Dilution is the drop in your ownership percentage when the company issues new shares: in a priced round, when SAFEs convert, or when the option pool is created or increased. It’s unavoidable, and it’s fine as long as each round increases the company’s value more than it shrinks your share.
Key takeaways
- New shares dilute every existing holder proportionally, unless the deal terms say otherwise.
- On a post-money SAFE, the investor’s percentage is fixed and comes out of the existing holders.
- In a priced round, the option pool increase usually comes out of the existing holders, not the new investors.
- Exercising options doesn’t change anyone’s fully diluted percentage.
Is dilution bad?
Usually not. It’s how startups grow. Each round brings in money to build the company, and if the company is worth more after the round, your smaller percentage is worth more than your larger one was. What matters is the value of your shares, not the percentage.
Example: A founder owns 2,000,000 shares through three rounds.
| Round | Post-money valuation | Founder’s ownership | Value of founder’s shares |
| Seed | $5,000,000 | 25% | $1,250,000 |
| Series A | $20,000,000 | 20% | $4,000,000 |
| Series B | $80,000,000 | 16% | $12,800,000 |
The founder’s percentage fell from 25% to 16%, but the value of those shares grew more than tenfold. Dilution becomes a problem when a round doesn’t increase the company’s value, or when the company raises at a lower valuation than before (a “down round”).
What causes dilution?
- A priced round: new preferred shares are issued to investors.
- SAFE conversion: on a post-money SAFE, the investor’s percentage equals the amount invested divided by the post-money valuation cap. For example, $500,000 on a $5,000,000 cap is 10%, and that 10% comes from the founders and other existing holders. See SAFE.
- Creating or increasing the option pool: in a priced round, the increase is usually counted before the new money comes in, so it dilutes the existing holders only. See Negotiating an Option Pool.
Exercising options doesn’t cause new dilution, because options are already counted on a fully diluted basis.
How do I calculate dilution?
Divide your shares by the total shares after the new issuance. Example: Gregarious Games has 10,000,000 shares, and James owns 2,000,000 (20%). The Series A issues 1,000,000 new shares, so James now owns 2,000,000 of 11,000,000, or 18.2%. If the shares were worth $1 before the round and $1.50 after, his stake grew from $2 million to $3 million even though his percentage fell.
Related: Authorized, Outstanding and Fully Diluted Shares · SAFE · Employee Option Pool · How to Value Startup Stock
