Diluted Founders

  

It's a sad story. When Bob and Bleepnatz started their alien telecommunications corp, they owned 100% of the company together. But after 19 rounds of financing, when they finally went public for a billion dollars, they only owned 1.3% of the company so their stock was worth $13 million, combined or $6.5 million each, pre-tax.

They were massively diluted from the 100% ownership they started with.

Poor guys. At least now they know that nobody can hear you scream in space.

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finance a la shmoop what are anti-dilution provisions okay people we [Man talking inside a beaded wall]

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disagreement revolving around the vision that two parties see in their crystal [Person waves at crystal ball]

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future flying cars everywhere in just two years well she thinks that her first

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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]

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at $10 a share so that's the vision of rose-colored glasses very fast uptake in

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demand for telepathically controlled flying cars no big regulatory hurdles no

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major accidents and no headaches but the vision of Manny milesonhistires is

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gift to the company way too rich, way too expensive, a very high price to pay for a

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stock with zero proven track record Manny believes the long term vision that

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telepathically controlled flying cars are in fact the future Manny just

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believes that it'll take longer for the masses to adopt this new way of doing

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things and you know iron out the bugs ouch Manny thinks that rose will miss [Iron squishes a bug]

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all of the financial projections she has made on her projected income statement

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you know as part of her business plan and normally he'd just wait around until

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the next round to then invest likely at a cheaper price he thinks but he knows

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that if he doesn't invest now well he'll be iced out of the next round which he

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thinks will be at 50 cents a share meaning half of the dollar he's putting

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in so to protect his shareholders the people who gave Manny the money to invest

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on their behalf in the first place his limited partners Manny gets an anti [Shareholders give Manny money]

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dilution provision in his contract that is he invests at a dollar a share to buy a

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third of the company a million shares got it a buck each

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million shares...then time passes sure enough cars

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do crash into trees, cars crash into each other, cars crash into buildings cars [Car crashes into building]

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just crash okay and while texting and driving you have a very bad idea

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and of course Rose is forced to do the next round of funding sheepishly at

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fifty cents a share well if there were originally two million shares of common

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stock that belonged to Rose as the founder and Manny bought a million of

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them for a dollar with the company now raising 1.5 million dollars at 50 cents

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a share while the company would have a total of 6 million shares outstanding

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the original 3 million shares in the first round plus 3 million shares now at

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50 cents each see we're doing the math of the dilution here for you it's scary

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but Manny originally bought a third of the company for his million bucks for a

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million shares, Manny still owns that million shares he bought at a buck each

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only now his ownership stake has been massively diluted he owns a million out [Manny's shares highlighted]

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of a total of six million shares outstanding or 1/6 of the company way

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down from the one third he originally bought well his current stake is roughly

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just 17 percent of the company so his anti-dilution provision kicks in and his

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original million bucks gets essentially repriced to the 50 cents that the new

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round was set for...so what actually happens here well basically he is issued

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more shares to "true him up" unquote to owning a third of the company again [1/3 ownership circled]

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why a third, because that's what his anti-dilution provision stipulated in

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the contract he had bought a million shares owned one out of six million and

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to be undiluted he needs to own 2 out of 6 million or said another way Rose is

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forced to print more shares to give to him so that he now owns one-third of the

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company which is what he originally signed out to own when he put in the

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million bucks with this second round the company has 6 million shares out and if

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another million is printed and given to him well then he'd own 2 million shares

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but there would be 7 million shares now outstanding so depending on how brutally

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the anti-dilution contractual language was written Rose might have to print [Paper printing]

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even more shares to cover his anti-dilution clause

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at the cost of her dilution and yeah note in all of this just how much Rose

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has now been diluted from owning a hundred percent of the company the day

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she started it while she now after just two rounds still owns her two million

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shares that comprise all of the company at the beginning only now there are some

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seven million shares outstanding and likely many many more to come as she

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raises more and more capital so at this point she only owns two sevenths of the

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company and of course none of this will matter if the flying car biz doesn't [Rose driving a flying car]

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take off or maybe takes off a little too quickly if you know if you catch our

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drift [Car floating into space]

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