dilution – n : finance/accounting term; the
act of diluting; the reduction in proportional (percentage) ownership of each
current shareholder of a company that results from the issuance of new shares.
For the entrepreneur or startup manager, dilution refers to the extent to which
your personal proportional ownership of your company declines when the company
issues new shares, whether in the course of raising equity capital (by selling
newly-issued shares to investors), or through stock option plans to motivate
employees.
Example: If
you own 50% of ABC Company, a firm worth a total of $1 million (pre-money valuation),
and ABC Co. then sells 500,000 newly-issued shares of stock at $1 each to a new investor
(i.e., ABC raises $500,000 in equity capital from that investor), then
post-investment, you would own 33.3% of ABC Co., now worth $1.5 million
(post-money valuation). Note, in this example,
that although you percentage ownership of ABC has declined, your stake
maintains the same nominal value: i.e., your former ownership stake of 50% of
$1 million = $500,000; while your new stake of 33.3% of $1.5 million =
$500,000.
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Adapted from "The CompanyCrafters Entrepreneur's Dictionary"
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