Tag Along and Drag Along clauses are mechanisms that seek to protect the interests of partners and majority and minority shareholders in a corporation.
Tag Along (Tag Along Right)
The Tag Along, also called tag along right, is a mechanism for the protection of minority partners aimed at facilitating their exit and divestment in the event of a change of control.
This mechanism of protection of minority partners is mostly used in closed partnerships, in which minority partners will have an option or power to withdraw from the partnership in the event that the majority partner disposes of its shares or participations, avoiding to remain in the partnership when the majority partner with whom they decided to form part of the partnership leaves it.
In relation to the operation of this clause, it is as follows: in a specific company, a partner, the majority partner, finds a buyer willing to acquire its shares or participations (generally the totality, but it can be a portion of the same).
It is in this case that the minority shareholders, once they receive the information about this possible transaction, will have the option to adhere to this sale made by the majority shareholder, having therefore the third party to acquire not only the shares or participations of the majority shareholder but also the shares of the rest of the minority shareholders who have decided to adhere.
This is the case of the tag along clauses of total joint exit, which foresees the acquisition by the potential acquirer of the totality of the partner’s shares (shares or partnership interests) offered by the interested parties.
Drag Along (Drag Along Right)
Drag Along, whose literal translation means “to drag along”, hints at the nature of its function: in this case, the majority shareholder decides to sell all of its shares or holdings to a third party and can force the minority shareholders to do the same with their respective shares and holdings.
It is, therefore, a clause that clearly benefits the majority shareholders, not having to take into account the opinion or decision of the minority shareholders, and making it possible for the third party buyer to consider acquiring all the shares/participations of the company so as not to have to coexist with other minority shareholders who may hinder his decision making and intentions.
Inclusion of clauses in the Articles of Incorporation and Bylaws and Shareholders’ Agreements
The inclusion of Tag Along and Drag Along clauses in the Articles of Association can be a useful tool to protect the interests of the partners and shareholders of a company.
Notwithstanding the above, it is important to draft these clauses carefully to avoid them being declared null and void or abusive.
Ultimately, it will be the content of the clauses themselves that will allow them to be registered in the Commercial Registry.
In any case, the common practice has been to leave these clauses outside the Articles of Association, opting for formulas that expressly include them in shareholders’ or partners’ agreements to avoid the refusal of registration by the Commercial Registry.
The inclusion of drag-along and tag-along clauses in shareholders’ agreements is a common practice, especially in companies owned by institutional investors.
The main purpose of these clauses is to protect the interests of the partners, whether they are majority or minority shareholders.
The inclusion of these clauses in a shareholders’ agreement should be carefully examined, taking into account the interests of all the partners.
Likewise, it is recommended that the partners’ or shareholders’ agreement be signed by all partners and by the company itself, to ensure and guarantee its enforceability and effective compliance by all signatories.
This publication does not constitute legal advice.
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