Ratchet Provisions Redistribute IPO Value
The Privately-Traded Company: The $225 Billion Market for Pre-IPO Liquidity
A ratchet shifts downside risk from the new investor onto everyone else on the cap table. In practice, it means the investor bought preferred shares with a promise that if the IPO cleared below a preset return, the company would issue more shares to top them up. Square’s late stage Series E investors got that protection, so when the IPO priced at $9 instead of above the threshold, they were made whole with extra stock and the dilution landed on common holders and earlier preferred investors.
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This is economically similar to an insurance policy baked into the financing. The investor pays a high private price, but if the public market rejects that price, the company compensates them with additional shares. Fortune reported that Square’s Series E holders received extra stock because the IPO priced well below their late round entry price.
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The cap table effect can be huge because the makeup shares are issued right when the company goes public. In Square’s case, the document shows 10.3 million extra shares were issued, worth about $93 million at the $9 IPO price, lifting those investors’ total holdings to about $180 million.
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The sharp contrast is between investors with the clause and investors without it. The same document notes that other investors who bought at the Series E price without the ratchet, and Series D investors as well, lost money in the IPO. So the clause did not create value, it redistributed value across shareholder groups.
As private companies stay private longer and raise larger late stage rounds, ratchets remain one of the clearest signs that the headline valuation and the real economic deal can diverge. The more common structured terms become, the more carefully employees, founders, and secondary buyers will need to read who is actually protected when a company finally prices into the public market.