Venture capitalists invest in companies in early stage because they believe the securities acquired in the invested company could be turned into more “liquid” assets in a reasonable time frame. However, securities acquired in private equity financing stage are restricted.
Therefore, investors will negotiate with companies on exit strategies called registration rights. These rights provide opportunities to the investors to sell their securities to the public. There are two types of registration rights: demand registration rights and piggyback registration rights.
Demand registration rights enable the investor to require the invested company to register the company’s shares owned by the investor for sale to the public even if the company was not considering issuing any securities to the public at that time. Piggyback registration rights give to the investors the right to include their shares in a registration conducted by the invested company or by another shareholder.
The management of the invested company and investors might not always agree on the timing and nature of offering shares to the public. Sometimes they might have different perspectives and sometimes different interests. Moreover registration can be very expensive and time-consuming for the managers.
Thus, demand registration rights are more burdensome for companies and indeed are rarely exercised. However, the holders of these rights can greatly inl uence the company management with respect to the nature and timing of the registration.
On the other hand, since marginal cost of including shares of investor who holds piggyback registration rights is relatively small on an ongoing registration process, piggyback registration rights are exercised much more frequently than demand registration rights.
However, most piggyback registration rights agreements include situations in which the company can exclude the piggyback registration right holder’s shares from an ongoing offering.
If the underwriters of the offering determine that there is not enough demand in the market for the company shares and including piggyback shares on the offering will lower the share price, the company can exclude them from the registration.
In such cases, shares to be sold under piggyback registration rights are usually excluded from an offering in favor of shares sold by the company and shares of demand registration rights holders.