Anti-Dilution Protection
Contractual protections in the term sheet that shield investors from price decreases in down rounds.
Definition
Anti-dilution protection is a term sheet provision that adjusts the conversion price of preferred stock downward if the company issues shares at a lower price in a future round (a down round). The two main types are weighted-average (adjusts based on the size and price of the new round) and full ratchet (adjusts to the exact lower price). This protection reduces investor losses but increases dilution for common holders.
Why it matters
Anti-dilution provisions protect investors at your expense. In a down round, the conversion price adjustment means investors get extra shares, and that dilution falls on common stockholders, including employees. The type of anti-dilution (weighted average vs. full ratchet) determines how severe the impact is.
Example
Series A investors paid $5/share. A down round prices at $2/share. With weighted-average anti-dilution, their conversion price drops to $3.50. With full ratchet, it drops to $2. The difference could mean millions of extra shares issued, all diluting employees.