What is anti-dilution protection?
Short Answer
Anti-dilution clauses protect investors if a later funding round occurs at a lower valuation (a down round), entitling them to additional shares at no extra cost.
Full Explanation
Imagine an investor buys Series A preferred stock at a £5M pre-money valuation, receiving 10% equity for a £500K investment. A year later, market conditions worsen and the Series B round occurs at only £3M pre-money. Without anti-dilution protection, the Series A investor's stake is now worth less in market terms. Anti-dilution clauses address this by adjusting the investor's share price (and thus equity percentage) downward to match the lower round. Full ratchet anti-dilution is the most founder-unfriendly: the Series A investor's price simply drops to the Series B price, even if only a small part of the new round was at that lower price. Broad-based weighted average is more balanced: the adjustment is weighted by the amount raised at each price, softening the dilution. Narrow-based weighted average (common in VC deals) uses only preferred stock in the calculation. Down round anti-dilution can significantly increase dilution for founders and employees. Founders should negotiate limited anti-dilution provisions (often carve-outs for employee options or price adjustments within defined thresholds).
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