The importance of anti-dilution clauses in shareholders’ agreements

The importance of anti-dilution clauses in shareholders’ agreements

What is an anti-dilution clause? An anti-dilution clause is a prerogative that grants its beneficiary the right to take on new shares in the company, in addition to those he already owns, so that the creation of new shares in the company does not lead to a dilution of the percentage he owns in the company.

Is it advisable to use anti-dilution clauses in the shareholders’ agreements?

It is important to mention that the Capital Companies Act already recognizes a right that, in practice, works in a similar way. The right to which we refer is the “preferential subscription” right. Thus, in the event that the company increases its share capital by creating new shares, the current shareholders of the company have the right to assume a number of shares that avoids a dilution of the shareholder.

Notwithstanding the foregoing, the anti-dilution right is configured as an extra protection of the company’s shareholder, being a common practice its recognition in favor of investment partners. Thus, let us assume that an investor assumes shares at a pre-money valuation of 1,000,000 euros. After one month, a new shareholder assumes the same number of shares as the first shareholder, but at a pre-money valuation of 500,000 euros. In this example, the company would be valued at a figure lower than the post-money value of the first investor, causing a loss to the latter.

Precisely to avoid this, anti-dilution clauses ensure that the investor affected by an undervaluation of the company can subscribe new shares at a lower price than the incoming investor.

What types of anti-dilution clauses are there?

A. BROAD BASED WEIGHTED AVERAGE PRICE

B. NARROW BASED WEIGHTED AVERAGE PRICE:

C. FULL RATCHET

Practical example of a FULL RATCHET clause

“In the event that subsequent to the subscription of a capital increase (the “Capital Increase”) a capital increase is carried out in the Company at a price per equity interest (including nominal plus assumption premium) lower than the price per equity interest attributed in the Capital Increase (the “Down Round”) per equity interest, the Investing Partners of the first round will have the right to assume in the capital increase in which the Down Round is to take place, a number of shares to be calculated by dividing the total investment made by the Investing Partner of the first round, by the value of the price of the shares in the Down Round. “