What are pro rata rights?
Written by For Founders Law, a Toronto firm licensed by the Law Society of Ontario. About us
Short answer
Pro rata rights let an existing investor buy enough of a future round to keep their ownership percentage from being diluted. If an investor owns 5% and the company raises a new round, they can buy up to 5% of the new shares on the same terms. They're usually given by contract, in a shareholder agreement or a side letter, rather than by the corporate statute.
How do pro rata rights work?
They let an investor keep their slice. An investor who owns 5% of the company on a fully diluted basis can buy up to 5% of the shares offered in a later round, at the same price and terms as the new investors. If they use the right, their percentage stays roughly the same; if they don’t, they’re diluted like everyone else.
| Before Series A | Series A new shares | Investor with 5% pro rata | |
|---|---|---|---|
| Investor’s shares | 500,000 of 10,000,000 (5%) | 2,500,000 offered | May buy up to 125,000 |
| After, if exercised | 625,000 of 12,500,000 (5%) |
Definitions vary. Some agreements measure the percentage on issued shares, others on a fully diluted basis, and the answer changes the numbers.
Are pro rata rights the same as pre-emptive rights?
Similar idea, different source. Section 28 of the CBCA, and section 26 of Ontario’s Business Corporations Act, allow the articles to give shareholders a pre-emptive right to buy new shares of their class in proportion to their holdings. Startups rarely put that in their articles, because it applies to everyone and is hard to waive.
Investors’ pro rata rights are usually contractual instead, in a shareholder agreement or a side letter, and limited to certain investors.
Do SAFE investors get pro rata rights?
Not from the post-money SAFE itself. Y Combinator publishes a separate, optional pro rata side letter that gives the investor the right to buy a pro rata share of the priced round in which the SAFE converts. Founders sometimes give it only to larger investors.
Who usually gets them?
Often only “major investors” above a set investment threshold, so the company isn’t managing small rights across dozens of holders. The rights usually carve out option grants, conversions and some strategic issuances.
Why should founders care?
Pro rata rights can crowd out room in a later round. If existing investors hold large rights and all exercise them, a new lead may get less than it wants and push to cut them back. Rights given early, especially in side letters you’ve forgotten about, show up in due diligence. Track them with your cap table.
Can pro rata rights be waived?
Usually, yes. Most agreements let a set majority of the investors holding the rights waive them for everyone, which helps when a new lead needs a larger allocation. Check the waiver threshold before you sign.
Anything Canada-specific?
Shares bought under a pro rata right are a new distribution and still need a prospectus exemption, and an OSC filing if the exemption requires one. See what is an accredited investor in Canada?
Our SAFE round work, starting at $2,600, can include side letters; their number moves the price. See fees.
This guide is general information about Ontario and Canadian law, not legal advice for your situation. To review investor rights before your next round, book a free 15-minute consult.