Adapted from “Blessing or Curse: The Right of First Refusal,” first published in the Negotiation newsletter.
When transferring property, sellers sometimes insist on rights of first refusal—the chance to be first in line to repurchase the property if their buyer later decides to sell. A right of first refusal can be an obvious advantage if your financial circumstances later change. And if you’re keeping adjoining land, you may wish to protect yourself against the risk of something unattractive being built next door.
But Brit Grosskopf of Texas A&M University and Alvin Roth of Harvard University have identified a little-recognized distinction in legal drafting that can turn this apparent blessing into a curse.
One type of first-refusal right gives the former owner the ability to regain the property by matching competing bids. Right holders only have to equal the high bid without engaging in the auction themselves. But another form of the right of first refusal (common in certain real-estate and entertainment markets) requires the right holder to accept or reject the seller’s demand before other potential buyers are offered the same deal. If the right holder refuses the price, she forfeits the chance to match other offers.
As illustration, suppose you hold a right of first refusal for a piece of property that you value at $500,000. If you only have to match prior bids, you may get a bargain if the market is weak, perhaps buying back the parcel for $400,000. But suppose you have to respond before the market has been tested. If the owner demands $475,000, you’ll be pushed close to your limit, if reluctant to risk losing the property to a higher bidder. In essence, this second type of right leaves you bidding against yourself.
As this example suggests, when the right of first refusal is on the table, make sure the specific terms won’t turn around and bite you later.
Robert Melzer /
Obviously, it is beneficial to get a right of refusal (which gives you the ability to match the highest bid for an asset). And if you must grant an option, it is best to only give a right of first offer. If you are the beneficiary of a right of first offer, you should insist that you have a right to match the final offer if it is at a price that is less, or on terms more advantageous to the buyer, than the price and terms that were first offered offered to you.