ANTIDILUTION CLAUSE Meaning and
Definition
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An antidilution clause is a provision typically included in legal contracts, particularly in shareholders' or investment agreements, that aims to protect the value of an investor's ownership interest in a company. This clause is designed to prevent a reduction in the investor's percentage equity ownership resulting from the issuance of new shares, securities, or other capital-raising activities by the company at a lower valuation.
When a company needs to raise additional capital, it may issue new shares or securities to investors or employees. However, this issuance may lead to dilution, reducing the percentage stake and voting power of existing shareholders, including investors. An antidilution clause seeks to safeguard against this dilution by providing certain rights or mechanisms to the existing investor.
Common types of antidilution clauses include full ratchet and weighted-average formulas. A full ratchet antidilution clause ensures that the investor's ownership percentage is fully protected by adjusting the conversion price of their securities to the lowest price at which new shares are issued. On the other hand, a weighted-average antidilution clause adjusts the conversion price based on a weighted average of the new and old share prices.
Antidilution clauses are crucial for investors as they offer protection against potential value erosion and maintain their proportional ownership in the company. While benefiting investors, these clauses may restrict a company's ability to raise capital or issue new shares at lower valuations, as they must consider the potential impact on existing investors.
Etymology of ANTIDILUTION CLAUSE
The word "antidilution clause" is a compound word derived from two parts: "anti-" and "dilution clause".
1. "Anti-" is a prefix derived from the Greek word "antí", meaning "against" or "opposite". It is commonly used in English to form words that convey opposition to or prevention against something.
2. "Dilution" is a noun derived from the verb "dilute", which ultimately comes from the Latin word "diluere", meaning "to wash away" or "to dissolve". In this context, "dilution" refers to the decrease in the value or the shares of a company due to the issuance of additional shares or the reduction in earnings per share.
3. "Clause" is a noun that comes from the Latin word "clausus", meaning "closed" or "enclosed".
