Anti-Dilution
Also known as: Anti-Dilution Protection, Dilution Adjustment, Weighted-Average Ratchet, Full Ratchet.
What is Anti-Dilution?
Anti-dilution is a contractual protection adjusting an investor's conversion or equity stake if the company issues shares below the investor's original subscription price. Common South African formulations include full-ratchet and weighted-average (broad-based or narrow-based), typically embedded in preference-share terms or the MOI under Section 15(7) of the Companies Act 71 of 2008.
Drafted and reviewed by
Attorney & Founder, My-Contracts.co.za · Legal Practice Council of South Africa (LPC F17333)
Definition and context
Anti-dilution protection adjusts the number of shares, or the conversion ratio, held by an investor when the company subsequently issues shares at a price below the investor's original subscription price — a so-called "down round". Without anti-dilution, investors bear the full economic consequence of a lower valuation even if the underlying business underperformance is temporary or caused by external shocks. Anti-dilution preserves the investor's economic position by retrospectively increasing their share count or adjusting the conversion price of a convertible instrument.
South African law does not provide statutory anti-dilution — it is a contractual protection created in preference-share rights, convertible-instrument terms, or the MOI under Section 15(7) of the Companies Act 71 of 2008. The two principal formulations are full-ratchet, where the investor's conversion price is reset to the lowest price at which new shares are issued (fully preserving their economic stake but heavily penalising founders and junior shareholders); and weighted-average, where the investor's conversion price is reduced by a formula reflecting both the magnitude and the size of the dilutive issue relative to the total issued capital. Weighted-average is subdivided into "broad-based" (uses all issued shares plus options in the denominator — least punitive) and "narrow-based" (uses only preferred shares or a narrower set — more punitive). Market practice in South African venture-capital transactions favours broad-based weighted-average.
Anti-dilution is distinct from pre-emptive rights (Section 39 of the Companies Act), which give existing shareholders the right to subscribe for new shares pro rata — pre-emption prevents dilution through participation, while anti-dilution compensates for dilution through formula adjustment. Both typically co-exist in venture term sheets. Drafters must address carve-outs (employee option pools, strategic issues at board discretion, IP-licence share consideration), pay-to-play provisions (investors losing anti-dilution if they fail to participate in down-rounds pro rata), and interaction with conversion mechanics and liquidation preferences.
Where this term lives in law
Companies Act 71 of 2008
Sections: 15(7), 36, 39
Governs the incorporation, governance, and winding-up of companies in South Africa.
Frequently asked questions
What is the difference between full-ratchet and weighted-average anti-dilution?
Full-ratchet resets the investor's conversion price to the lowest price of any subsequent issue, regardless of size — most punitive to founders. Weighted-average adjusts the conversion price by a formula that accounts for both the new issue price and its size relative to existing capital — less punitive. Broad-based weighted-average (using fully diluted share capital as denominator) is the market-standard compromise in South African venture transactions.
Is anti-dilution a statutory right in South Africa?
No. Anti-dilution must be contractually created in the MOI under Section 15(7) of the Companies Act 71 of 2008 or in preference-share rights attached to investor shares. Section 39 of the Companies Act creates a default pre-emptive right on new issues but does not create an anti-dilution adjustment. Anti-dilution and pre-emption are complementary but distinct protections.
Does anti-dilution apply to every new share issue?
No — typical drafting carves out employee share option pools (below a capped percentage), shares issued as consideration for acquisitions, shares issued to strategic partners with board approval, and shares issued under pre-existing convertible instruments. The protection is designed to fire on genuine dilutive capital raises below the investor's entry price, not routine corporate activity.
What is a "pay-to-play" anti-dilution clause?
A pay-to-play clause requires an investor to participate pro rata in any dilutive down-round in order to retain the benefit of their anti-dilution protection (and often their liquidation preference). Failure to participate converts their preferred shares to ordinary shares or reduces their anti-dilution to a narrower formulation. It ensures committed investors support the company through difficult funding rounds.
Contract templates using this term
2 templates reference Anti-Dilution.