A pre emption right in its most basic form is the right for an existing shareholder of a company to either exercise its rights in relation to an issue of new shares or purchase shares from an out going shareholder. Pre-emption rights are often expressed to be in relation to the percentage of shares already held by the shareholder who is exercising its rights.
Reference to pre-emption rights is found in the Companies Act 2006 and specific obligations are generally set out in the articles of association of a company and also in shareholders agreements between the shareholders.
Importance and legal significance of share pre-emption rights
Pre-emption rights are important as they allow a shareholder to be able to protect themselves from having their shares de-valued by dilution or in a private company to prevent a shareholder from selling or transferring its shares to another party whom they may not wish to be in business with.
Shareholders can of course choose to disapply the pre-emption rights should they wish. On an agreed sale of shares it is sensible for a shareholder to confirm in writing that they waive their pre emption rights. This protects both the outgoing shareholder and the new shareholder in the future should the existing shareholder wish to bring a claim in relation to the pre-emption rights.
When not to consider pre-emption
There are a number of situations where it would not work to have pre-emption rights and they would not apply such as employee share schemes, allotment of subscriber shares etc.
If there are different classes of shares within a company the pre-emption rights may only be in respect of the class of shares that the shareholder in question already holds. For example if they have A shares they may well not have pre-emption rights over B shares.
Pre-emption rights in company articles
When drafting articles of association and shareholders agreements it is important to consider pre-emption rights and the potential impact they may have on you as a shareholder. If for example the articles provide for a right of pre-emption over any new issue of shares, if the shares are to be issued at par value it may not be a problem but if the shares are to be issued at value if you cannot afford to subscribe for these shares then you may end up with a situation whereby you cannot exercise your rights of pre-emption due to cost and one of your fellow shareholders with more disposable cash manages to significantly increase their shareholding.
In order to prevent a situation such as this arising you could provide in the articles of association and/or shareholders agreement that there is to be no issue of shares without unanimous approval of all shareholders. Although this in itself can’t create issues it is always important when incorporating a company and producing the documentation to consider not just the present but also how you wish the company to be governed in the future.
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