Dilution

Dilution is a reduction in the ownership percentage of a share of stock caused by the issuance of new stock. Dilution can also occur when holders of stock options (such as company employees) or holders of other optionable securities exercise their options. When the number of shares outstanding increases, each existing stockholder will own a smaller, or diluted, percentage of the company, making each share less valuable. Dilution also reduces the value of existing shares by reducing the stock’s earnings per share.

Suppose a company has issued 100 shares to 100 unique stockholders. Each stockholder owns 1% of the company. If the company then has a secondary offering and issues 100 new shares to 100 more unique stakeholders, each stakeholder will only own 0.5% of the company. The smaller ownership percentage also diminishes each investor’s voting power.

Share dilution may be imminent any time a company needs additional capital. The potential upside of share dilution is that the additional capital the company receives from issuing additional shares can improve the company’s profitability and the value of its stock.

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Glossary: Full Ratchet Anti-Dilution Protection
A type of anti-dilution protection for preferred stock in the event of a down round of series financing that adjusts the number of common shares the preferred shares can be converted into based on the new share price.
Glossary: Broad-Based Weighted-Average Anti-Dilution Protection
Provisions in a company's certificate of incorporation that increase the number of shares of common stock into which preferred stock when the company sells stock at a lower price.