What Are Drag Along Rights?

What are drag along rights?

Drag along rights are contractual provisions that allow certain shareholders (usually majority shareholders or investors) to compel the remaining shareholders to sell their shares if a qualifying sale of the company is approved.

In simple terms, drag along rights prevent a small group of shareholders from blocking a company sale that the required majority has already agreed to.

When drag along rights are exercised:

• All shareholders are required to participate in the transaction
• The dragged shareholders must sell their shares at the same per-share price and on the same transaction terms as the dragging shareholders, subject to the company’s capital structure and liquidation waterfall.
• Minority shareholders do not have the option to refuse the sale. Until the drag along conditions are met, minority shareholders are free to refuse a sale. 

These rights are commonly included in:

• Shareholders’ agreements
• Investment term sheets
• Articles of association (for enforceability)

Drag along rights in a term sheet

In a term sheet, a drag along right outlines who can force a sale, when, and under what conditions, before the detailed legal documents are drafted.

At the term sheet stage, drag along provisions usually specify:

• The approval threshold required to trigger the right (for example, 50% or 66% of investors)
• Whether approval is required from preferred shareholders, common shareholders, or both
• The types of transactions covered (share sale, asset sale, merger, or deemed liquidation event)
  
  

The term sheet does not usually contain the full legal mechanics. Instead:

• The high-level right is agreed commercially
• Detailed terms are later documented in the Shareholders’ Agreement
• To be fully enforceable, the provision is typically mirrored in the Articles of Association

For founders, this stage is critical. Once a drag along right is agreed in the term sheet, it is very difficult to renegotiate later during definitive documentation.

Who has drag along rights?

Drag along rights are almost always held by majority or controlling shareholders. However, who qualifies as “majority” is defined by the approval thresholds set out in the drag along clause, such as a required percentage of shareholding or approval by a specific class of shareholders.

Common holders of drag along rights include:

1. Institutional investors: Venture capital and private equity investors often insist on drag along rights to ensure they can exit their investment even if founders or minority shareholders are unwilling to sell.
2. Preferred shareholders as a class: In venture-backed companies, drag rights may be exercisable only if a specified percentage of preferred shareholders approve the sale.
3. Founders (in early-stage companies): At very early stages, founders may collectively hold drag along rights before institutional investors come in.

Minority shareholders typically do not hold drag along rights. Instead, they are the ones who may be “dragged” into the transaction once the contractual thresholds are met.

The exact allocation of this right depends on:

• Shareholding structure
• Negotiation leverage
• Stage of the company

Example:

Consider a company with the following shareholding:

• Founders: 55% (common shares)
• Series A investors: 35% (preferred shares)
• ESOP pool and others: 10%

If the drag along clause states that a sale can be approved by holders of at least 60% of the preferred shares, the Series A investors can exercise the drag along right on their own, because they hold 100% of the preferred class and meet the required threshold. In this case, approval from founders or other common shareholders is not required.

However, if the clause instead requires approval from holders of at least 60% of the preferred shares and a majority of the common shares, the Series A investors cannot exercise the drag along right on their own. They would also need the founders’ consent as majority common shareholders.

This illustrates why who qualifies as the “majority” is not determined by title or status, but by the specific approval thresholds written into the drag along clause.

What is the difference between tag along rights and drag along rights?

Drag along rights and tag along rights are often mentioned together, but they serve very different purposes.

Drag along rights are designed to facilitate exits by ensuring that once the required approval threshold is met, all shareholders are required to sell their shares as part of the transaction, even if some would prefer not to. 

Without drag along rights, a small minority shareholder could refuse to sell and effectively block or delay a company sale, making the business less attractive to potential acquirers and increasing execution risk for investors and founders alike.

Tag along rights, on the other hand, are protective. They give minority shareholders the option to participate in a sale initiated by the majority and sell their shares on the same price and terms, but they are not compelled to do so. 

Without tag along rights, majority shareholders could sell their stake at a premium and leave minority shareholders behind in a company they no longer control, often with reduced liquidity and diminished value.

In practice, well-balanced shareholder agreements often include both:

• Drag along rights to ensure deals can close
• Tag along rights to ensure fairness for minority shareholders

How do drag along rights work?

While the wording varies across agreements, the practical flow of a drag along transaction is usually consistent.

Step 1: A triggering event occurs

A drag along right is typically triggered by a proposed:

• Sale of a specified percentage of shares
• Merger or acquisition
• Sale of substantially all assets of the company

These events are often referred to as “deemed liquidation events” in shareholder agreements.

Step 2: Approval thresholds are met

The shareholders entitled to exercise drag along rights must meet the agreed threshold. This could be:

• A simple majority (e.g. 50%+)
• A supermajority (e.g. 66% or 75%)
• Approval by a specific class (such as preferred shareholders)

Some agreements also require board approval in addition to shareholder consent.

Step 3: Drag along notice is issued

Once triggered, the dragging shareholders issue a formal drag along notice to the remaining shareholders. This notice usually includes:

• Details of the buyer
• Sale price and form of consideration
• Transaction timeline
• Number of shares being sold
• Confirmation that required approvals have been obtained

This notice period is not merely procedural. Courts in multiple jurisdictions have scrutinised drag along sales where notice was inadequate or rushed.

Step 4: Completion of the sale

Dragged shareholders are required to:

• Execute transaction documents
• Transfer their shares
• Comply with closing mechanics

They are typically obligated to sell on the same price and terms as the dragging shareholders, subject to any liquidation preference or waterfall provisions.

How drag along rights benefit investors

From an investor’s perspective, drag along rights are primarily about exit certainty.

1. Preventing deadlocks

Without drag along rights, even a small minority shareholder can:

• Refuse to sell
• Delay a transaction by withholding consent or signatures
• Use their position to renegotiate terms late in the process

This uncertainty increases execution risk. Buyers typically operate on tight timelines, and unresolved shareholder opposition can cause acquirers to reduce the offer, impose harsher conditions, or walk away entirely.

2. Enabling clean exits

Drag along rights allow investors to offer a clean cap table to the buyer by ensuring that all shareholders participate in the transaction. While a buyer may be able to acquire majority control without purchasing every share, retaining minority shareholders can create ongoing governance, legal, and execution risks. 

Without drag along rights, investors would need to negotiate separately with each shareholder to eliminate these risks, which is time-consuming, unpredictable, and often a deal-breaker.

3. Protecting downside scenarios

Not all exits happen at high valuations. If a company underperforms or market conditions deteriorate, investors may prefer to exit at a modest return, or even below their original expectations

In these situations, founders or common shareholders may resist selling in hopes of future recovery. Drag along rights ensure that investors are not indefinitely locked into an underperforming investment with no viable exit path.

4. Standard market practice

In venture-backed companies, drag along rights are considered market standard once institutional capital is involved. As a result, the negotiation usually focuses not on whether the right exists, but on:

• Who can trigger it
• At what price or valuation threshold
• What safeguards exist to protect minority shareholders

These details determine how balanced and fair the drag along mechanism is in practice.

Risks of drag along rights for founders and minority shareholders

While drag along rights help facilitate exits, they also carry real risks for founders, employees, and minority shareholders if they are not carefully structured.

1. Forced exit at an unfavourable price

The most obvious risk is being compelled to sell at a price you do not agree with. Once the drag threshold is met, minority shareholders lose the ability to hold out for better terms or future upside.

This risk is amplified when liquidation preferences consume most or all of the proceeds.

For example, a company raises $100Mn with a 1x liquidation preference. Two years later, it is sold for $100Mn. Investors exercise drag along rights and recover almost their entire investment, while founders and employees receive little or nothing, despite being forced to sell their shares.

2. Loss of control over the buyer

Drag along clauses do not always restrict who the company can be sold to. In some cases, this can permit sales to competitors or to investor affiliates or related parties. 

Without explicit safeguards, such transactions may involve conflicts of interest or result in control shifting to entities aligned with existing investors, rather than a genuine third-party exit. 

This can expose founders and minority shareholders to forced exits at unfavourable prices or terms, even though the transaction formally qualifies as a sale.

For example, an investor triggers a drag along sale to a portfolio company or affiliate at a modest valuation. While the transaction satisfies the drag along conditions, control effectively remains within the same investor group, and founders are forced out without the opportunity to benefit from future upside under new ownership.

3. Unequal economic outcomes despite “same price” language

Even when dragged shareholders receive the same per-share price, outcomes can still differ materially due to:

• Liquidation preference waterfalls
• Non-cash consideration (shares of the acquirer)
• Side arrangements such as non-compete fees or consulting payouts

As a result, dragged shareholders may receive significantly less value than they expected, despite formal parity language.

For example, in a share sale, investors receive part of their consideration as cash and part as rollover equity in the acquiring company, along with consulting fees. Founders and employees are cashed out entirely at the headline price, with no participation in future upside and no access to side arrangements, even though all shares are sold at the same per-share price.

Key terms to negotiate in a drag along clause

The existence of drag along rights is often non-negotiable in venture deals. The terms of the drag, however, are where founders and minority shareholders can meaningfully protect themselves.

1. Minimum price or valuation floor

A drag along right can be structured to apply only if the sale:

• Exceeds a minimum valuation, or
• Delivers a specified multiple on invested capital

This ensures that drag along rights are exercised only in genuine exit scenarios and not in distressed or opportunistic sales where minority shareholders are forced to sell before meaningful value has been created.

2. Approval thresholds

Raising the trigger threshold from a simple majority to a supermajority can:

• Reduce unilateral control by a single investor or shareholder group
• Require broader alignment across shareholders before a sale is forced
  
  

Some agreements also require approval from both investors and founders, ensuring that drag along rights reflect consensus rather than being exercised by one side alone.

3. Buyer restrictions

Founders often negotiate restrictions preventing:

• Sales to direct competitors
• Sales to investor affiliates or related parties

These restrictions help avoid conflicts of interest, prevent indirect transfers of control, and reduce the risk of forced exits that prioritise investor convenience over the company’s long-term interests. 

4. Same consideration and treatment

Beyond per-share price, dragged shareholders should ensure:

• The same form of consideration, such as cash or stock
• Equal access to non-cash benefits where shareholders are subject to similar obligations
• No preferential side deals that materially alter economic outcomes

This helps ensure that “same terms” translates into comparable economic treatment, not just identical headline pricing.

5. Indemnity and liability caps

Minority shareholders usually try to limit their post-sale risk by ensuring they are responsible only for their own share of any claims, cannot be asked to pay back more than what they received from the sale, and are not exposed to claims indefinitely. These limits make sure that legal risk stays proportionate to the money they actually earn from the transaction.

6. Lock-in or time-based limitations

Some drag along rights only become exercisable:

• After a defined number of years, or
• After failure to provide a liquidity event within an agreed timeframe

This gives founders time to build value and pursue growth before a forced sale becomes possible, while still preserving an eventual exit mechanism for investors.

Do drag along rights affect ESOP and option holders?

Yes. Drag along rights can significantly affect employees and option holders, depending on how their equity is structured.

1. Unexercised options

Employees holding unexercised stock options are usually not shareholders yet. In a sale, exit-only options, which are vested options that can be exercised only at the time of a liquidity event, may be automatically exercised and sold as part of the transaction.

2. Exercised options and shareholders

Once an employee exercises their options and becomes a shareholder:

• They are treated like any other minority shareholder
• Their shares are subject to drag along rights if the required thresholds are met

How ESOP holders are treated in a drag along sale

What ESOP holders ultimately receive in a sale depends on: 

a. Whether the ESOP plan allows or requires automatic exercise on exit.

Some ESOP plans give employees the option to exercise their vested options when a company is sold, while others mandate automatic exercise. Where automatic exercise is required, employees do not need to take any action or pay the exercise price upfront. Instead, their vested options are automatically exercised at closing, immediately sold as part of the transaction, and the exercise price is deducted from the sale proceeds, with the employee receiving the net amount.

b. Whether vested options are cashed out or converted into equity of the buyer.

For example, in a cash acquisition, the buyer pays out all vested options in cash based on the sale price. In a stock-for-stock acquisition, the same vested options may instead be converted into shares of the acquiring company, meaning the employee does not receive immediate cash but continues to hold equity under the buyer’s ownership.

c. How liquidation preferences affect the distribution of sale proceeds.

For example, a company has a 1x liquidation preference in favour of investors. At exit, the sale proceeds are just enough to satisfy the investors’ preference. As a result, common shareholders, including ESOP holders whose options are converted into common shares, receive little or no payout despite being part of the transaction.

FAQs

1. What are drag along rights in India?

In India, drag along rights are contractual, not statutory. They do not exist automatically under company law and must be expressly agreed by shareholders.

Although drag along clauses are often negotiated in a shareholders’ agreement, Indian courts generally require restrictions on share transfers to be reflected in the Articles of Association (AoA)  to be enforceable against the company and all shareholders. As a result, a drag along right documented only in the SHA may be difficult to enforce in practice, whereas incorporating it into the AoA provides stronger legal certainty.

2. Can minority shareholders challenge a drag along sale?

Minority shareholders can challenge a drag along sale if the right is not exercised in accordance with the agreed terms. Common grounds include failure to meet approval thresholds, inadequate notice, procedural irregularities, conflicts of interest, or transactions that are oppressive or unfairly prejudicial. 

3. Are drag along rights mandatory in venture capital deals?

Drag along rights are not legally mandatory, but they are market standard in venture capital transactions, particularly once institutional investors are involved. In practice, negotiations usually focus not on whether the right exists, but on who can trigger it, under what conditions, and with what safeguards for minority shareholders.