What is a 'right of first refusal' and how does it work?
This question was asked in response to yesterday’s story about the possible existence of a “right of first refusal” (ROFR) clause in the shareholders’ agreement (SHA) for investors in the Light Rail Manila Corp. (LRMC). The LRMC is a closely-held private company, meaning that it has a small number of shareholders, and since there is no public market for the sale of those shares, the shareholders in such a company almost always sign a SHA to govern important aspects of ownership like how decisions will be made, how disputes will be resolved, and how shares can be sold or transferred. In reality, these agreements are massive, and since they’re just negotiated contracts, the parties are free to make up whatever weird and wild clauses they like or to modify existing templates to suit whatever special situations are in play.
> What is a ROFR clause? In this case, a ROFR clause is used to control how shares are sold and transferred, and it gives the other parties to the agreement the right (but not the obligation) to buy any shares that are being sold before they are sold to parties outside of the agreement.
> How does a ROFR (usually) work? I say “usually” because the nitty-gritty details of how each clause works will be the result of the negotiations between the parties, so it’s important not to assume too much about a ROFR that you haven’t read. But generally, they work like this: a shareholder gets an offer from an outside party to buy the shares, the selling shareholder gives notice to the other shareholders of the offer and its terms, and then the other shareholders have a time-limited right to buy the shares from the selling shareholder on the same terms and conditions as the offer from the outside party. Each part of that last sentence can contain multiple rabbit holes of detail, sub-clauses, or modifications, but that’s a good high-level overview of how it works.
> Why are ROFR clauses useful? They’re effective at giving some amount of control to the remaining shareholders about who they will remain in business with after the selling shareholder is gone. Say, for example, that you and I got into business together to set up a coffee kiosk called Coffee
