The Ratchet Clause: What It Means and How to Negotiate It (2026)

What is a ratchet clause? A ratchet clause is an anti-dilution term that adjusts an investor's effective purchase or conversion price if the company later issues shares at a lower price than the investor paid. If a down round happens, the clause lowers the investor's conversion price. Because preferred shares convert into common shares based on that price, a lower conversion price means the investor gets more common shares, which protects their stake against the fall in value. In short, a ratchet protects an investor from paying a high price now and being diluted later by a cheaper round. It only bites in a down round, that is, when the company raises at a lower price than before. It does not reward investors in an up round. This article is general guidance, not legal or financial advice. Ratchet terms interact with the rest of a cap table and can have large effects, so have a qualified lawyer and adviser review any real term sheet. ## The two main kinds of ratchet Full ratchet. The investor's conversion price is reset all the way down to the new, lower price, regardless of how many shares the down round issues. The size of the down round does not matter. If Series A was priced at 10 per share and a later round is priced at 5, a full ratchet resets the Series A conversion price to 5. Even a small, cheap issue can reprice an entire earlier round. Full ratchet is the most aggressive form and, in competitive markets, it is now relatively rare. Last verified October 2026. Weighted average. The conversion price is adjusted only in proportion to how big the down round is relative to the existing share base. The result sits between the old price and the new price. It comes in two forms: - Broad-based counts all shares, options and warrants in the formula, which produces a gentler adjustment and favours the company. This is the common market standard.

• Narrow-based counts a smaller pool, producing a bigger adjustment in the investor's favour. There are also in-between versions, sometimes called half ratchets or partial ratchets, which soften a full ratchet without going all the way to weighted average. ## Why founders care so much A full ratchet can move a large slice of ownership from founders and employees to an investor without the investor paying anything extra. One worked example cited by practitioners showed a full ratchet transferring around 10 percent of a company from founders to an early investor after a down round, for no additional value. When several investors hold ratchets, the effect compounds across the cap table. That is why the choice between full ratchet and weighted average is one of the most fought points in a term sheet, even though it only matters if the company later stumbles. ## Sample ratchet (anti-dilution) clause The block below is illustrative drafting, not a precedent for a specific deal. ``` ANTI-DILUTION (RATCHET) 1. If the Company issues Equity Securities at a price per share lower than the Conversion Price then in effect for the [Series A] Preferred Shares (a "Down Round Issue"), the Conversion Price shall be adjusted under clause 2 or clause 3, as selected below. 2. [Full ratchet] The Conversion Price shall be reduced to the price per share at which the Down Round Issue is made. 3. [Broad-based weighted average] The Conversion Price shall be adjusted to: CP2 = CP1 x (A + B) / (A + C) where: CP1 = Conversion Price before the Down Round Issue A = all shares outstanding on a fully diluted basis before the Down Round Issue (including options and warrants) B = the total consideration received, divided by CP1 C = the number of new shares actually issued in the Down Round Issue 4. No adjustment is made for shares issued under an approved employee option pool, on a conversion of existing securities, or in a merger or acquisition. 5. [Sunset] The full ratchet in clause 2 ceases to apply [24] months after [the date of this round] or on completion of a financing at a price per share at or above [the original issue price], whichever is earlier.

- **Full versus weighted average (clauses 2 and 3).** This is the whole negotiation. Weighted average, broad-based, is the gentler, more common choice.
- **Exclusions (clause 4).** Carve out option pools, conversions and M&A, so ordinary events do not trigger the ratchet.
- **The sunset (clause 5).** A sunset that ends full ratchet after a period, or once the company raises at a healthy price again, is a common compromise that limits the damage. ## Negotiation points for founders - Counter a full ratchet with broad-based weighted average, which is market standard and far less punishing.
- If you must accept a full ratchet, negotiate a sunset and a narrow set of triggers.
- Make sure the option pool, conversions and M&A are excluded from the trigger.
- Model the entire cap table after a hypothetical down round before you sign, because ratchets interact across rounds.
- Get counsel to check how each series' anti-dilution terms stack on the others. ## Negotiation points for investors - Weighted average still gives real protection in a down round, usually without wrecking founder incentives.
- A full ratchet can so demotivate founders that it harms the investment, so weigh protection against alignment.
- Pair anti-dilution with a pay-to-play, so investors who want the protection have to keep backing the company.
- Keep the broad-based formula if you want the company to stay fundable in later rounds. ## Common mistakes to avoid - Accepting a full ratchet without a sunset or clear exclusions.
- Forgetting to exclude the option pool, so a routine top-up triggers the ratchet.
- Not modelling the compounding effect when several investors hold ratchets.
- Confusing broad-based and narrow-based weighted average, which produce different results.
- Signing before counsel has checked how the ratchet interacts with liquidation preferences and other terms. ## A note on jurisdiction Ratchet clauses are contractual, but they live in a company's charter and shareholders' or investment agreement, and what is enforceable varies by jurisdiction. In the United States these terms sit in the certificate of incorporation, often based on familiar model documents. In India anti-dilution sits in the articles of association and the shareholders' agreement, and share issues and conversions engage the Companies Act, 2013 and pricing rules, with extra steps where a foreign investor is involved. In the UK, Ireland, Singapore and Australia the mechanics differ again. Treat "varies by jurisdiction" as the rule and confirm locally. ## Modelling and tracking terms that stack A ratchet clause is quick to write and slow to understand, because its real effect only appears when you model a down round across the whole cap table and see how it stacks with liquidation preferences and other investors' rights. The ongoing work is keeping every anti-dilution term in view and knowing, before you sign the next round, how the terms you already have will behave. That ongoing work is the idea behind an AI contract workspace. It can hold your financing documents as linked clauses rather than flat text, surface every anti-dilution and preference term and show whether a clause sits favourable, neutral or unfavourable to your side, let you edit wording in plain English with a clean diff, and keep a live record of who changed what. Tools such as [Adira](https://adiralaw.com) are built around that single-workspace idea, tuned to how your company contracts. The guidance above is enough to understand and negotiate a ratchet clause on its own; a workspace simply keeps drafting, review and version control as one connected job.