Bumping rights: Overview, definition, and example
What are bumping rights?
Bumping rights refer to the right of a shareholder or participant in a company to take advantage of an opportunity to increase their stake in the company, often by acquiring shares from another shareholder who wishes to sell or transfer them. These rights are typically found in shareholder agreements, stock option plans, or joint venture agreements and are designed to ensure that a shareholder can maintain or enhance their ownership position, particularly when a new investor enters the company or an existing shareholder decides to sell. Bumping rights can also come into play when the company is involved in mergers or acquisitions, allowing certain parties to increase their stake or position.
For example, a minority shareholder may have bumping rights that allow them to purchase shares offered for sale by another shareholder before those shares can be sold to an external party.
Why are bumping rights important?
Bumping rights are important because they give shareholders more control over the ownership structure of a company, ensuring they have the option to maintain or increase their influence. This is especially relevant in closely held businesses or partnerships, where the entry of new parties could dilute the influence of existing shareholders. By offering bumping rights, the company provides an opportunity for current stakeholders to consolidate power or prevent unwanted parties from gaining control. These rights are also a way to protect the interests of minority shareholders who may fear being outvoted or overridden by larger investors.
For businesses, bumping rights ensure that the company’s control remains with trusted or key stakeholders. For shareholders, these rights provide flexibility and a mechanism to preserve or grow their influence in the company.
Understanding bumping rights through an example
Imagine a technology startup with three founders, each holding an equal share in the company. One of the founders decides to sell some of their shares to a new investor. However, the other two founders have bumping rights under the shareholder agreement. They exercise their bumping rights, purchasing the shares being sold by the first founder before the new investor has a chance to buy them. As a result, the two remaining founders increase their ownership stakes and maintain their control over the company.
In another example, a shareholder in a privately held company is approached by a third party who wants to buy their shares. However, the shareholder agreement includes bumping rights, allowing other existing shareholders the option to purchase the shares instead, in proportion to their current ownership. This prevents the third-party buyer from entering the business and potentially influencing company decisions.
An example of a "bumping rights" clause
Here’s how a bumping rights clause might appear in a shareholder agreement:
“In the event that a Shareholder intends to sell or transfer any of their shares in the Company, the other Shareholders shall have the right of first refusal and the right to exercise bumping rights. The selling Shareholder must offer their shares to the other Shareholders on the same terms as offered to the third-party buyer. If any Shareholder exercises their bumping rights, they may purchase the shares in proportion to their existing ownership interests.”
Conclusion
Bumping rights are valuable tools for ensuring that existing shareholders have the opportunity to maintain or increase their ownership in a company. These rights help protect current stakeholders from dilution and ensure that control over the business remains in trusted hands. For both businesses and shareholders, bumping rights provide an essential mechanism for preserving influence, particularly in smaller, closely held companies or during important corporate changes like mergers or acquisitions.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.