In shareholders’ agreements, there are two key clauses that should be regulated with particular care: the Drag Along and the Tag Along. These clauses are mainly intended to establish clear rules on how potential sales of the company to third parties are managed.
In this regard, the interests of majority shareholders and minority shareholders are usually different. On the one hand, the majority shareholder seeks protection against an acquisition offer, usually for a significant percentage of the share capital, avoiding situations where the minority shareholder could block the sale. On the other hand, the minority shareholder seeks to maximize the return on their investment and, in the event that a third party makes an acquisition offer for part of the capital, wants the option to join the sale under the same conditions or exercise their pre-emptive acquisition right.
Drag Along and Tag Along: how they work and their differences
Thus, the Drag Along is a mechanism that allows a majority shareholder (usually founders or investors) to compel minority shareholders to sell their shares when a third party intends to acquire the entire company or a significant part of it, provided that the offer meets certain conditions. These conditions may include, for example, an agreed minimum valuation of the company or the support of a supermajority of shareholders.
If these requirements are met, the Drag Along right is triggered, and minority shareholders are obliged to sell their shares at the same price and under the same terms offered by the interested third party. This ensures that the buyer can acquire 100% of the company without opposition from the minority shareholders.
For its part, the Tag Along is a mechanism that protects the interests of minority shareholders when a majority shareholder decides to sell their stake in the company. In other words, the Tag Along allows minority shareholders to join majority shareholders in the sale of certain shares under the same conditions.
The purpose of the Tag Along is to prevent minority shareholders from being left in a disadvantageous position if the majority shareholders sell their stake. It also ensures that minority shareholders have the opportunity to benefit from a sale offer that is usually directed at the majority shareholder due to their greater bargaining power.
Unlike the Drag Along, where minority shareholders are obliged to sell their shares once the conditions that trigger the right are met, in the Tag Along minority shareholders only have the right to sell, but not the obligation. In other words, they retain the freedom to decide whether they wish to join the sale or remain in the company.
Thus, both Drag Along and Tag Along seek to regulate the relationship between majority and minority shareholders, ensuring that, in the event of a purchase offer for the company by an outside third party, decisions can be made in an orderly manner and potential conflicts avoided.
Article written by:
Lawyer – Corporate and M&A
pilar.casasnovas@metricson.com
About Metricson
We are a leading law firm in legal services specialized in innovative and technology-based companies, with a particular focus on corporate and M&A law. Since our foundation in 2009, we have had the privilege of advising more than 1,400 companies in 14 countries, including startups, investors, corporations, universities, public institutions, and governments.
If you need support in any legal advisory area, feel free to write to us at contacto@metricson.com. We’ll be happy to help you!