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Finance: What are anti-dilution provisions? 4 Views
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Description:
What are anti-dilution provisions? Often seen in venture capital and developmental stage companies, anti dilution provisions refer to subscription privileges or other methodologies to prevent dilution of early investors during subsequent financing rounds. For example, if an early investor owns 300,000 shares out of 1 million total for $1 per share on a $1 million evaluation and the company is able to create a prototype that attracts new investors at $5 per share, an anti dilution provision may either give the investor a proportionate number of additional shares to maintain the 30% stake or if there are conversion ratios against preferred shares or other structures, they would be adjusted accordingly in order for the first investor to suffer no net reduction percentage in equity.
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Transcript
- 00:00
finance a la shmoop what are anti-dilution provisions okay people we [Man talking inside a beaded wall]
- 00:08
are inside of the beaded walls of start-upville.com and there's a
- 00:13
disagreement revolving around the vision that two parties see in their crystal [Person waves at crystal ball]
- 00:19
balls the founder this gal rose-colored glasses the visionary behind brain
- 00:25
planes her telepathically controlled flying car company her vision of the
Full Transcript
- 00:30
future flying cars everywhere in just two years well she thinks that her first
- 00:35
round of investment capital is a bargain at $1 a share and she is certain that
- 00:40
the next round of investing which she expects to happen in two years will be [Investment round 2 brain planes stock at 10 dollars a share]
- 00:44
at $10 a share so that's the vision of rose-colored glasses very fast uptake in
- 00:50
demand for telepathically controlled flying cars no big regulatory hurdles no
- 00:55
major accidents and no headaches but the vision of Manny milesonhistires is
- 01:00
very different he thinks that the dollar a share he's investing at is a gift a [Manny thinking of a gift]
- 01:07
gift to the company way too rich, way too expensive, a very high price to pay for a
- 01:13
stock with zero proven track record Manny believes the long term vision that
- 01:18
telepathically controlled flying cars are in fact the future Manny just
- 01:22
believes that it'll take longer for the masses to adopt this new way of doing
- 01:27
things and you know iron out the bugs ouch Manny thinks that rose will miss [Iron squishes a bug]
- 01:32
all of the financial projections she has made on her projected income statement
- 01:37
you know as part of her business plan and normally he'd just wait around until
- 01:40
the next round to then invest likely at a cheaper price he thinks but he knows
- 01:45
that if he doesn't invest now well he'll be iced out of the next round which he
- 01:50
thinks will be at 50 cents a share meaning half of the dollar he's putting
- 01:53
in so to protect his shareholders the people who gave Manny the money to invest
- 01:58
on their behalf in the first place his limited partners Manny gets an anti [Shareholders give Manny money]
- 02:02
dilution provision in his contract that is he invests at a dollar a share to buy a
- 02:08
third of the company a million shares got it a buck each
- 02:12
million shares...then time passes sure enough cars
- 02:18
do crash into trees, cars crash into each other, cars crash into buildings cars [Car crashes into building]
- 02:23
just crash okay and while texting and driving you have a very bad idea
- 02:28
and of course Rose is forced to do the next round of funding sheepishly at
- 02:32
fifty cents a share well if there were originally two million shares of common
- 02:37
stock that belonged to Rose as the founder and Manny bought a million of
- 02:41
them for a dollar with the company now raising 1.5 million dollars at 50 cents
- 02:46
a share while the company would have a total of 6 million shares outstanding
- 02:49
the original 3 million shares in the first round plus 3 million shares now at
- 02:54
50 cents each see we're doing the math of the dilution here for you it's scary
- 02:59
but Manny originally bought a third of the company for his million bucks for a
- 03:02
million shares, Manny still owns that million shares he bought at a buck each
- 03:07
only now his ownership stake has been massively diluted he owns a million out [Manny's shares highlighted]
- 03:13
of a total of six million shares outstanding or 1/6 of the company way
- 03:18
down from the one third he originally bought well his current stake is roughly
- 03:23
just 17 percent of the company so his anti-dilution provision kicks in and his
- 03:29
original million bucks gets essentially repriced to the 50 cents that the new
- 03:35
round was set for...so what actually happens here well basically he is issued
- 03:39
more shares to "true him up" unquote to owning a third of the company again [1/3 ownership circled]
- 03:45
why a third, because that's what his anti-dilution provision stipulated in
- 03:49
the contract he had bought a million shares owned one out of six million and
- 03:53
to be undiluted he needs to own 2 out of 6 million or said another way Rose is
- 03:59
forced to print more shares to give to him so that he now owns one-third of the
- 04:04
company which is what he originally signed out to own when he put in the
- 04:07
million bucks with this second round the company has 6 million shares out and if
- 04:11
another million is printed and given to him well then he'd own 2 million shares
- 04:15
but there would be 7 million shares now outstanding so depending on how brutally
- 04:20
the anti-dilution contractual language was written Rose might have to print [Paper printing]
- 04:25
even more shares to cover his anti-dilution clause
- 04:29
at the cost of her dilution and yeah note in all of this just how much Rose
- 04:35
has now been diluted from owning a hundred percent of the company the day
- 04:39
she started it while she now after just two rounds still owns her two million
- 04:43
shares that comprise all of the company at the beginning only now there are some
- 04:48
seven million shares outstanding and likely many many more to come as she
- 04:53
raises more and more capital so at this point she only owns two sevenths of the
- 04:56
company and of course none of this will matter if the flying car biz doesn't [Rose driving a flying car]
- 05:00
take off or maybe takes off a little too quickly if you know if you catch our
- 05:04
drift [Car floating into space]
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