Capitalization Table Training - What is the Series A per share price? - The Option Pool Shuffle

1. Option Pool Shuffle
Capitalization Table Training
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2. What is the Series A per share price?
Economic Terms of a Series A Investment:
 Pre-Money Valuation
 Series A Investment
 Post-Money Option Pool
– Expressed as a percent of post-money shares outstanding
– Change in option pool is implemented immediately prior to the
financing (so included in pre-money fully diluted shares
outstanding)
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3. What is the Series A per share price?
Price per share =
Pre-Money Valuation ($)
(Current Shares and Options Outstanding
+ Unallocated Option Pool)
But this is circular!
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4. What is the Series A per share price?
The circularity is:
 The price per share for the Series A stock is based on the fully
diluted number of shares prior to the financing including the
option pool
 The size of the option pool is based on the fully diluted
number of shares after the financing
 The fully diluted number of shares after the financing is based
on the price per share for the Series A stock
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5. The Option Pool Shuffle
The following narrative is from a blog
(venturehacks.com/articles/option-pool-shuffle) and it
illustrates the option pool circularity
 The punch line is: Don’t let your investors determine the size
of the option pool for you. Use a hiring plan to justify a small
option pool, increase your share price, and increase your
effective valuation.
 Our focus: The Series A per share price calculations (i.e.,
math).
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6. The Option Pool Shuffle
You have successfully negotiated a $2M investment on a $8M premoney valuation by pitting the famous Blue Shirt Capital against Herd
Mentality Management. Triumphant, you return to your company’s
tastefully decorated loft or bombed-out garage to tell the team that their
hard work has created $8M of value.
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7. The Option Pool Shuffle
Your teammates ask what their shares are worth. You explain that the
company currently has 6M shares outstanding so the investors must be
valuing the company’s stock at $1.33/share:
$8M pre-money ÷ 6M existing shares = $1.33/share.
Later that evening you review the term sheet from Blue Shirt. It states
that the share price is $1.00… this must be a mistake! Reading on, the
term sheet states, “The $8 million pre-money valuation includes an
option pool equal to 20% of the post-financing fully diluted capitalization.”
You call your lawyer: “What?!”
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8. The Option Pool Shuffle
As your lawyer explains that the so-called pre-money valuation always
includes a large unallocated option pool for new employees, your
stomach sinks. You feel duped and are left wondering, “How am I going
to explain this to the team?”
The option pool lowers your effective valuation.
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9. The Option Pool Shuffle
Your investors offered you a $8M pre-money valuation. What they really
meant was
“We think your company is worth $6M. But let’s create $2M worth of
new options, add that to the value of your company, and call their
sum your $8M ‘pre-money valuation’.”
For all of you MIT and IIT students out there:
$6M effective valuation + $2M new options + $2M cash = $10M post
or
60% effective valuation + 20% new options + 20% cash = 100% total.
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10. The Option Pool Shuffle
Slipping the option pool in the pre-money lowers your effective valuation
to $6M. The actual value of the company you have built is $6M, not $8M.
Likewise, the new options lower your company’s share price from
$1.33/share to $1.00/share:
$8M pre ÷ (6M existing shares + 2M new options) = $1/share.
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