Fully Diluted Valuation

What is the fully diluted valuation?

Fully diluted valuation (German: voll verwässerte Bewertung, abbreviated FDV) refers to the value of all shares of a company, calculated as the price per share of a funding round times the number of all shares on a fully diluted basis. The result is an equity value. Besides the company shares (Geschäftsanteile), virtual shares of employees, the pool reserved for them and conversion rights are included as if they had already been issued.

In term sheets, the valuation of a funding round is usually stated on this basis, as a pre-money valuation (before the inflow of the new capital) or as a post-money valuation (after it). The qualifier “on a fully diluted basis” fixes the number of shares by which the valuation is divided, and thereby the price at which the investors receive their shares. This price is implemented in the participation agreement through a capital increase. Which rights belong to the basis is governed by the contractual definition (fully diluted); how the shares are distributed among the individual shareholders is shown by the fully diluted cap table. The fully diluted valuation combines both in a single amount in euros.

Calculating the fully diluted valuation: valuation and price per share

Formula: Fully diluted valuation = price per share × number of all shares on a fully diluted basis

There is a fixed relationship between valuation and price. The pre-money valuation divided by the number of shares before the round gives the price per share. The post-money valuation divided by the number of shares after the round gives the same price. Both calculations depend on the share basis, and a valuation without a statement of the basis does not fix the price. Two offers with the same valuation can therefore lead to different prices, and two offers with different valuations to the same price.

For the existing shareholders, what matters is not the stated valuation but the value attributable to their own company shares: their number multiplied by the price per share. The difference from the stated pre-money valuation is attributable to virtual shares, conversion rights and a newly created pool. It can be quantified item by item and is the real benchmark between offers.

Pool before or after the round

The pool comprises the virtual shares reserved for employees. If it is created before the round and included in the pre-money valuation, it increases the number of shares by which the valuation is divided. The price per share falls, and the new investors receive their percentage without the pool diluting them. The burden is borne solely by the existing shareholders. If the pool is formed only after the round, the price stays higher, and the pool dilutes all shareholders, including the new investors, in proportion to their percentages.

Investors commonly demand the first variant, because the pool mainly serves hires after the round that are financed with their capital. What is negotiated is therefore usually less the variant than the size. A pool that exceeds the need until the next round lowers the price per share at the expense of the existing shareholders, without a planned use to set against it. The usual negotiating basis is a headcount plan that quantifies the intended commitments.

Conversion rights in the valuation

Convertible loans that convert in the round are usually also included in the pre-money basis. Their conversion shares are thus borne by the existing shareholders, while the amount and percentage of the new investor remain unchanged. If a loan converts at a discount to the round price, price and conversion shares depend on each other and are calculated together.

With a valuation cap, the conversion price is fixed where the cap lies below the valuation of the round. It, too, relates to a share basis, which the loan agreement must specify. Whether the cap relates to the shares before or after a new pool can lead to significantly different numbers of conversion shares.

Valuation in a company sale

In a sale, the calculation is reversed. Buyer and seller bridge from the enterprise value to the equity value: they deduct the financial debt and add the cash. This amount is attributable to the shareholders. It is distributed not on the basis of the funding round but on the shares that actually participate in the proceeds. Unallocated pool shares generally receive nothing; their notional share benefits the other entitled parties. Divided by this number of shares, the equity value gives the proceeds per share, as long as no preferences apply.

Virtual shares are accounted for precisely here. Their claim covers only the value above the base price (strike price), and the base price benefits the shareholders arithmetically. The simplified calculation of a funding round, which counts every virtual share in full, departs from the distribution of proceeds here. For the valuation of a round this simplification is customary, for the distribution of a purchase price it is not.

Worked example: fully diluted valuation with pool and convertible loan

A GmbH has 75,000 company shares with a nominal amount of EUR 1 each and 5,000 allocated virtual shares; there is no free pool. A convertible loan of EUR 1.2 million converts at a valuation cap of EUR 12.8 million, based on the 80,000 existing shares. A new investor wants to invest EUR 5 million and names a pre-money valuation of EUR 20 million on a fully diluted basis. It includes the conversion and a free pool of 10% after the round.

• Conversion price: EUR 12.8 million / 80,000 = EUR 160; conversion shares: EUR 1.2 million / EUR 160 = 7,500
• Post-money valuation: 20 + 5 = EUR 25 million; investor's share 5 / 25 = 20%
• Existing shares including conversion: 75,000 + 5,000 + 7,500 = 87,500; after the round they account for 100% minus 20% minus 10% = 70%, and total shares amount to 87,500 / 0.7 = 125,000
• New pool: 10% of 125,000 = 12,500 virtual shares; investor: 20% of 125,000 = 25,000 new company shares
• Price per share: EUR 20 million / (87,500 + 12,500) = EUR 200; check: 25,000 × EUR 200 = EUR 5 million and 125,000 × EUR 200 = EUR 25 million
• Breakdown of the pre-money valuation: company shares 75,000 × EUR 200 = EUR 15 million, virtual shares 5,000 × EUR 200 = EUR 1 million, conversion shares 7,500 × EUR 200 = EUR 1.5 million, new pool 12,500 × EUR 200 = EUR 2.5 million, together EUR 20 million
• Expectation without a fully diluted basis: EUR 20 million / 75,000 = about EUR 266.67 per company share
• Pool only after the round: price EUR 20 million / 87,500 = about EUR 228.57; the investor would receive EUR 5 million / EUR 228.57 = 21,875 company shares
• The pool created afterwards would reduce every percentage to 90% of its previous value, including the investor's from 20% to 18%. The existing shareholders' company shares would stand for about 61.71% instead of 60%
• Value of the company shares after the round: (75,000 + 7,500 + 25,000) × EUR 200 = EUR 21.5 million; the difference from EUR 25 million corresponds to the 17,500 virtual shares at EUR 200 each

The company shares of the existing shareholders are arithmetically worth EUR 15 million at the round price, not the stated EUR 20 million. A quarter of the pre-money valuation is attributable to employees, the lender and future commitments. For comparing offers, the price per share and the value of one's own company shares are therefore what is meaningful, not the stated valuation.

Distinctions: fully diluted valuation and market capitalisation

• Pre-money and post-money valuation: the valuation before and after the inflow of the new capital. The fully diluted basis fixes the number of shares to which both relate.
• Business valuation: the methodical determination of a value, for example under the capitalised earnings method, the discounted cash flow (DCF) method or by multiples of comparable companies. The fully diluted valuation, by contrast, is a calculation convention for price and percentages of a transaction.
• Equity value: the equity value in a company sale after deduction of financial liabilities and debt-like items. It is distributed among the shares participating in the proceeds and is not derived from a price per share.
• Market capitalisation: the stock market value of a listed company, that is, price per share times the number of shares issued. The fully diluted market capitalisation adds options and conversion rights. In the case of cryptocurrencies, FDV stands for the current token price times the maximum possible token quantity; this usage has nothing to do with company shares.
• Effective pre-money valuation: price per share multiplied by the existing company shares, that is, the valuation without pool, virtual shares and conversion shares. It is the measure by which the existing shareholders judge an offer.

Common mistakes

• Valuations compared without a basis. Two offers with the same pre-money valuation are equivalent only if they use the same share basis, the same pool size and the same treatment of conversions.
• Effective value not calculated. Anyone who looks only at the stated valuation overestimates the value of their own company shares by the pool, virtual shares and conversion shares.
• Pool beyond the need. Every share in the pool that is not allocated by the next round has lowered the price without serving a purpose.
• Basis of the valuation cap overlooked. If the cap of a convertible loan relates to a basis including the new pool, the conversion price turns out lower than expected.
• Down round measured by the valuation. Whether a round is below the previous one is decided by the price per share. If the number of shares has grown, a higher valuation can mean a lower price.

Frequently asked questions

Is the valuation in a term sheet always stated on a fully diluted basis?

As a rule, yes. What is decisive, however, is the definition behind it: whether the unallocated pool, a pool top-up, conversion shares and option rights of third parties are included. If it is missing, the price per share remains open despite a stated valuation.

How is the fully diluted valuation calculated?

Price per share of the round times the number of all shares on a fully diluted basis. The price per share is given by the pre-money valuation divided by the fully diluted shares before the round, including an included pool and the conversion shares. In the worked example, EUR 200 × 125,000 shares give a post-money valuation of EUR 25 million.

Is a pool before the round always disadvantageous for founders?

Not necessarily. It lowers the price per share, but can come with a higher stated valuation. The variants only become comparable through the value attributable to the existing company shares.

Why is the fully diluted valuation above the value of the company shares according to the shareholder list?

Because it also values virtual shares and the pool at the round price. These do not appear in the shareholder list, but they participate in the proceeds.

Does the fully diluted calculation also apply in a company sale?

Only with adjustments. The equity value is distributed among the shares participating in the proceeds; unallocated pool shares generally do not belong to them. Preferences and the base prices of virtual shares also change the amount attributable to each company share.

The Roemer Capital view

Roemer Capital converts competing offers into the price per share and the value of the existing company shares, each on the same fully diluted basis. Only this conversion shows which offer is actually higher for the shareholders, and it belongs in the decision paper before a term sheet is signed.

For the size of the pool, Roemer Capital uses the hiring plan stored in the financial model, so that the top-up matches the need until the next round. Convertible loans are calculated in advance in several scenarios, so that their effect on the price per share is established before the valuation is negotiated.