A Rent Extraction Theory of Right of First Refusal
15 Pages Posted: 22 Dec 2006
Date Written: September 2, 2007
When a seller encumbers a property with a right of first refusal, whenever a third party offers to purchase the property, the right-holder can acquire the property by simply matching the third party's offer. We model the right as a modified auction where the right-holder gets to observe the third party's bid before making his own. We show that, compared to the standard auctions, the right increases the joint profit of the seller and the right-holder by reducing the third party's profit. This result is independent of whether the third party is aware of the right's existence and whether the right creates a welfare loss.
JEL Classification: D44, K12, K22, L24
Suggested Citation: Suggested Citation