Non-Participating Preferred
Preferred stock where investors choose EITHER their money back OR their pro-rata share, not both.
Definition
Non-participating preferred is the most common and employee-friendly liquidation preference structure. Investors choose the better of two options: (1) getting their liquidation preference (usually 1x their investment), or (2) converting to common stock and sharing proportionally. They cannot do both. In a large exit, investors always convert because their share is worth more than their preference.
Why it matters
Non-participating preferred is the best standard structure for employees. In any exit above the 'conversion threshold' (where the investor's pro-rata share exceeds their preference), investors convert and everyone shares equally. Push for this in your company's term sheets.
Example
Investors put in $10M for 25% with 1x non-participating preferred. Exit at $30M: investors take $10M preference (better than 25% of $30M = $7.5M). Exit at $80M: investors convert (25% of $80M = $20M is better than $10M preference). Above $40M, they always convert.