What are registration rights?
August 11, 2007
Registration rights entitle investors to force a company to register shares of common stock issuable upon conversion of preferred stock with the Securities and Exchange Commission.
Federal and state securities laws place certain limitations on the transfer of shares that have not been registered. Rule 144 of the Securities Act of 1933 requires that securities be held for at least one year before being sold. Among other things, Rule 144 also requires that certain current public information about the company be available and limits the volume of shares that can be sold, unless the seller has held the securities for at least two years and is not an affiliate of the company. Registration allows venture funds to freely sell the shares without complying with these restrictions even if they are deemed affiliates due to significant shareholdings or a director on the board.
Registration involves filing a registration statement with the SEC, which is a expensive and time consuming process. Please see the initial filing of Google’s registration statement for its IPO as an example of the complexity of the document. Legal, accounting and other fees in connection with an IPO can easily exceed $2M.
As a practical matter, registration rights are rarely used and have little practical effect on a company until after an IPO. However, some venture funds and attorneys seem to spend a long time negotiating these provisions, when they have little practical impact. Registration rights are negotiated between the company and the investors, well before underwriters are involved. At the time of an IPO and subsequent underwritten public offerings, underwriters will have the ability to dictate whether investors are allowed to sell, which makes the registration rights negotiated at the time of the venture financing a mere starting point for discussions with the company and the underwriters.