{"id":182002,"date":"2023-07-07T04:04:44","date_gmt":"2023-07-07T03:04:44","guid":{"rendered":"https:\/\/legalvision.co.uk\/?p=182002"},"modified":"2025-07-02T00:38:16","modified_gmt":"2025-07-01T23:38:16","slug":"fully-diluted-shares","status":"publish","type":"post","link":"https:\/\/legalvision.co.uk\/startups\/fully-diluted-shares\/","title":{"rendered":"What are Fully Diluted Shares in the UK?"},"content":{"rendered":"\n

Fully diluted shares is a measure of how many outstanding shares your company has in issue following the conversion of any options into shares. It is a critical figure in startup financing because it is a way for investors to measure the value of their investment in the future. This article will consider fully diluted shares in more detail. <\/p>\n\n\n\n

What are Conversion Rights?<\/h2>\n\n\n\n

Fully diluted shares<\/a> are relevant when a company has an agreement with investors that gives them conversion rights<\/a>. Conversion rights typically arise from any convertible loan notes or preference shares financing. These financing arrangements give investors the right to convert some of the loan notes or preference shares to ordinary shares in the company.\u00a0<\/p>\n\n\n\n

Conversion rights exist to entice investors. Absent conversion rights, a debt investor cannot fully participate in a startup\u2019s profits if it later becomes successful. However, if the startup does not grow as expected, the investor can refuse to exercise their conversion rights. This preserves their initial investment and gives them downside protection. <\/p>\n\n\n\n

Conversion Rights and Diluted Shares<\/h2>\n\n\n\n

The effect of investors exercising their conversion rights is that it dilutes the existing share capital. The easiest way to appreciate the concept of fully diluted shares is to consider an example. <\/p>\n\n\n\n

YouCo Ltd: Case Study<\/h3>\n\n\n\n

Suppose YouCo Ltd currently has 100,000 \u00a31 shares issued to its founders. It has no other shares, nor does it have any outstanding conversion arrangements. However, it has approached a group of investors that are prepared to loan YouCo \u00a3250,000 in the form of convertible loan notes<\/a>.<\/p>\n\n\n\n

The terms of the convertible loan notes contain the following:<\/p>\n\n\n\n

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  1. Investors have the right to convert 25% of their loan notes to ordinary shares in advance of YouCo\u2019s next equity financing round. Each loan note is worth \u00a31, meaning there are 250,000 loan notes. <\/li>\n\n\n\n
  2. The conversion right entitles the investors to purchase shares at a 25% discount relative to future equity investors.<\/li>\n\n\n\n
  3. YouCo agrees to limit its valuation to no more than \u00a31m when calculating the conversion price for the convertible note holders. This means that if YouCo is valued at more than \u00a31m, the investors benefit from the lower valuation. <\/li>\n<\/ol>\n\n\n\n

    Additionally, YouCo has agreed to offer all its current employees options to purchase shares before its next equity financing. Under an employee share scheme<\/a> (ESS), it specifies that:<\/p>\n\n\n\n