Definition of Drag-Along Rights
Drag-along rights are a form of rights in the business world that allow majority owners to force minority owners to participate in the sale of a company. The majority owners are usually given the ability to dictate the terms and conditions and to decide whether or not to sell the entire company.
Drag-along rights are also occasionally called “DARs”, “drags” or “drag-along provisions”, and they’re usually triggered during mergers or acquisitions. However, they can also be triggered in other circumstances, such as if the company is selling off assets or securities.
As part of the terms of the sale, minority owners are usually required to receive the same terms and conditions as all other sellers. This means that they should also receive the same prices as majority owners.
In some instances, majority owners can vote on behalf of the minority owners to facilitate the sale. It’s also not uncommon for the proceeds of a drag sale to be placed in a trust that’s overseen by a third-party, acting as a sort of escrow. The minority owners won’t receive their share of the sale until they comply with the sale and give up their ownership.
A classic example of drag-along rights is when the founder of a startup takes on venture capital. They might ensure that they retain 51% or more of the company’s shares so that they have majority control, and they might also institute drag-along rights so that they can force their investors to sell their shares if they get the opportunity to sell up at a profit.
Drag-along rights don’t always come as default and so will typically need to be specified in shareholder agreements. These agreements will usually also detail the exact percentage of majority shareholders that are required for triggering the drag-along right.
If a company goes public with an initial public offering (IPO), drag-along rights are typically terminated.
What’s the minimum ownership percentage required to trigger DARs?
For drag-along rights to be activated, a minimum ownership percentage of 51% is typically required. This means that shareholders with control of 51% or more of the company must all vote to sell.
Why are drag-along rights implemented?
DARs are typically implemented because without them, minority owners can scupper deals and block the sale of a company.
What’s the difference between drag-along rights and tag-along rights?
Tag-along rights are similar to drag-along rights but with one major and important difference. Instead of being forced to sell, tag-along rights owners are given the option to sell but are under no obligation to do so.