I was speaking with an entrepreneur the other day to help them better understand the dilution impact of completing a fundraising round. While doing the calculations can appear straight forward, there are often several nuances that also need to be analyzed.

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Basic dilution

To keep it as simple as possible, let's say a solo founder owns 100% of their company. If they raise a priced round, that round has a $ invested, a pre-money valuation, and then a post-money valuation.  Let’s say they raised $2M on an $8M pre-money valuation, that means the post-money valuation ($ raised + pre-money) is $10M. They have now sold 20% of the company ($ raised divided by post-money). After this round, the founder owns 80% and the investors own 20%.

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SAFEs/Convertible notes

A common scenario is for a founder to have issued some SAFEs or convertible notes early in the company. While an official cap table may show the founder owning 100%, they may already be less than that when factoring in these instruments. I won’t go into the nuances of calculations here, but there are several variables in terms of $ invested, valuation caps, interest, discounts, qualified financings, etc. that can affect how they convert. But especially if you have raised several rounds on these, I sometimes meet founders who don’t realize the impact of what percent of the business they had already given away. Then after the new financing, they are shocked at how much official dilution occurs. Be careful stacking multiple rounds of SAFEs without understanding the dilution impact.

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Other types of impact

There are also other types of things that can affect dilution. Additional option pools (especially if applied to the pre-money), liquidation preferences (which can impact how the payout waterfalls actually work), and other more nuanced terms can also have an impact. Make sure you understand any term sheet to ensure there are no hidden things that would further affect dilution.

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To help, we have a simple dilution model that you can download and model any impact. I also encourage entrepreneurs to not just model the impact of a current fundraising round, but also any projected future rounds to make sure you understand the path you are going down.

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