Differentiating Between ROFOs and ROFRs

Rights of first offer (ROFOs) and rights of first refusal (ROFRs) are two tools often used to provide rights to potential purchasers with respect to all types of assets and business opportunities. These rights grant their holders priority to acquire the assets before others. They are particularly pervasive in real estate transactions, including leasing, purchase options and financing facilities. 

An owner’s grant of such rights with respect to an asset rarely benefits the owner. On the contrary, granting of a ROFO or ROFR typically chills the freedom to market the sale of the affected assets for a period of time and limits the maneuverability of the owner. Often, such rights are granted as additional considerations in connection with a separate transaction (e.g., a lease, loan or sale). 

On the other hand, to be sure, these rights are, for the most part, very utilitarian as legitimate strategies to own and control one’s own destiny regarding an asset that is important to the business of the buyer. For example, a ground lessee in many circumstances may want to own the premises, but at the time of the lease the owner does not want to sell. But SELLERS/GRANTORS BEWARE: while the mechanisms are fairly similar, using a ROFO as opposed to a ROFR can have vastly different (and often negative) impacts on marketability — and therefore value — of the asset to the seller/grantor. Often, references to ROFOs and ROFRs are used interchangeably, without focus on the particular impacts they can have on the value of the asset that is subject to the right. 

Let us consider the differences within the context of a sale of real estate. In either case, the ROFO or ROFR is initiated when the seller or grantor of the right (for readability purposes, we will refer to that person as the “seller”) decides to sell. 

Right of First Offer

A right of first offer — a ROFO — is a right granted to the potential purchaser to entertain the terms of an offer that the seller is willing to accept for the asset. Note that sometimes, the right is formulated as a grant to the prospective purchaser of the right to make the first offer after notification from the seller of an intention to sell the property, but that structure is rarely used for many reasons that are not relevant to this discussion.

The purchaser is given a limited time to decide whether the terms proposed by the seller are acceptable. If they are, the parties negotiate a purchase agreement (or the purchaser signs a purchase agreement form proffered by the seller) within a limited period of time. If the terms are not acceptable to the purchaser, or if the parties can’t reach an agreement on the terms of the purchase within a set limited time, the seller is free to negotiate a sale to anyone else (in most cases) at any price and upon any terms acceptable.

To keep the seller honest, the purchaser will be protected by the seller not being able to offer the asset to third parties upon economic terms materially lower than the offer terms (90-95% is customary) without being obligated to reoffer to the purchaser. Usually, the seller, after rejection by the purchaser, has a set time period to negotiate a purchase agreement with a third party and/or to close, or will otherwise be obligated to reoffer to the purchaser if it continues to want to sell.

Right of First Refusal

A right of first refusal — a ROFR — is similar but has one radical difference. To initiate the option, the owner of the asset must first obtain an offer from a potential buyer with sufficient information to determine the economics of a sale. These terms are then provided to the optionee, who has a period of time to become the purchaser instead of the person who initiated the offer.

There are many potential buyers who would not be willing to negotiate a purchase and sale at the risk of someone else matching its offer and thereby having priority to buy — the initiator does not get a second chance to increase its offer. That puts it at a great disadvantage. This disadvantage does not apply to a ROFO. Even in markets that are weak and declining, the fact that there is a floor below which the owner would have to reoffer the asset to the optionee may help in getting a price, but the knowledge that it may have to be reoffered likely will not dampen interest.

Thus, ROFRs should be avoided or at least be entered into with full knowledge of the potential negative impacts on the future sale process.

When drafting ROFRs, two additional issues to focus on in terms of sensitivity (as compared to ROFOs) are that (1) the catalyst to start the clock running for the purchaser response should be a term sheet with basic terms and not a full blown purchase agreement dealing with all issues — the purchaser does not need all that information to decide whether to match the offer, and (2) the response time for the purchaser — these should be relatively short since the original offeror is waiting to know whether its offer will be accepted.

Please note that ROFOs and ROFRs can be very sophisticated, and the goal of this discussion is to highlight the differences between the two options rather than focusing on the many issues that have to be resolved when drafting these provisions.