What is an option pool shuffle?
Written by For Founders Law, a Toronto firm licensed by the Law Society of Ontario. About us
Short answer
The option pool shuffle is when a term sheet requires the company to create or enlarge its employee option pool before the new money comes in, counting it in the pre-money valuation. The dilution from the pool then falls entirely on the existing shareholders, mostly founders, rather than being shared with the new investor. It lowers the effective pre-money valuation, so negotiate the pool size from a real hiring plan.
How does the shuffle work?
A term sheet might say: $8,000,000 pre-money valuation, $2,000,000 investment, and a 15% unallocated option pool on a post-money basis, included in the pre-money. The pool is created before the investment, so the investor’s price per share already reflects it. The investor gets its full 20% and the founders absorb the pool.
Can you show the numbers?
Founders hold 6,500,000 shares, with no existing pool.
| Pool in the pre-money | Pool created after the round | |
|---|---|---|
| Pool | 1,500,000 (15% post-money) | Created later, dilutes everyone |
| Price per share | $8,000,000 / 8,000,000 = $1.00 | $8,000,000 / 6,500,000 ≈ $1.23 |
| Investor shares for $2,000,000 | 2,000,000 (20%) | About 1,625,000, then diluted by the pool |
| Founders’ ownership after round | 65% | Higher; the pool is shared with the investor |
| Effective pre-money for founders’ shares | $6,500,000 | $8,000,000 |
In the first column, the headline is $8,000,000 but the founders’ existing shares are effectively valued at $6,500,000. The other $1,500,000 is the pool. Numbers are illustrative.
Why do investors ask for it?
They want enough options available to hire the team the round is paying for, without their ownership being diluted right after they invest. That’s a reasonable goal. The question is how big the pool needs to be.
How do founders negotiate it?
- Bring a hiring plan. Show who you’ll hire before the next round and the grants you expect to make. Size the pool to that, not to a round number.
- Count options already granted. Granted options and the existing unallocated pool may already cover much of the need.
- Negotiate the valuation and pool together. A higher headline with a large pool can be worth less than a lower headline with a smaller one.
- Ask for post-money treatment of part of the pool, so the investor shares the dilution.
Does the shuffle affect SAFE holders?
It can. Under Y Combinator’s post-money SAFE, the company capitalization used to convert SAFEs includes the existing unissued option pool. An increase to the pool made in connection with the priced round counts only to the extent it’s needed to cover options already promised beyond the existing pool. So most of a new pool increase generally isn’t borne by SAFE holders, which leaves more of it on founders, though the result depends on the exact SAFE and round terms. Model both on your cap table. See post-money vs pre-money SAFE.
What legal steps does a pool need?
The board adopts a stock option plan and reserves shares, usually with shareholder approval. Each grant then needs board approval and a grant agreement. Options issued to employees and consultants generally rely on the prospectus exemption in section 2.24 of National Instrument 45-106. Tax treatment for employees depends on section 7 of the Income Tax Act and whether the company is a CCPC. See how do I set up an employee option plan?
Our stock option plan work starts at $1,880. Term sheet review is quoted before work starts. Fees are in Canadian dollars and exclude HST; government filing fees and other disbursements are charged at cost. See fees.
This guide is general information about Ontario and Canadian law, not legal or financial advice for your situation. To model a term sheet’s pool, book a free 15-minute consult.