The arithmetic
Modelling dilution
How to work out what your percentage becomes after four rounds and an option pool refresh — the calculation that turns an entry percentage into a real one.
The most common modelling error in angel investing is treating the entry percentage as the exit percentage. It is always wrong, it is always wrong in the optimistic direction, and it takes about three minutes of arithmetic to correct.
Every financing issues new shares, and every new share reduces the fraction of the company that each existing share represents. Over the life of a company that goes the distance — four or five rounds, with option pool top-ups along the way — an early investor typically retains somewhere between a third and a half of the percentage they started with.
The calculation is simple enough to do in your head approximately and in a spreadsheet exactly. What it changes is what you are willing to pay to enter, which is the point.
The basic calculation
Each round dilutes you by the proportion of the company sold. If a round sells 20% of the company, your holding is multiplied by 0.8. Apply that multiplier once per round, plus once more for each option pool refresh, and the compounding does the rest.
The arithmetic for a 2% entry position through four rounds at 20% each: 2.0% × 0.8 × 0.8 × 0.8 × 0.8 = 0.82%. Add a 5% pool refresh somewhere in the middle and you are at roughly 0.78%. You retain about 39% of where you started.
The rough planning heuristic that follows is to assume you keep about half your entry percentage, and rather less if the company raises heavily. It is imprecise and it is much closer to reality than the entry number.
| Event | Dilution | Your position |
|---|---|---|
| Entry at seed | — | 2.00% |
| Series A | 20% | 1.60% |
| Series B | 20% | 1.28% |
| Option pool refresh | 5% | 1.22% |
| Series C | 18% | 1.00% |
| Series D | 15% | 0.85% |
| Retained share of entry position | — | about 42% |
Illustrative. Each round is assumed to sell the stated proportion of the company; a pool refresh is applied between rounds B and C.
What the model should change
Run the dilution model before agreeing an entry price, then work out the exit value required for the return you are underwriting. That single calculation kills more bad investments than any amount of qualitative assessment.
The arithmetic: your expected exit percentage, multiplied by a plausible exit value, divided by what you invested, is your multiple. If a £25,000 cheque at a £10m cap becomes 0.10% after dilution, a £200m exit returns £200,000 — a respectable 8×, and considerably less than the entry percentage implied.
Do this before the meeting where you decide, not after. It is the difference between an entry price you have assessed and one you have accepted.
What reduces dilution, and what does not
Pro-rata rights reduce it, at the cost of continued investment. Anti-dilution provisions do not reduce ordinary dilution at all — they operate only in a down round, and only if you hold shares that carry them.
A post-money SAFE protects your percentage against other convertibles before conversion, and not at all afterwards. This is worth stating because it is frequently misunderstood as general dilution protection.
Nothing else helps. Dilution from an ordinary up round is the cost of the company being funded, and it is a cost worth paying — the alternative is a company that does not raise.
In short
What to take away
- Assume you keep roughly a third to a half of your entry percentage by exit.
- Model dilution and the required exit value before agreeing a cap or a price.
- Only pro-rata rights defend against ordinary dilution; anti-dilution provisions do not.
- Dilution that funds growth increases the value of your smaller slice. Not all dilution is equal.
From the decoder