ROFO vs. ROFR: What’s the Difference?
When negotiating a commercial lease, many tenants seek a preferential right to lease additional space in a building. This may be because the tenant wanted additional space when signing the initial lease but such space was not available, or the tenant may simply be anticipating future growth. In any event, when negotiating this preferential right, it is not uncommon for people to interchangeably use the terms “right of first offer” (ROFO) and “right of first refusal” (ROFR). However, in practice, there are significant differences between the two rights and when negotiating a lease, it is extremely important for the parties to be precise in defining the right that is being granted.
Right of First Offer (ROFO):
A ROFO gives the tenant the first opportunity to lease a space before the landlord offers it to third parties. When the space that is subject to the ROFO becomes available, before marketing the space, the landlord notifies the benefitted tenant that the space is becoming available and the terms upon which the landlord intends to market the space. The benefitted tenant then has a set period of time to either accept or decline the landlord’s terms. If declined, the landlord can freely market the space to other tenants without further interaction with the benefitted tenant – although in many cases the landlord may not lease the space to a third party on terms that are materially more favorable than the terms offered to the benefitted tenant without first reoffering the space to the benefitted tenant on the improved terms. This prevents the landlord attempting to negate the ROFO by offering the space to the benefitted tenant at an artificially high rental price before going to the market with the actual price the landlord is willing to accept.
Right of First Refusal (ROFR):
Unlike a ROFO, where the landlord must present an offer to the benefitted tenant first, and if the benefitted tenant does not accept the landlord’s offer, the landlord can proceed to broadly market the space and enter into a lease with a third party, in the case of a ROFR, the landlord first markets the space and if the landlord receives an offer from an interested third party, before accepting the third party’s offer, the landlord must offer the same terms to the benefitted tenant to accept or reject. The benefitted tenant will then have a fixed period of time to review the offer and only if the benefitted tenant elects not to lease the space, may the landlord complete the lease with the interested third party. This restraint on the landlord’s ability to negotiate freely with interested tenants can have significant, negative consequences for the landlord and the value of the property. Tenants that may otherwise be interested in leasing the space are likely to lose interest if they know that even after negotiating a lease with the landlord, they stand to lose out of the space if the benefitted tenant swoops in at the end of the process and lease the space. Given the time and expense associated with negotiating a commercial lease, this risk is enough to scare many potential tenants away.
Additional Considerations:
For landlords, granting any preferential right can be problematic and can significantly impact the value of their property. However, if a landlord is going to grant a tenant a preferential right to lease additional space, a ROFO is often preferable to ROFR. However, even a ROFO constitutes a significant constraint on a landlord. While a landlord may assume that it will obviously be willing to offer the subject space to a given tenant in the future, it is hard to know what the situation will be in the future, and the ROFO may prevent the landlord from renting the space to a more desirable tenant. When negotiating a preferential right to lease additional space, it is important for the parties to think carefully about exactly what rights are being granted.
