many other examples could be cited, but these few provide an adequate sampling for the purposes of this inquiry.
The attraction of a preferential purchase right agreement is that, theoretically, the value of the arrangement to the holder of the right exceeds the cost to the party burdened with the obligation. The holder of the right has an opportunity to take advantage of the passage of time and additional information and the option to act to acquire the available interest if acquisition is in its best interest. Thus, the holder has a right and an opportunity, with few if any related burdens. Conversely, in theory, the party with the obligation is little burdened by the arrangement. It alone determines whether it will sell or take other action which triggers the right; and it alone determines the terms upon which the transfer will take place. Given this degree of control, it should matter little to such party who meets the terms that it establishes.
This theoretical analysis has some validity, presuming that a very carefully crafted preference right provision has been created and that a familar form of transaction occurs. In practice, however, preference right arrangements can be extremely burdensome, in some cases hampering the transferability of the interest, as a practical matter, to a degree which may violate applicable prohibitions against restraints on alienation.1 For example, uncertainties about the application of a particular provision to a transfer may, if the holder of the right is unwilling to provide a waiver, constitute a cloud on title sufficient to prevent a transfer. Further, a requirement that a bona fide third-party offer to purchase first be received can be an enormous obstacle in the sale of a mineral interest, since potential purchasers are often reluctant to undertake expensive, time-consuming (but essential) investigations and evaluations, and to conduct spirited negotiations to arrive at an acceptable price, only to have the holder of the right step in and purchase the interest. Or, a preferential right provision may limit the terms of transfer, say to cash consideration, in order to enable the holder of the right to make a matching offer, thus
[Page 11-3]
foreclosing the burdened party from necessary freedom of action to meet the requirements of potential purchasers.
Nevertheless, for the kinds of reasons set forth above, and notwithstanding these problems, it is apparent that preferential purchase right provisions are utilized frequently in minerals transactions,2 and are in fact included in a number of standard forms in wide use in the minerals industry.3
[Page 11-5]
The purposes of this inquiry are to investigate the nature of preferential purchase rights from a legal perspective; to examine their validity; to consider and evaluate the application of preferential rights in various circumstances, particularly in minerals transactions; and to provide practical suggestions for structuring and applying preference rights in proposed transactions.4
II. THE NATURE OF PREFERENTIAL PURCHASE RIGHTS.
Whether a court will hold valid and enforce a preferential purchase right is frequently determined by the legal characteristics which the court ascribes to the preferential purchase right and to the correlative duties of the burdened
[Page 11-6]
property owner. These legal characteristics will vary with the purpose of the court's analysis, with the contract language before the court, and ultimately it seems, with the equities or social policies the court desires to serve.
A. As a Contract Right.
A preferential purchase right is at its most elemental a contract right. This classification impacts a court's analysis of the validity and enforceability of the preference purchase right provision in at least three significant and familiar ways.
First, the language of the preferential purchase right will be construed according to the rules of contract interpretation adopted by legislators and the courts. Generally, these rules require that in construing a contract a court should consider the situation of the parties, the purpose sought to be accomplished, the surrounding circumstances, each and every part of the contract, the usages and customs of the trade or business to which the contract pertains, and the avoidance of an unreasonable, inequitable, or oppressive construction when the language is subject to a construction which makes the contract fair and reasonable.5 In addition, in cases of uncertainty, contract language is often construed against the burdened party or against the party who drafted the instrument.6
Second, the preferential purchase right will not be enforced unless its terms are sufficiently definite, certain and complete to allow a court to ascertain the intent of the parties.7
Finally, the remedies available for violation of the preferential purchase right are the remedies available for a breach of contract generally, and for breach of a contract for the conveyance of land, specifically.8 These elemental
[Page 11-7]
principles of contract law will apply to contracts creating preferential rights in minerals transactions.
B. Analogous to an Option to Purchase.
It is well-recognized by the courts and legal commentators that a preferential purchase right and an option to purchase create legal relationships between their parties which are dissimilar in important respects.9 In the case of an option to purchase, the property owner has made an irrevocable offer to sell, creating in the option holder a power of acceptance and an unconditional right to a conveyance of the property. On exercise of the option and compliance with its terms, a binding contract of sale is created. In the case of a preferential...
To continue reading
Request your trial