Mark Pestronk
Q: When I consider joining a consortium, franchisor or host agency, they always explain that their standard agreement contains a right of first refusal or a right of first option. Can you explain what these terms mean, and can you tell me whether they are good or bad for my agency?
A: Both a right of first refusal and a right of first option restrict your ability to sell your agency to whomever you want at whatever price you can negotiate.
Therefore, if you are considering selling your agency at any time in the future, they are bad for you.
A right of first refusal is a right to match.
It means that the other contracting party has the option to buy your agency at the same price and on the same terms as an offer that you get from a third party.
For example, if a larger agency or investor offers to buy your agency's assets for $1 million, payable at the rate of 50% at closing with the balance paid monthly over two years with 4% interest, then if your consortium, franchisor or host (I'll call all three your "host" for brevity) has a right of first refusal, then you must provide your host with a copy of that offer.
The host then typically has 15 or 30 days in which to decide whether to buy your agency for the exact same terms.
If the host decides to move forward, it then has 60 or 90 days to close the purchase.
In my experience, hosts hardly ever actually exercise their rights of first refusal.
Indeed, one major host has recently been willing to let agencies terminate their franchises before they actually receive an offer from a third party, since the franchisor does not want to make any acquisitions these days.
On the other hand, I know of another major host that is matching outside offers, so keep in mind that if your host decides to match, then you are required to sell on the offered terms, as long as the agreement does not contain any nonstandard exceptions or conditions.
Your host's exercise of its right of first refusal may discourage the first party from making a higher offer, but if you get one anyway, you probably again need to submit the higher offer to your host.
A right of first option is similar to a right of first refusal, but it does not require that you first get an offer from a third party.
It simply means that if you would like to sell your agency, you must negotiate only with your host for a specified period of time, such as 30 days, before you can solicit offers from third parties.
A variation on the right of first option is the case where your host's contract specifies a selling price in advance.
For example, the host might have the right to buy your agency at any time during a specified number of months or years at $1 million, $1,000 per share of your stock or four times your last 12 months' recast profits.
Because both a right of first refusal and right of first option potentially limit the price you can get for your agency, you should try to delete them when you negotiate a host agreement.