What is Right of First Refusal?
Right of first refusal grants the terms of a transaction to one party to determine if they are interested (i.e., the holder of the right of first refusal) before it is given to a third party.
How Does Right of First Refusal Work?
Right of first refusal is a contractual term giving its holder the option to buy or sell something before the owner is allowed to buy or sell the same item to a third party.
A right of first refusal is used in a variety of transactions, including real estate sales, patent license, other intellectual property or even the sale of a business. For example, in real estate, an adjacent property owner may give the right of first refusal to a neighbor. Only if the neighbor passes on the offer for the property would the owner be able to sell it to someone else. In business, investors who participated in developing a technology, for example, may be given the right of first refusal to buy and use it.
Why Does Right of First Refusal Matter?
A right of first refusal is an important contractual right that encumbers sellers. Rights of first refusal may be provided at a cost, but usually they are traded for some interim privileges including the use of the specific asset or another asset. For example, in movie or music production, the right of first refusal may be given to a production company for a prior project.
Because the right of first refusal carries the same terms and conditions (e.g. $1 million, payable immediately) for the holder and any subsequent sale (e.g. $1 million, payable immediately), the burden on the sellers is usually minimal.