Full Ratchet

What is 'Full Ratchet'

Full ratchet is an anti-dilution provision that, for any shares of common stock sold by a company after the issuing of an option (or convertible security), applies the lowest sale price as being the adjusted option price or conversion ratio for existing shareholders.

Full-ratchet anti-dilution protection allows an investor to have his percentage ownership remain the same as the initial investment.

BREAKING DOWN 'Full Ratchet'

For example, an investor who paid $2 per share for a 10% stake would get more shares in order to maintain that stake if a subsequent round of financing were to come through at $1 per share. The early round investor would have the right to convert his shares at the $1 price, thereby doubling his number of shares.

A full ratchet anti-dilution provision ensures that current investors, or shareholders, are able to maintain their same percentage of ownership should a company create additional offerings. It is considered an anti-dilution provision since the intent is to prevent an original shareholder’s stake from being diluted by the creation of new securities.

Convertibles Pricing

Aside from preventing the dilution of a shareholder’s stake, a full ratchet also offers a level of cost protection should the pricing of the initial round be higher than those sold later within the round, or in subsequent rounds. This may allow a shareholder to maintain their percentage stake within a company without requiring any additional funds. This is done by converting the price paid on currently held shares to the corresponding number of shares that could have been purchased with the same funds at the lower price.

Purpose for Maintaining the Percentage of a Shareholder’s Stake

Within certain companies, a shareholder must hold a minimum percentage of the available shares to maintain certain rights. Most notably, this may be valuable to investors if falling below a certain percentage would mean a loss of voting rights that were held prior to the creation of additional shares.

Additionally, investors may be interested in maintaining the same percentage if the company is expected to gain positive momentum. This can lead to larger returns if share values rise especially in the short term. It can also help protect from the perceived short-term losses that can appear to occur as soon as the new offerings are made publicly available. Since these new shares may be acquired at discounted prices, or without the additional of any funds, the current shares may lose some value as the company’s assets are divided among a growing number of shares.

RELATED TERMS
  1. Anti-Dilution Provision

    A provision in an option or a convertible security. It protects ...
  2. Dilution Protection

    A provision that seeks to protect existing shareholders or investors ...
  3. Antidilutive

    A term describing the effects of securities retirement, securities ...
  4. Broad-Based Weighted Average

    An anti-dilution provision used for the benefit of existing preferred ...
  5. Dilution

    A reduction in the ownership percentage of a share of stock caused ...
  6. Broad-Based Weighted Average Ratchet

    A mechanism seen in early-stage, pre-public companies in response ...
Related Articles
  1. Investing

    How Does Dilution Work?

    Dilution refers to the reduction in the percentage equity ownership of a company due to additional equity being issued to other owners.
  2. Trading

    The Dangers Of Share Dilution

    Investors need to be aware of the existence of dilutive securities and how they can affect existing shareholders.
  3. Investing

    Assess Shareholder Wealth With EPS

    Find out if management is doing its job of creating profit for investors.
  4. Investing

    Explaining Rights Offering

    A rights offering is an offer by a company to its existing shareholders of the right to buy additional shares in proportion to the number they already own.
  5. Investing

    Knowing Your Rights As A Shareholder

    We delve into common stock owners' privileges and how to be vigilant in monitoring a company.
  6. Managing Wealth

    The Dangers Of Share Dilution

    Share dilution reduces the value of an individual investment and can drastically impact a portfolio.
  7. Managing Wealth

    Introduction To Convertible Preferred Shares

    These securities offer an answer for investors who want the profit potential of stocks but not the risk.
  8. Investing

    Who is a Shareholder?

    A shareholder is a person, company or other entity that owns at least one share of a company’s stock.
  9. Markets

    Understanding Rights Issues

    Not sure what to do if a company invites you to buy more shares at discount? Here are some of your options.
  10. Markets

    Why Do Companies Care About Their Stock Prices?

    Read on to learn more about the nature of stocks and the true meaning of ownership.
RELATED FAQS
  1. What are the differences between dilutive securities and antidilutive securities?

    Learn how investors and accountants apply the terms "dilutive" and "antidilutive" to securities or the exercise of security ... Read Answer >>
  2. What is dilutive stock?

    Dilutive stock is any security that dilutes the ownership percentage of current shareholders - that is, any security that ... Read Answer >>
  3. What are the pros and cons of downround financing?

    Read about the pros and cons of down round financing for a company that has seen its valuation decrease, and see how it impacts ... Read Answer >>
  4. What rights do all common shareholders have?

    Learn what rights all common shareholders have, and understand the remedies that can be taken if those rights are violated ... Read Answer >>
  5. Why would I need to know how many outstanding shares the shareholders have?

    Find out why shareholders should know how many outstanding shares have been issued by a corporation, and learn what happens ... Read Answer >>
  6. Why would a company issue a rights offering?

    Understand more about a rights offering, and learn the most common reasons a company might have to issue a rights offering, ... Read Answer >>
Hot Definitions
  1. AAA

    The highest possible rating assigned to the bonds of an issuer by credit rating agencies. An issuer that is rated AAA has ...
  2. GBP

    The abbreviation for the British pound sterling, the official currency of the United Kingdom, the British Overseas Territories ...
  3. Diversification

    A risk management technique that mixes a wide variety of investments within a portfolio. The rationale behind this technique ...
  4. European Union - EU

    A group of European countries that participates in the world economy as one economic unit and operates under one official ...
  5. Sell-Off

    The rapid selling of securities, such as stocks, bonds and commodities. The increase in supply leads to a decline in the ...
  6. Brazil, Russia, India And China - BRIC

    An acronym for the economies of Brazil, Russia, India and China combined. It has been speculated that by 2050 these four ...
Trading Center