A Shareholders Agreement or SHA as commonly known, is a critical transaction document in an investment transaction, it governs the rights of the shareholders of a company, provides the manner in which shareholders can deal with their shares and other important matters concerning the management and operations of the company.
This knowledge series seeks to provide a brief overview of the common rights included in a Shareholders Agreement and the points to consider with respect to such rights.
Part 1 – Right of first offer (ROFO) and Right of first refusal (ROFR)
Right of first offer (ROFO)
Right of first offer provides the holder of these rights (“ROFO Holder”), the right to make the first offer in the event a shareholder decides to sell his shares.
The selling shareholder is required to inform the ROFO Holder of the number of shares such shareholder wishes to sell. The ROFO Holder is then required to make an offer stating the price and terms at which he proposes to buy the shares of the selling shareholder. The selling shareholder may accept the offer and sell the shares as per the offered terms or he may choose to reject the offer. In the event, the offer is rejected, the selling shareholder is permitted to sell shares to a third party only at price which is higher than the price offered by the ROFO Holder.
Points to be considered by ROFO Holder
- The selling shareholder should not be permitted to sell his shares to a competitor, this is necessary to protect the confidential information of a company.
- The selling shareholder should be required to complete the sale to a third party within a defined period and upon expiry of such period, the selling shareholder should be required to repeat the ROFO process. The offer made by the ROFO Holder would be based on facts of the company existing at the particular time, if there is no limit within which the third party sale has to be completed, such right may remain open for a prolonged time, wherein the circumstances of the company may change and the ROFO Holder may be willing to provide better terms, however, if the timeline for the third party sale is not limited, the ROFO Holder’s right will not be retriggered once rejected.
- The selling shareholder should be required to ensure that the incoming shareholder executes a deed of adherence stating that such incoming shareholder will comply with the terms and conditions of the existing shareholders agreement.
Points to be considered by selling shareholder
- The ROFO Holder should be required to complete the purchase of shares within a defined period. In the event, wherein the ROFO Holder fails to complete the sale within the defined period, the ROFO Holder’s right should lapse and the selling shareholder should be free to sell his shares to a third party.
- A base price can be pre-agreed and recorded in the SHA. The ROFO Holder should not be permitted to make an offer below the agreed base price.
- On the occurrence of an event of default or material adverse changes, the prohibition to sell shares to a competitor should fall away.
ROFR (Right of First Refusal)
Right of first refusal provides the holder of these rights (“ROFR Holder”), the right to receive the first offer from a shareholder in the event a shareholder decides to sell his shares. As the sale offer is required to be made first to the ROFR Holder, the ROFR Holder obtains the right to first accept or the right to first refuse such offer.
The selling shareholder is required to provide an offer stating the price and terms at which he proposes to sell his shares. The ROFR Holder may accept the offer and buy the shares as per the offered terms, or he may choose to refuse the offer. In the event, the offer is rejected, the selling shareholder is permitted to sell shares to a third party only at a price which is higher than the price offered to the ROFR Holder.
Points to be considered by ROFR Holder
- The selling shareholder should not be permitted to sell his shares to a competitor, this is necessary to protect the confidential information of a company.
- The selling shareholder should be required to complete the sale to a third party within a defined period and upon expiry of such period, the selling shareholder should be required to repeat the ROFR process again.
- The selling shareholder should be required to ensure that the incoming shareholder executed a deed of adherence stating that such incoming shareholder will comply with the terms and conditions of the existing shareholders agreement.
Points to be considered by selling shareholder
- The ROFR Holder should be required to complete the purchase of shares within a defined period. In the event, wherein the ROFR Holder fails to complete the sale within the defined period, the ROFR Holder’s right should lapse and the selling shareholder should be free to sell his shares to a third party.
- On the occurrence of an event of default or material adverse changes, the prohibition to sell shares to a competitor should fall away.
You can read Part 2 of this Knowledge Series – Drag Along and Tag Along Right here.
You can read Part 3 of this Knowledge Series – Anti Dilution here.
For more information about Shareholders Agreements you may write to us at: solutions@bridgeheadlaw.com.
Karan Narvekar | Partner
Sunny Nirmal | Associate
Meghna Shukla | Trainee
Views expressed are personal to the authors and do not constitute as legal advice.
