The most important facts in brief:
- Drag-along clauses oblige shareholders to sell their company shares.
- Drag-along clauses are used in particular for management participations and in venture capital.
- It is important to define the conditions that must be met for the co-disposal obligation to apply.
What is a drag-along clause?
A drag-along clause is a co-sale obligation of shareholders. A drag-along clause generally obliges minority shareholders to also sell their shares if the majority shareholder sells his shares. The background to drag-along clauses is that in most cases investors want to buy 100 % of the company. Majority shareholders want to use drag-along clauses to ensure that they are still in a position to sell the entire company. Even if the majority shareholders do not hold all the shares, they can use drag-along clauses to ensure that buyers can acquire all the shares.
However, drag-along clauses should not lead to minority shareholders being disadvantaged. Drag-along clauses therefore contain the stipulation that the obligation to sell only applies if the minority shareholder is offered the same conditions as the majority shareholder. Legally, it is also possible for the majority shareholder to be subject to a co-divestiture obligation. However, it is very rare that a minority shareholder can force a majority shareholder to sell their shares.
In which areas are drag-along clauses used?
Drag-along clauses are used in particular for management participations, venture capital and joint ventures. The aim of drag-along clauses is to give the majority shareholder the opportunity to sell the company completely without having to dispose of all the shares. Accordingly, drag-along clauses are usually used when one shareholder holds the majority of shares and there are other shareholders with smaller stakes.
Accordingly, drag-along clauses are used in the following cases in particular:
- Management participationPrivate equity funds in particular often give managers a stake in the company in order to create an incentive for the management to increase the value of the company as much as possible. At the same time, the managers should not be able to hinder the private equity fund in a sale. It is therefore common for the managers to be subject to co-disposal obligations.
- Joint venturesIn the case of a joint venture, two companies may hold unequal shares in the company. In such cases, it is common for the minority shareholder to be subject to a joint selling obligation. If both companies hold equal shares in the joint venture, it is often the case that both shareholders are subject to a joint selling obligation. The prerequisite for the joint selling obligation is often that a certain selling price is reached or exceeded.
- Start-upsStart-ups are often significantly financed by investors. In return for their investment, the investors receive shares in the company. In order for the investors to be able to sell their shares, the other shareholders (in particular the founders) are also subject to co-sale obligations.
How are drag-along clauses legally implemented?
There are three ways to implement drag-along clauses in practice: via a contractual obligation, via the articles of association or via a power of attorney. All approaches have their advantages, so it is necessary to consider which approach makes sense in each individual case:
- Obligation under the law of obligationsIn the case of an agreement under the law of obligations, the shareholders conclude a separate agreement that regulates the conditions of the co-disposal obligation. It is often the case, for example, that the obligation to co-sell only exists if the minority shareholder is offered the same conditions as the majority shareholder. If the company is a GmbH, a corresponding agreement must be notarized.
- Power of attorneyAn alternative arrangement is for the minority shareholder to grant the majority shareholder an irrevocable power of attorney. Based on this power of attorney, the majority shareholder can dispose of the shares. The conditions under which the majority shareholder may dispose of the shares are usually fixed. Accordingly, the shares may often only be sold if a minimum price is paid.
- Articles of AssociationDrag-along agreements can also be included in the company's articles of association. However, inclusion in the articles of association has the disadvantage that the articles of association are publicly accessible via the commercial register. Accordingly, the modalities under which the co-sale obligations can be exercised can also be viewed by third parties. This transparency can have a negative effect in sales negotiations.
Tips for agreeing drag-along clauses
When negotiating a drag-along clause, you should make sure that the clause takes sufficient account of your interests. Accordingly, you should observe the following tips:
- PrerequisitesDrag-along clauses generally stipulate the conditions that must be met for the co-sale right to exist. For example, drag-along clauses often contain the stipulation that the co-sale obligation only exists if the sale takes place under the same conditions. In addition, drag-along clauses sometimes also contain precise requirements that must be met in order for the co-sale obligation to exist. For example, the co-sale obligation may require a certain price to be exceeded or that the co-sale obligation only applies after a number of years.
- Right of first refusalDrag-along clauses are often combined with pre-emption rights. In such cases, the person subject to the co-sale obligation has a right of first refusal. Pre-emption rights are particularly common in the case of joint ventures or investors with equal rights.
- SpouseThe consent of the spouse may be required for the sale, particularly in the case of management participation. In order to ensure that the spouse's refusal to give their consent does not prevent them from exercising their co-disposal obligation at a later date, it is common for consent to either be given in advance or for a marriage contract to exclude the obligation to give consent.