Thomas Reiner discusses dilution and stock-based compensation concerning analyzing and measuring dilution at public companies in this email newsletter.
The article “Tech Company Dilution: Finding Ground Truth” from Platform Aeronaut provides an in-depth analysis of equity dilution in technology companies, emphasizing the importance of accurately measuring dilution to assess its impact on long-term shareholder value.
Key Points:
Understanding and accurately measuring dilution is crucial for investors and stakeholders to evaluate a company’s financial health and the potential long-term impact on shareholder value.
- Significance of Dilution: Equity dilution, often resulting from stock-based compensation (SBC), can significantly affect shareholders. For instance, a company with a 9% annual dilution rate would need to double its market capitalization over eight years just to maintain its stock price.
- Measurement Methodologies:
- Forward Dilution Method: This approach examines net grants of options and restricted stock units (RSUs) relative to the company’s common shares outstanding. It provides insight into future dilution but may not reflect the current impact, as many granted shares vest over several years.
- Trailing Dilution Method: This method assesses options and RSUs that have been exercised against the common shares outstanding at the beginning of a period. It offers a realistic view of current dilution but doesn’t account for future grants or potential dilution.
- Comprehensive Analysis: The article suggests that averaging the forward and trailing dilution methods yields a more accurate picture of a company’s dilution. For example, Uber’s analysis indicates that a decrease in forward dilution, due to reduced grants, may lead to lower overall dilution levels in the future.
- Industry Comparison: The article highlights that while some tech giants like Microsoft, Apple, and Netflix maintain dilution rates below 1%, others, particularly mid-cap software and internet companies, experience higher rates, with some exceeding 5%.
