Startups: The Ecosystem and How They're Funded · Part 15 of 19
Dilution and the Cap Table
A smaller slice of a much bigger pie can still be the better deal.
A cap table (short for capitalization table) is the record of who owns what percentage of a company, and it changes shape every time new shares are issued. Dilution is what happens to everyone who already held shares when that issuance happens: their share count stays the same, but it now represents a smaller percentage of a company with more total shares outstanding. What follows is a single company's cap table across four rounds, to see how dilution compounds.
The company, round by round
At founding, the founders hold all 8,000,000 shares. Before the seed round, the company sets aside 1,200,000 new shares as an employee option pool: equity reserved for future hires, which dilutes the founders the same way an investor's check would. Each subsequent round issues new shares to new investors, and often tops up the option pool again to keep it large enough to attract the next wave of hires.
| Stage | New shares issued | Total shares outstanding | Founders | Option pool | Seed investors | Series A investors | Series B investors |
|---|---|---|---|---|---|---|---|
| Founding | 8,000,000 (founders) | 8,000,000 | 100% | — | — | — | — |
| Pre-seed pool | 1,200,000 (pool) | 9,200,000 | 87.0% | 13.0% | — | — | — |
| Seed | 2,300,000 (investors) | 11,500,000 | 69.6% | 10.4% | 20.0% | — | — |
| Series A | 700,000 (pool) + 3,050,000 (investors) | 15,250,000 | 52.5% | 12.5% | 15.1% | 20.0% | — |
| Series B | 300,000 (pool) + 2,744,000 (investors) | 18,294,000 | 43.7% | 12.0% | 12.6% | 16.7% | 15.0% |
Share count and share percentage behave differently, and mixing them up is a common way to misread a cap table. A column's count changes only when new shares are issued directly into it, so the founders, who never receive or sell shares here, sit at a flat 8,000,000 the entire time. Percentage moves for every column whenever new shares are issued anywhere in the table, because the same count now divides into a larger total. The founders' percentage therefore shrinks every round, and by more than any other column: from 100% down to 43.7% by the end of Series B. The option pool is the exception. It's topped up at Series A with more new shares than that round dilutes it by, so its percentage rises from 10.4% to 12.5% while every other existing holder's falls.
What a shrinking percentage is worth
What matters to a founder is the percentage multiplied by what the company is worth. A founder holding 100% of a company worth little at the idea stage can end up better off holding 43.7% of a company that has since become worth far more, because each round of dilution was also the event that let the company grow into that higher valuation.
Take the same founders at two points: 100% of a company with no revenue and an informal, unpriced value near zero, against 43.7% of a company valued at $150,000,000 post-money after two more rounds of proven growth. The first number is bigger. The second is worth $65,550,000. Dilution becomes a problem when it happens without a matching increase in what the company is worth, ownership given up for money that didn't buy progress toward the next stage.
The next article covers the terms attached to those investor shares: liquidation preferences, board seats, and the other rights that come with a priced round.