Two ways to read a cap table
A capitalisation table can be read in two very different ways, and confusing them is one of the most common founder mistakes. The first is the issued or outstanding view, which counts only shares that have actually been allotted today. The second is the fully-diluted view, which counts every share that could exist once all convertible instruments convert and all options are exercised. Investors, term sheets and price per share are almost always negotiated on the fully-diluted basis.
What goes into the fully-diluted count
To build a fully-diluted picture, you add up everything that has a claim on ownership as if it had already turned into equity.
- All issued equity shares held by founders and others.
- All preference shares, typically compulsorily convertible preference shares, counted on an as-converted-to-equity basis.
- Convertible instruments such as convertible notes, SAFEs and warrants, on an as-converted basis.
- The entire ESOP pool, including options already granted and, crucially, the portion still unallocated.
Because the denominator is larger, your ownership percentage on a fully-diluted basis is always lower than it looks on an outstanding-only basis. If you plan around the smaller number, you will consistently overestimate what you own.
A quick intuition helps. If a company has one million shares outstanding but has also reserved a 15 percent option pool and issued convertible notes, its fully-diluted count is meaningfully higher than one million, and every ownership percentage should be calculated against that larger figure. Founders who quote their stake off the outstanding number alone are describing a company that no longer exists once the pool and convertibles are counted in.
Why price per share depends on it
Fully-diluted share count is the denominator that turns a valuation into a price per share. In a priced round, the price per share is roughly the pre-money valuation divided by the fully-diluted pre-money share count. The bigger that share count, the lower the price per share, and therefore the more shares an investor receives for the same cheque. This is exactly why the definition of the fully-diluted base is negotiated so carefully.
The option pool shuffle
The most important negotiation hidden inside the fully-diluted view is the treatment of the ESOP pool. Investors typically require that the option pool be created, or topped up to an agreed size, before their investment goes in. In cap-table terms, the enlarged pool is included in the pre-money fully-diluted count.
The consequence is that the dilution from that pool is borne mainly by the existing shareholders, that is the founders, and not by the incoming investor. A larger pre-money pool quietly lowers the effective price per share and the effective valuation the founders receive. This mechanic is sometimes called the option pool shuffle. It is not improper, but founders who do not model it are often surprised by how much it costs them.
Practical discipline
Always model your own ownership on a fully-diluted basis, never on outstanding shares alone. When you read a term sheet, check two things in particular: what exactly is included in the fully-diluted number, and whether the option pool is being set up pre-money or post-money. Those two details can move your final ownership by several percentage points, which over the life of a company can be worth a great deal.