In venture capital deals, pre-emption rights are a cornerstone of investor protections, ensuring that existing shareholders have the first opportunity to maintain their ownership percentage in the company.
These rights apply to both the issuance of new shares (pre-emption on new securities) and the transfer of existing shares (pre-emption on transfers), providing a mechanism for safeguarding equity while controlling ownership changes.
For founders and investors, understanding pre-emption rights is crucial. They offer investors the reassurance that their equity won’t be diluted without recourse, while founders benefit from a structured approach to maintaining ownership integrity.
This article in our "Anatomy of a term sheet" series explores the mechanics of pre-emption rights, how they are structured, and their implications for both parties.
Pre-emption rights on new securities give existing shareholders the right to participate in future funding rounds by subscribing for additional shares before they are offered to external investors. The goal is to allow shareholders to maintain their proportional ownership in the company.
When the company issues new shares, existing shareholders are offered the opportunity to purchase shares in proportion to their current holdings.
If a shareholder declines, the remaining shares are offered to other existing shareholders on a pro-rata basis.
A company raises a new funding round, issuing 1,000,000 new shares:
Pre-emption rights apply to equity shares and often to convertible securities such as warrants or options.
Shareholders usually have a limited time to exercise their rights, ensuring the fundraising process is not delayed.
Pre-emption rights on transfers give existing shareholders the right to buy shares being sold by another shareholder before they are offered to external parties. These provisions prevent unwanted third parties from acquiring shares and gaining influence in the company.
A founder wishes to sell 5% of the company’s shares:
Under pre-emption rights, the shares are first offered to existing shareholders on a pro-rata basis.
If an investor holding 20% of the company’s shares elects to purchase, they can acquire up to 20% of the available shares.
Companies may exclude specific transactions, such as transfers to affiliates, family members, or trusts, from pre-emption rights.
Shareholders must be given adequate time to exercise their pre-emption rights without delaying funding rounds or transfers.
For transfers, disputes over the share price can arise, particularly if determined by a valuation mechanism.
Founders must balance the need to offer new investors sufficient shares with the rights of existing shareholders to participate.
Example of pre-emption clauses in a term sheetClause example – new securities: "in the event of any proposed issuance of new equity securities, the company shall offer such securities to existing shareholders pro-rata to their existing holdings. If any shareholder declines to exercise their rights, the remaining securities shall be offered to other shareholders before being issued to external investors." Clause example – transfers: "no shareholder may transfer any shares without first offering such shares to the existing shareholders on a pro-rata basis. If no shareholder exercises their rights within the prescribed period, the shares may be transferred to a third party, subject to board approval." |
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Founders' perspective |
Investors' perspective |
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Motivations |
Founders want flexibility to issue shares to new investors without being overly constrained by existing shareholders’ rights. They also aim to prevent ownership concentration that could dilute their control. |
Investors seek to protect their ownership stakes and maintain control over the cap table by ensuring new shares or transfers are offered to them first. |
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Risks |
Overly broad pre-emption rights may delay funding rounds, hinder strategic partnerships, or reduce founder flexibility in managing equity. |
Excessively restrictive pre-emption rights may discourage new investors or complicate the sale of shares, limiting liquidity. |
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Where they align |
Both founders and investors benefit from pre-emption rights that are clear, balanced, and flexible. Pre-emption on new securities ensures proportional ownership is preserved, while pre-emption on transfers prevents unwanted changes to the shareholder base. Structured mechanisms and realistic timelines foster trust and smooth operations. |
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Pre-emption rights are a critical component of venture capital term sheets, balancing the need for shareholder protection with the company’s ability to grow and adapt. By carefully negotiating these provisions, founders and investors can create a framework that supports equity preservation, ownership control, and efficient funding processes.
Read the next article in our "Anatomy of a term sheet" series, where we examine investor consents, exploring how these provisions shape governance and strategic decision-making in venture-backed companies.
If you're navigating the complexities of venture capital term sheets or preparing your business for investment, our experienced team is here to help. Get in touch to discuss how we can support you in securing the right deal for your business.
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Andrew Betteridge
Partner & Head of the Commercial Services Division
+44 (0)117 321 8063 +44 (0)7843 265362 a.betteridge@ashfords.co.uk View more
Rory Suggett
Partner and Head of Corporate
+44 (0)117 321 8067 +44 (0)7912 270526 r.suggett@ashfords.co.uk View more
Chris Dyson
Partner and Head of Technology Sector
+44 (0)117 321 8054 c.dyson@ashfords.co.uk View more
