Wednesday, March 01, 2006

Rights of First Refusal - Bad for the Holder?

Intriguing article from Harvard Business School regarding rights of first refusal (or ROFRs as we corporate tools call them). For those who don't typically deal with ROFRs, they feature prominently in leases, joint ventures, distribution deals, etc. The central thesis of the article is that ROFRs can run to the detriment of the holder.

Huh? Aren't you always better off having a ROFR than not having one? Well, yeah, you are, except that not all ROFRs are created equally. A typical ROFR allows the holder to always move last. I don't think there's any debate that such a right is good to have. The authors, however, focus on what they call "Before and After" ROFRs, which allow the asset holder to set a price ceiling beyond which the asset can be transferred without being subject to the ROFR. While an arrangement like this is clearly inferior to a straightforward ROFR, it's not inherently bad - it won't always work against the holder, and at worst the holder is in the same place they'd be if they didn't have the ROFR.

The bigger point, however, is that you've got to sweat the details in your deals. You can't glaze over when you see the title header for "Right of First Refusal" (or Termination, or Indemnity, or Dispute Resolution, etc . . .). You've got to think through how these provisions will work mechanically if ever exercised, and make sure you're happy with the process. These details are often left to the lawyers; that can be a costly mistake.

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