MBE Rules · Business Associations
Preemptive Rights
Cal. Corp. Code § 406
The rule
California corporations may grant preemptive rights in the Articles of Incorporation, giving shareholders the right of first refusal on new share issuances to maintain their proportional ownership. Preemptive rights are opt-in in California — they do not exist by default.
In plain English
Preemptive rights allow existing shareholders to purchase additional shares before the company offers them to others, ensuring they can maintain their ownership percentage. In California, these rights are not automatic; they must be explicitly included in the corporation's Articles of Incorporation.
Worked example
A California corporation decides to issue new shares to raise capital. Shareholder A, who currently owns 10% of the company, has preemptive rights included in the Articles of Incorporation. When the new shares are offered, Shareholder A is given the first opportunity to buy enough shares to maintain their 10% ownership. As a result, Shareholder A successfully purchases the additional shares.
Memory hook
Preemptive rights: Protect your slice of the pie before it gets bigger!
The trap
Exams may present scenarios where shareholders assume they have preemptive rights without checking the Articles of Incorporation, leading to incorrect conclusions. Students often overlook the opt-in nature of these rights in California.
How examiners test it
Questions typically involve a fact pattern where a corporation issues new shares, and candidates must determine if shareholders can exercise preemptive rights based on the Articles of Incorporation.
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