Liquidation preference and anti-dilution, with the maths
Founders negotiate valuation for weeks and these two clauses in about ten minutes. Valuation sets the headline; liquidation preference and anti-dilution decide what you actually receive.
Summary
- On a ₹20 crore investment at a ₹100 crore post-money valuation, 1x participating preference costs the founders ₹16 crore more than 1x non-participating at a ₹100 crore exit. Same valuation, same cheque.
- In a down round at half the price, full ratchet takes the founders from 66.7% to 57.1%. Broad-based weighted average takes them to 65.7%. Both are called anti-dilution.
- Model your own proceeds at three exit values under the terms actually offered, before you sign. It takes an hour.
Founders negotiate valuation for weeks and these two clauses in about ten minutes. That is the wrong allocation. Valuation determines the headline; these two determine what you actually receive.
A higher valuation with aggressive terms can leave you worse off than a lower one with clean terms, and nobody finds that out until the exit, when it is arithmetic rather than negotiation.
Here are both clauses with actual numbers. If you take one thing away: model your own outcome before you sign, not after.
The setup
One company, used throughout:
- The investor puts in ₹20 crore.
- ₹80 crore, so post-money is ₹100 crore.
- The investor therefore holds 20%, and the founders hold 80%.
- The investment is in preference shares, which is standard. In Indian venture rounds these are almost always compulsorily convertible preference shares (CCPS): they carry the preference, and they must convert into shares eventually.
We test three exits: ₹60 crore (below the valuation), ₹100 crore (at it), and ₹300 crore (a good outcome).
Part one: liquidation preference
decides who gets paid first when the company is sold, and how much, before the ordinary shareholders see anything.
1x non-participating: the founder-friendly standard
The investor chooses whichever is better for them: take their ₹20 crore back, or convert to ordinary shares and take 20% of the proceeds. They cannot do both. That is what non-participating means.
1x non-participating preference on a ₹20 crore investment for 20%
| Exit value (₹ crore) | Investor takes (₹ crore) | Founders take (₹ crore) |
|---|---|---|
| 60 | 20 (preference) | 40 |
| 100 | 20 (either way) | 80 |
| 300 | 60 (converts) | 240 |
At ₹300 crore the investor converts, because 20% of ₹300 crore is ₹60 crore, better than ₹20 crore. The founders' share only drops below 80% on weak exits, which is the point of the clause. It protects the downside without eating the upside.
1x participating: the expensive version
The investor takes their money back and then also shares in what is left, according to their ownership.
1x participating preference on the same ₹20 crore investment
| Exit value (₹ crore) | Investor takes (₹ crore) | Founders take (₹ crore) | Cost to founders vs non-participating |
|---|---|---|---|
| 60 | 20 + 20% of 40 = 28 | 32 | -8 |
| 100 | 20 + 20% of 80 = 36 | 64 | -16 |
| 300 | 20 + 20% of 280 = 76 | 224 | -16 |
Same valuation. Same cheque. ₹16 crore less to the founders at a ₹100 crore exit.
This is why the clause matters more than an extra ₹10 crore of pre-money valuation, and why it gets agreed so casually: it costs nothing today. For scale, at ₹90 crore pre-money the investor would hold about 18.2% instead of 20%, which is worth nothing extra to the founders at a ₹100 crore exit and about ₹5.5 crore at ₹300 crore.
2x non-participating: the other way to get there
Sometimes the preference multiple is raised instead of adding participation.
2x non-participating preference on the same ₹20 crore investment
| Exit value (₹ crore) | Investor takes (₹ crore) | Founders take (₹ crore) |
|---|---|---|
| 60 | 40 (preference) | 20 |
| 100 | 40 (preference) | 60 |
| 300 | 60 (converts) | 240 |
At the low exit this is harsher than participating. At the high exit it disappears entirely, because conversion becomes better for the investor.
The capped middle ground
A common compromise: participating, but capped at a total return, say 2x. The investor participates until they have received ₹40 crore, then stops; if straight conversion gives them more, they take that instead.
At our ₹300 crore exit, uncapped participation gives the investor ₹76 crore. With a 2x cap they would take conversion at ₹60 crore instead, because it beats the ₹40 crore cap. The founders keep ₹240 crore rather than ₹224 crore.
Caps are a reasonable landing point when an investor won't drop participation entirely.
What to actually do about the preference
Before signing, build the tables above for your own numbers at three exits: a disappointing one, a fair one, and the one in your plan. Most founders have never seen their own version.
Two questions worth asking: what preference did this investor take in their last three deals, and would they accept a cap? Both are ordinary questions, and the answers tell you where the real line is.
Preferences also stack across rounds. With three rounds of preference, an exit can pay out entirely to investors while ordinary shareholders, founders and employees, receive nothing. Every new round makes the earlier maths worse.
Part two: anti-dilution
protects the investor if you later raise at a lower price than they paid. There are two common versions, and the gap between them is enormous.
Continuing the setup: the ₹20 crore was invested at ₹100 per share, so the investor holds 20 lakh shares. Total shares outstanding: 1 crore. The founders hold 80 lakh.
Now the company raises a : ₹10 crore at ₹50 per share, half the previous price. That is 20 lakh new shares.
With no anti-dilution
Down round of ₹10 crore at ₹50 a share, no anti-dilution
| Holder | Shares | Ownership |
|---|---|---|
| Founders | 80 lakh | 66.7% |
| Series A investor | 20 lakh | 16.7% |
| New investor | 20 lakh | 16.7% |
| Total | 1.2 crore | 100% |
Everyone dilutes together. Simple, and rare in practice.
Full ratchet: the punitive version
The earlier investor's price resets to the new, lower price, as though they had always paid ₹50. Their ₹20 crore at ₹50 buys 40 lakh shares instead of 20 lakh: twenty lakh additional shares for nothing.
The same down round with full ratchet anti-dilution
| Holder | Shares | Ownership |
|---|---|---|
| Founders | 80 lakh | 57.1% |
| Series A investor | 40 lakh | 28.6% |
| New investor | 20 lakh | 14.3% |
| Total | 1.4 crore | 100% |
The founders drop from 66.7% to 57.1%. The earlier investor's stake nearly doubles after a round in which they invested nothing. The new investor is diluted too, from 16.7% to 14.3%, but the cost falls mostly on the founders, and on the option pool where there is one.
Broad-based weighted average: the reasonable version
Here the price adjusts only partially, in proportion to how much cheap stock was actually issued. A small down round causes a small adjustment; a large one causes a larger one. The standard formula:
New price = Old price × (A + B) ÷ (A + C)
- A = shares outstanding before the new round, on a fully diluted basis = 1 crore.
- B = shares the new money would have bought at the old price = ₹10 crore ÷ ₹100 = 10 lakh.
- C = shares actually issued = ₹10 crore ÷ ₹50 = 20 lakh.
New price = ₹100 × (100 + 10) ÷ (100 + 20), working in lakh shares, = ₹100 × 110 ÷ 120 = ₹91.67.
The investor's ₹20 crore now converts at ₹91.67, into about 21.8 lakh shares: roughly 1.8 lakh additional shares, not 20 lakh.
The same down round with broad-based weighted average anti-dilution
| Holder | Shares | Ownership |
|---|---|---|
| Founders | 80 lakh | 65.7% |
| Series A investor | 21.8 lakh | 17.9% |
| New investor | 20 lakh | 16.4% |
| Total | about 1.22 crore | 100% |
The comparison, in one line
Founder ownership after a down round at half the price, by anti-dilution formula
| Anti-dilution | Extra shares to the earlier investor | Founders' ownership |
|---|---|---|
| None | 0 | 66.7% |
| Broad-based weighted average | about 1.8 lakh | 65.7% |
| Full ratchet | 20 lakh | 57.1% |
Broad-based weighted average costs the founders about one percentage point. Full ratchet costs them nearly ten. Both are called anti-dilution.
"Broad-based" matters too. It refers to what goes into A. A broad base includes the option pool and , which produces a smaller adjustment. A narrow-based version counts only issued shares, which produces a larger one. Check which you are being offered.
How it works in an Indian round
Because the investor holds CCPS, the extra shares do not usually arrive as a separate issue. The conversion ratio of the preference shares is adjusted, and the investor receives more equity shares when they convert. If the investor is foreign, the pricing rules require the conversion formula to be fixed when the shares are issued and the conversion price to be no lower than the fair value at that time, which can limit how far a ratchet can actually move. Have this checked against your own instrument.
What to actually do about anti-dilution
Broad-based weighted average is market standard and reasonable. Full ratchet is not, outside distressed situations. If it is in your , push back, and if the investor insists, ask for it to fall away after a defined period or a defined milestone.
Anti-dilution usually triggers on any issue below the earlier price, which can include an option pool expansion or a strategic issuance. Check the carve-outs.
Putting them together
These two clauses interact with each other and with the option pool, which is the third thing that quietly moves founder economics.
A term sheet at a ₹120 crore valuation with 1x participating preference and full ratchet can leave you materially worse off than one at ₹90 crore with 1x non-participating and weighted average. The second looks worse in the announcement and pays you more in almost every realistic outcome. On a ₹20 crore cheque, with both figures as pre-money and no down round, the lower offer pays the founders more at every exit below ₹440 crore, more than three times the higher offer's post-money valuation. Add a down round and the ratchet widens the gap.
Model it. Not the headline: your own proceeds, at three exit values, under the actual terms offered.
It takes an hour and it is the highest-value hour in the whole fundraise. For what happens between agreeing these terms and the money arriving, read the term sheet to closing guide, and for the other clauses you are signing, the term sheet clauses founders should read.
Frequently asked questions
What is the difference between participating and non-participating liquidation preference?
With non-participating preference, the investor either takes their money back or converts and takes their percentage share, whichever is higher, but not both. With participating preference, they take their money back and share in the remainder. On a ₹100 crore exit for a ₹20 crore investment at 20%, that difference is ₹16 crore out of the founders' proceeds.
What is full ratchet anti-dilution?
Full ratchet resets an earlier investor's share price to the price of a later, lower-priced round, as if they had originally paid the new price, so they receive additional shares at no cost. In a round at half the earlier price, it doubles their shareholding. It is far harsher than broad-based weighted average, which adjusts the price only in proportion to how much stock was issued cheaply.
How do you calculate broad-based weighted average anti-dilution?
New price = Old price × (A + B) ÷ (A + C), where A is the fully diluted shares outstanding before the new round, B is the number of shares the new money would have bought at the old price, and C is the number of shares actually issued. The investor's original investment is then divided by the new price to give their adjusted shareholding.
If you have a term sheet in hand and want your own waterfall built at three exit values before you sign, our investor readiness work does exactly that.
Current as at September 2026. Illustrative examples with round numbers; actual outcomes depend on your terms, instruments and . General guidance, not legal, tax or financial advice.
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