A Shareholders’ Agreement is a legally binding contract between the shareholders and the company, as well as between each shareholder of the company. The agreement governs the shareholders, their business relationships and arrangements, and also sets out the shareholders’ rights, responsibilities, liabilities and obligations.
There are many provisions contained within a Shareholders’ Agreement to ensure that each shareholder is treated fairly.
The “drag along” and “tag along” provisions are a classic example of a balancing act between the rights of a majority shareholder and a minority shareholder.
What is a drag along provision?
A drag along provision allows the majority shareholder(s) to require the minority shareholder(s) to sell their shares. This is usually triggered in a takeover offer.
For example, when there is a bidder who would like to buy the entire company, and the majority shareholder(s) holding more than 50% of the company agree to sell their shares, the majority shareholder(s) can “drag along” the remaining minority shareholder(s) and require the minority shareholder(s) to sell their shares so the bidder is able to purchase the entire company.
To protect the minority shareholders, the drag along provision will usually require the majority shareholder(s) to ensure that the minority shareholder(s) is able to sell the shares on the same terms and conditions.
What is a tag along provision?
This has the opposite effect to the drag along provision.
In a well-drafted and well-balanced Shareholders’ Agreement when a shareholder wishes to sell its shares, the shareholder is normally required to provide notice to the other shareholders. This requirement is usually contained within a “first right of refusal” clause. For more information about “first right of refusal” clause and other important clauses, please see here.
If the majority shareholder(s) wants to sell shares to a third party, and does not provide notice to the other shareholders, the tag along provisions will enable the minority shareholder(s) to tag along with the majority shareholder(s) and sell its shares for the same price and on the same terms and conditions.
If you have any questions regarding your Shareholders’ Agreement, or if you would like to include drag along and tag along provisions in your Shareholders’ Agreement, you should speak with an experienced business lawyer. A good business lawyer will be able to take your business circumstances into consideration and provide you with the necessary legal advice and assistance.