What are pre-emptive rights and what do they mean for my NZ startup?

• Published date: 24 April 2023
• Subject Matter: Corporate/Commercial Law, Corporate and Company Law, Securities, Shareholders
• Law Firm: LegalVision
• Author: Ms Nina Vanderlaan

Pre-emptive rights are a right of first refusal for existing shareholders where new shares are being issued or a fellow shareholder wishes to sell their shares. These rights are very common in startups and companies in general. The existence of shareholders' pre-emptive rights will affect the process by which your startup can issue shares. They will also affect how company shareholders can sell shares. Therefore, it is important to understand what they are and how they can impact your startup. This article will explore:

• what pre-emptive rights are;
• when and why shareholders will have these rights;
• how to identify the rights that apply to your startup; and
• what they mean for your startup and shareholders.

What are Pre-Emptive Rights?

Pre-emptive rights allow shareholders to subscribe for new shares or purchase existing shares before any third parties.

When your shareholders have pre-emptive rights to:

• the issue of new shares, they can subscribe for those shares before your company can offer them to third parties; or
• the transfer of shares, they can purchase shares that another shareholder is selling before that shareholder can offer them to third parties.

If all shareholders elect to take up their pre-emptive rights, they are allocated the number of shares that reflect their ownership proportion of the company. If only some shareholders elect to take up their pre-emptive rights, then any remaining unallocated shares are generally either re-offered to participating shareholders or offered to a third party. This approach prevents one shareholder from buying or subscribing to all the shares available and unfairly increasing their shareholding ahead of the other shareholders.

An Example

For example, you hold 10% of a company, and the company wants to issue an additional 20,000 shares at a price of $5.00 per share. Assuming all the other shareholders take up their pre-emptive rights, you would have the right to invest in an additional 10% of those 20,000 shares (or $10,000 for 2,000).

Similarly, if you were selling 100 shares, an existing shareholder with a 10% ownership stake can purchase 10 of your shares.

In either scenario, the shareholder with the pre-emptive right has no obligation to subscribe to or buy the entire 10%. Likewise, shares not taken up by the shareholder will be offered to the others or third parties.

Why Do Companies Give Shareholders Pre-Emptive Rights?

Avoiding Dilution of Investment

Pre-emptive rights enable shareholders to avoid...