Question

Beyond full-ratchet or weighted-average, what specific nuanced &#x27;anti-dilution provision&#x27; in a term sheet would disproportionately protect early investors during a future down-round, even if their percentage ownership is diluted?

Accepted Answer

Beyond full-ratchet or weighted-average mechanisms, a highly nuanced anti-dilution provision that would disproportionately protect early investors during a future down-round, even if their percentage ownership is diluted, is an Enhanced Conversion triggered by Down-Round. This provision specifically adjusts the preferred share conversion price downwards more aggressively than standard anti-dilution formulas when a new financing round occurs at a per-share price lower than the investor&#x27;s original purchase price. While typical anti-dilution adjusts the conversion price to account for the dilutive issuance, an Enhanced Conversion clause adds an *additionallayer of benefit specifically in a down-round scenario. For example, it might stipulate that if a future round occurs below the original preferred share price, the conversion price will not only be adjusted by a broad-based weighted-average formula but will also receive a further, fixed percentage reduction (e.g., an additional 10% downward adjustment) or an automatic increase in the number of common shares each preferred share converts into (e.g., an extra 0.1 common shares per preferred share). This means early investors receive a significantly higher number of common shares upon conversion than they would under standard anti-dilution. This disproportionately protects them because their absolute number of common shares, and thus their economic stake in the company&#x27;s future value, is substantially increased beyond what would merely compensate for price dilution, even as new investors come in and their overall percentage ownership of the company&#x27;s fully diluted equity may still decrease.

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Beyond full-ratchet or weighted-average, what specific nuanced 'anti-dilution provision' in a term sheet would disproportionately protect early investors during a future down-round, even if their percentage ownership is diluted?