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Cap Table Question: option pool shuffle diluting founders

Started by frank_the_tank_17 · May 31, 2024 · 943 views · 0 replies
For informational purposes only. This is not legal advice. Laws vary by jurisdiction. Consult a qualified attorney for advice specific to your situation.
FT
frank_the_tank_17 OP

On mobile so apologies for formatting. So basically looking for advice on a legal issue. Here's what happened.

option pool shuffle diluting founders. I've been dealing with this for about 11 weeks now and the situation isn't improving.

I have already tried to resolve this directly but the other party is not cooperating haha.

What's the typical outcome in situations like this?

LP
laura.p_12

The option pool shuffle is probably teh most misunderstood element of venture financing, and it disproportionately hurts first-time founders who do not understand the math. Let me explain what is actually happening here because I got burned by this in my first company and made sure to negotiate it properly in my second.

When a VC says they want a 20 percent option pool created pre-money, what they really mean is that the dilution from the option pool comes entirely out of the founders share, not out of the investors share. For example, if your pre-money valuation is 8M and the investor puts in 2M, the post-money is 10M and the investor gets 20 percent. But if they also require a 20 percent option pool pre-money, the effective pre-money valuation of the existing shares drops to 6M.

The negotiation lever you have is the size of the option pool. VCs will often request a larger pool than you actually need because it reduces their effective price per share. Push back by presenting a detailed hiring plan for the next 18 months showing exactly how many option grants you expect to make and at what levels. If your hiring plan only justifies a 12 percent pool, argue for 12 percent instead of 20 percent honestly.

Another approach is to negotiate for the option pool to be created post-money rather than pre-money. This is less common but some founders have successfully argued for it, especially in competitive deal situations where multiple VCs are interested. The difference in founder dilution between a pre-money and post-money option pool can be several percentage points of ownership, which translates to real money at exit.