What it means
Imagine a founder owns most of a company and receives an offer from a buyer who wants her shares. Without protection, smaller investors could be left holding stock in a business now controlled by someone they never chose, with no chance to sell at the premium price the founder obtained.
The tag along right solves this. Before the founder completes the sale, she must notify the holders of the right, who then have a set period to say they want to sell alongside her.
The buyer must then purchase their shares as well, on the same price and conditions. The right is usually written into a shareholders' agreement or investment agreement.
It is very common in start-up funding, where venture investors hold minority stakes, and in private companies owned by families or small groups. Most tag along rights work proportionally.
If the founder owns 75% of the shares held by the founder and the investor combined, she must make room for the investor to sell 25% of whatever the buyer wants to purchase, so both sell the same proportion of their holdings. Some agreements allow minority holders to sell their entire stake, which can make the buyer's job harder.
It is easy to confuse with a drag along right, which works the other way. A drag along lets a majority force the minority to sell, so a buyer can get 100% of the company, while a tag along protects the minority by letting them follow a sale.
For a finance professional, the clause matters in valuation and deal planning. It can reduce the shares available to a buyer, change the amount of cash each party receives, and affect the timing of a transaction, so it needs to be modelled before negotiations begin.
In practice
Real-world examples
Example 1
A founder of a software start-up agrees to sell part of her shares to a larger firm. The venture investor exercises its tag along right and sells a proportionate number of its shares to the same buyer at the same price.
Example 2
A family-owned manufacturing business has three branches of the family as shareholders. One branch receives an offer for its stake, and the other two use the tag along clause in the family agreement to join the sale rather than remain with an outside partner.
Example 3
A private equity fund buys a minority stake in a logistics business. During negotiations, its lawyers insist on a tag along right so that the fund cannot be left behind if the majority owner sells to a competitor.
Think of it
Think of it like being a small tenant in a building where the landlord decides to sell. A tag-along right is like having a legal guarantee that if the landlord sells their penthouse, the buyer must purchase your flat too at a fair, proportional price.
Formula
Calculation
Tag along sale by a holder = Holder's shares / Total shares of all participating holders x Shares the buyer wants to buy
A founder owns 6,000,000 shares and an investor owns 2,000,000 shares. A buyer offers $10 a share and wants 1,200,000 shares. Participating shares total 6,000,000 + 2,000,000 = 8,000,000, so the investor's share is 2,000,000 / 8,000,000 = 25%. The investor sells 0.25 x 1,200,000 = 300,000 shares and receives 300,000 x 10 = $3,000,000. The founder sells the remaining 900,000 shares and receives 900,000 x 10 = $9,000,000.Case study
Seen in the real world
Oakmere Software is an illustrative, fictional company whose founder held 70% of the shares and an early investor held 10%. A larger rival offered to buy part of the founder's stake at a premium to the last funding round.
The founder had hoped to complete the deal quietly. However, the shareholders' agreement gave the investor 20 days to exercise its tag along right, and the founder was required to give written notice.
The investor chose to sell a proportionate part of its shares at the same price, and the buyer paid for both. In this illustrative story, the founder lost nothing except secrecy, and the investor gained a fair exit at the same price as the founder.
Watch out
Common mistakes
- Confusing a tag along right with a drag along right, when one lets minorities follow a sale and the other lets a majority force one.
- Assuming the right lets a minority holder sell at a higher price than the majority, when it only guarantees the same price and terms.
- Ignoring the notice period, which can cause a holder to lose the right if they do not respond in time.
Questions
People also ask
Who benefits from a tag along right?
Minority shareholders such as investors and early employees benefit most, because it protects them from being left behind in a change of control.
Does the buyer have to agree to the tag along?
Usually the agreement requires the selling majority to ensure that the buyer takes the tagging shares, or the sale cannot go ahead.
Is a tag along right the same as pre-emption?
No, a pre-emption right lets existing holders buy shares before outsiders, while a tag along lets them sell alongside the seller.