Founder equity and dilution: what UK founders give up at each funding round

Dilution is simply the reduction in your percentage ownership of a company that happens whenever new shares are issued to someone else, most commonly to a new investor in a funding round. It is not a penalty and it is not optional if you want to raise external capital: the whole mechanism of venture funding works by a company creating new shares and selling them for cash, which mathematically shrinks everyone’s existing slice of the pie even as the pie itself, hopefully, gets bigger. Understanding how it works, and where it tends to happen, makes it much easier to judge whether a specific round’s terms are reasonable.

What is a cap table, and why does it matter?

A capitalisation table, or cap table, is simply the record of who owns what percentage of a company, covering founders, employees with share options, and every investor across every round. It typically lists each shareholder, the class and number of shares they hold, and the percentage of the fully diluted company that represents, “fully diluted” meaning the calculation includes not just shares already issued but also shares reserved for option pools and any convertible instruments that could turn into shares later. Keeping an accurate, up-to-date cap table matters because every future funding round, and eventually any exit, is priced and negotiated against it, and errors compound quickly if they are not caught early.

Why does dilution happen?

Dilution happens because a funding round works by the company issuing brand new shares and selling them to an investor for cash, rather than existing shareholders selling their own shares. If a company has 1,000,000 shares before a round and issues 250,000 new shares to a new investor, the total goes up to 1,250,000, and every existing shareholder’s stake as a percentage of the company shrinks accordingly, even though the number of shares they personally hold has not changed. This is the standard, expected mechanism behind almost every funding round, from a small angel cheque to a large late-stage raise, and it is genuinely different from a founder selling their own personal shares, which is a separate, much less common event called secondary sale.

What is an option pool, and why does it dilute founders specifically?

An option pool is a block of shares set aside, usually before or as part of a funding round, to grant as share options to current and future employees as an incentive to join and stay. Investors typically expect a company to have, or to create, an option pool of a meaningful size as a condition of investing, because it aligns the team’s incentives with the company’s growth, and because the investor does not want their own stake diluted later when that pool inevitably gets created. In practice, this frequently means the option pool is carved out of the existing shareholders’ stakes, largely the founders’, immediately before the new investor’s money comes in, which is why founders often experience more dilution in a round than the headline investment amount alone would suggest, and it is worth checking exactly whose shares an option pool expansion is coming out of before agreeing to a term sheet.

How much do founders typically give up, round by round?

There is no single, official figure for how much a founder is diluted at each stage, because it depends on the round size, the valuation, and the size of any option pool being created, and it varies considerably by company and by sector. As an illustrative example only, using data from more than 2,000 completed UK funding rounds, the legal platform SeedLegals found first funding rounds carried a mean pre-money valuation of around £2.89 million, with subsequent rounds averaging around £7.33 million, and the amount of dilution any individual company experiences in a round of a given size is a function of exactly where the pre-money valuation lands relative to the amount being raised. As a general rule, a larger round raised against a lower valuation dilutes founders more than a smaller round raised against a higher valuation, which is one reason valuation, not just the amount raised, is such a heavily negotiated term.

What is pro-rata, and how does it affect future dilution?

Pro-rata rights are a term commonly granted to investors, particularly lead investors, giving them the right, though not the obligation, to invest further in a future round specifically to maintain their existing percentage ownership, rather than being diluted down like everyone else, according to venture capital firm CRV’s guide to the mechanic. In practice this means an investor who owns 10% of a company after one round can choose to buy enough new shares in the next round to stay at 10%, which is calculated as their ownership percentage multiplied by the new round’s size. For founders, pro-rata rights are generally a normal and reasonable term to grant a lead investor, but it is worth understanding that they mean part of every future round may effectively be reserved for existing investors before new investors get a look in, which can affect how much room is left to bring in new backers.

What can founders actually do about it?

Dilution across a company’s life is largely unavoidable if the company keeps raising external capital, so the more useful question is usually not “how do I avoid dilution” but “is this round’s dilution justified by what it buys the company.” It is worth modelling out, before signing a term sheet, roughly what your percentage ownership will look like not just after this round but after a plausible next one or two rounds, since option pool top-ups and pro-rata exercises by existing investors both chip away at founder ownership over time. Because UK venture activity has increasingly concentrated into fewer, larger deals, according to British Business Bank data showing UK smaller-business equity investment fell 4% overall inundefinedeven as the very largest rounds took a bigger share of the total, it is worth expecting later rounds in particular to come from well-resourced investors who understand cap table mechanics thoroughly, so getting your own advice on the same terms is worthwhile before you negotiate.

A word on independent advice

Cap table structuring, option pool sizing and pro-rata terms are genuinely negotiable, and a specialist startup lawyer or experienced non-executive can often spot terms worth pushing back on that are not obvious from the term sheet alone. None of the ranges or examples in this article should be read as a guarantee of what any individual company will experience, since actual outcomes depend heavily on the specific round, sector and investors involved.