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Broad-Based vs. Narrow-Based Weighted Averaged Calculation
There are two primary variations of the weighted average formula depending on what constitutes “common outstanding” in the above formula. The first, and more common, is referred to as “broad-based, weighted average” while the second is referred to as “narrow-based, weighted average.” The broad-based weighted average formula calculation of “common outstanding” is commonly referred to as “fully-diluted capitalization”. This typically includes:
- all outstanding common stock,
- all outstanding preferred stock (on a converted to common basis),
- outstanding warrants (on an as exercised and as converted to common basis),
- outstanding options,
- options reserved for future grant, and
- any other convertible securities on an as converted to common basis.
The purpose behind this definition is to include all shares that are already subject to issuance. Authorized, but unissued, stock is not counted in the fully-diluted, capitalization number. The effect of including the additional shares in the broad-based formula reduces the magnitude of the anti-dilution adjustment given to holders of preferred stock as compared to the narrow-based formula.
The narrow-based, anti-dilution formula, in contrast, only includes the common stock issuable upon conversion of the particular series of shares of preferred stock in question. As an alternative, parties sometime negotiate versions of the narrow-based formula that includes the common stock issuable upon conversion of all shares of preferred stock outstanding in the common outstanding figure. The narrow-based formula provides a greater number of additional shares of common stock to be issued to the holders of preferred stock upon conversion than under the broad-based formula. The extent of the difference between the two formulas depends upon the size and relative pricing of the dilutive financing as well as the number of shares of preferred stock and common stock outstanding.