Two founders sell their companies for the same headline price, $40 million each, and one walks away with millions while the other walks away with almost nothing. Same exit, wildly different outcomes. The difference isn't luck. It's a handful of clauses they each signed years earlier, on a document most people skim and few fully understand.

The quick version

  • A round buys equity with dilution. Investors put in cash for newly issued shares; everyone who already owned a slice now owns a smaller percentage of a (hopefully) bigger company.
  • The term sheet is the deal's DNA. It's a short, mostly non-binding summary, but two terms inside it, the liquidation preference and the price, do most of the work of deciding who gets paid and how much.
  • A 1× non-participating liquidation preference is the founder-friendly market standard. Participating preferred and multiples above 1× let investors "double-dip" and can gut the common stock in a modest exit.
  • The cap table is the scoreboard. It records who owns what; read it as percentages and as a payout waterfall, not just a list of names.

The idea in depth

Venture fundraising looks intimidating because it has its own vocabulary, but the structure is simpler than the jargon suggests. A company sells newly created shares to investors for cash. That cash funds growth; the new shares dilute everyone who already owned the company. This repeats across a sequence of rounds, pre-seed, seed, Series A, B, C and onward, each typically at a higher price per share than the last, until the company is acquired, goes public, or runs out of road.

Early rounds increasingly skip the full priced-equity machinery and use a SAFE (Simple Agreement for Future Equity), the one-page instrument Y Combinator introduced in 2013 and revised to its "post-money" form in 2018. A SAFE is a promise: invest now, convert into shares at the next priced round, usually capped at an agreed valuation. Its appeal is simplicity, Y Combinator notes that startups and investors "will usually only have to negotiate one item: the valuation cap" (YC, Safe Financing Documents). The post-money version makes precise one thing founders often get wrong: a post-money SAFE holder's ownership is locked in as investment ÷ post-money cap, and it is your equity, not later investors', that absorbs the dilution when they convert. So before you sign a stack of SAFEs, total them up and model the conversion. Founders who treat each SAFE as a standalone favour routinely discover at Series A that they've sold far more than they meant to.

The term sheet, and the two terms that matter most

The term sheet is a short document, often just a few pages, that summarises a proposed investment. Most of it is non-binding; it's a statement of intent that lawyers then translate into the binding agreements. In the United States, those agreements are heavily standardised around the National Venture Capital Association's model legal documents, the free, industry-standard templates (the core financing documents were last revised in October 2025) that save everyone from arguing first principles on every deal. That standardisation is a gift to founders: it means the genuinely negotiable terms are a short, knowable list.

Two of them do most of the work. The first is valuation and price, specifically the pre-money valuation (what the company is judged to be worth before the new money) versus the post-money valuation (pre-money plus the investment). The investor's ownership is their cheque divided by the post-money figure, so the gap between pre- and post-money is exactly the slice you're selling. The second is the liquidation preference, which we'll take on its own because it is the single most misunderstood line in the document.

A high valuation can hide a punishing term. A modest valuation can hide a generous one. The number on the press release tells you almost nothing about the deal you signed.

So never evaluate an offer on valuation alone. Ask for the full term sheet, and read price and preference together. Worth being honest about what a term sheet actually is, though: it's a snapshot of negotiating leverage, not a verdict on your company. A founder with two competing offers can negotiate terms an identical company with one offer cannot, which is why the strongest move in fundraising is often creating genuine competition, not perfecting a pitch.

Liquidation preferences: who gets paid first

A liquidation preference decides the order and size of payouts when the company is sold or wound up. Preferred shareholders (the investors) get paid before common shareholders (founders and employees). Two dials control how much.

The first dial is the multiple. A 1× preference means an investor gets their money back, one times their investment, off the top, before common stock sees a cent. A 2× or 3× means double or triple that. The second dial is participating versus non-participating. With non-participating preferred, the investor takes the greater of their preference or what their shares are worth if converted to common, downside protection, but not both. With participating preferred, they take their preference and then also share in what's left alongside common holders, the "double-dip." As law firm Morrison Foerster frames it, non-participating preferred is "simply downside protection," whereas participating preferred lets an investor collect their money back and a pro-rata share of the rest (Morrison Foerster, ScaleUp).

Why this matters more than the valuation: in a modest exit, the preference can consume most of the proceeds before founders participate at all. So treat "1× non-participating" as the line you defend. It is the institutional market standard, consistent with the NVCA model documents and reflected across deal-term analyses (NVCA; Value Add VC). A participating preference or a multiple above 1× isn't necessarily fatal, sometimes it's the price of a higher headline valuation, but you should know you're trading one for the other, and price the trade. One caveat: standards drift with the market. In founder-hostile conditions, 1.5× and participating terms reappear; in hot markets they vanish. "Standard" describes today's balance of power, not a permanent rule, which is why founders read recent deal data, not last decade's playbook.

flowchart TD
    A(["Company sells for £X"]) --> B(["Pay off debts & costs"])
    B --> C(["Investors take liquidation preference
e.g. 1× their money first"])
    C --> D{"Participating
preferred?"}
    D -->|"Yes, they also share what's left"| E(["Investors get preference + pro-rata slice"])
    D -->|"No, non-participating"| F(["Investors take the GREATER of
preference or as-converted value"])
    E --> G(["Common shareholders
founders & staff split the remainder"])
    F --> G
The payout waterfall: preference holders are paid before common stock, and "participating" decides whether they get paid twice. Cap. Leaders Loop

Dilution and the cap table: the scoreboard

The capitalization table, the cap table, is the ledger of who owns what: founders, employees (via the option pool), and each round's investors, expressed as shares and percentages. Every round dilutes the existing owners: issue new shares, and everyone's slice of the pie shrinks even as the pie grows. That isn't a bug. A smaller percentage of a far larger, well-funded company is the entire bet.

How much dilution is normal? Carta, which administers cap tables for tens of thousands of startups, reported that in early 2025 the median Series A round involved roughly 18% dilution, down from about 21% a year earlier (Carta, State of Private Markets, Q1 2025); its wider data shows median founding-team ownership sliding into the mid-30s by Series A. Treat those as orientation, not targets, they move with the market and skew toward US software companies. The practical takeaway: build a pro-forma cap table before you raise. Model the round, the option-pool top-up (which usually comes out of your pre-money slice, not the investor's), and the next two rounds after it. Founders who only see the cap table after signing are reading the scoreboard at full-time; the ones who model it first are still playing the game.

One thing a cap table won't tell you, though: ownership is not the same as control or cash. A founder can own 40% and still be removable by the board; a founder can own 15% and exit wealthy because the company became enormous. Percentage is one variable. The terms attached to those percentages, board seats, preferences, protective provisions, are the rest, which is why this topic threads directly into capital allocation philosophy & discipline: every round is a capital-allocation decision with strings attached.

flowchart LR
    A(["Pre-seed / Seed
SAFEs, founders ~90%+"]) --> B(["Series A
priced round, ~18% dilution"])
    B --> C(["Series B
growth capital"])
    C --> D(["Series C+
scale & pre-exit"])
    D --> E(["Exit
acquisition or IPO"])
    E --> F(["Waterfall pays out
preferences first, common last"])
Each round adds capital and dilutes existing owners; the terms accumulated along the way decide the exit waterfall. Cap. Leaders Loop

A worked example

All figures below are illustrative, chosen for round numbers, not drawn from a real company.

You found a company. You own 100%, say 8,000,000 shares. You take a $2m seed on a post-money SAFE with a $10m cap. By the standard formula, that investor is buying investment ÷ post-money cap = $2m ÷ $10m = 20% of the company. To make room, the company issues new shares so the SAFE holder ends at 20%; you're diluted to roughly 80%.

Now a Series A: an investor offers $5m at a $15m pre-money valuation. Post-money is $15m + $5m = $20m, so they're buying $5m ÷ $20m = 25%. That 25% comes out of everyone already on the cap table, you and the seed investor both. Roughly, your 80% becomes about 60%, the seed investor's 20% becomes about 15%, and the Series A holds 25%. (Real rounds also carve out an option pool, usually from your pre-money slice, so in practice you'd land a few points lower.)

Three years later, the company sells for $40m. Watch the term, not just the price. Suppose the Series A took a 1× non-participating preference on its $5m. Their as-converted 25% of $40m is $10m, far more than their $5m preference, so they convert to common and take the $10m. Founders and the seed investor split the rest by percentage. A clean, founder-friendly outcome.

Change one word. Suppose instead the Series A negotiated a 2× participating preference. Now they take 2 × $5m = $10m off the top first, leaving $30m, and then, because they participate, they also take their 25% of that $30m, another $7.5m. They walk away with $17.5m on a $5m cheque, and there's only $22.5m left for everyone else. Same $40m exit. The valuation never changed. The preference quietly moved $7.5m from the founders' column to the investor's. That single clause is the difference between the two founders we opened with.

Frequently asked questions

Is dilution bad?

No, dilution is the cost of fuel. Owning 20% of a company worth $500m beats owning 100% of one worth $2m. Dilution only turns bad when you give up more ownership than the capital is worth, or when the terms attached to it (preferences, control rights) transfer value out of proportion to the cash going in. The goal isn't to minimise dilution; it's to make sure each round buys more than it costs.

SAFE or priced round for an early raise?

SAFEs are faster and cheaper, often one negotiated term, the valuation cap, which is why they dominate pre-seed and seed. A priced round (issuing actual shares now) costs more in legal fees and time but gives everyone a precise, current cap table and sets a clean reference price. As a rule of thumb, SAFEs suit small, fast early rounds; a priced round earns its overhead once the cheque is large enough that everyone wants certainty.

What's the single most important term to get right?

The liquidation preference, paired with the price. A 1× non-participating preference is the founder-friendly standard; anything beyond it, a higher multiple, or participation, should buy you something concrete in return, like a materially higher valuation, and you should model the exit both ways before you agree.

Do I need a lawyer, or can the templates handle it?

The NVCA and YC templates are excellent starting points and have de-risked the boilerplate, but they're explicitly "a starting point only", yes, you want an experienced startup lawyer for anything beyond a plain-vanilla SAFE. This article explains the mechanics so you can have an informed conversation; it is not legal advice, and terms and norms vary by jurisdiction.

What does "pre-money" versus "post-money" actually change?

Everything about how much you sell. Investor ownership is their cheque divided by the post-money valuation. So a $5m investment at "$15m" means very different things depending on whether $15m is pre-money (you sell 25%) or post-money (you sell 33%). Always confirm which one the number refers to before you celebrate it.

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