For founders and employees at a unicorn-plus company, the equity conversation usually centers on valuation; that's an important number, yet a second useful question is how proceeds actually flow in a sale. Here's why.

Every time a startup raises a round, investors receive preferred stock, and preferred shareholders are paid before common shareholders in any sale or merger.

In most deals, all preferred investors are paid back at the same time on a pro-rata basis — the practical focus is the total preference amount, meaning how much has to be cleared collectively before any proceeds reach the common shareholders: founders, employees, or option holders.

Here's how that plays out at scale. Let's say a company raises $1.5B across its Series A through E, then sells for $2B. Preferred investors are returned their $1.5B first. The remaining $500M flows to everyone holding common stock, split by ownership percentage across founders, current and former employees with vested equity, and option holders.

[One thing worth noting: that split is based on fully diluted shares, which includes all granted options and the unallocated option pool reserved for future hires. An employee who holds 1% of the company on paper may own a smaller slice in practice once the full share count is factored in.]

The terms of each round add another variable.

🔹 Non-participating preferred: Investors choose between their preference amount or their pro-rata ownership stake, whichever is higher. They don't collect both. At a high enough exit price, investors will typically convert and take their percentage of total proceeds rather than their preference — which means in a strong exit, the preference stack can shrink or disappear even in a private sale.

🔹 Participating preferred: Investors receive their preference first, then also take their pro-rata share of whatever is left. A $300M investment at 12% ownership means $300M off the top, then 12% of the remaining $500M. Common shareholders split the rest.

The exit price at which common stock begins to see meaningful proceeds is sometimes called the exit hurdle. Knowing that number, and how it shifts across different sale prices, can be more useful than focusing on the valuation alone.

One structural point worth knowing: IPOs typically require preferred stock to convert to common, which removes the stack and distributes proceeds proportionally across all shareholders. Most conversions are triggered automatically only if the IPO clears a minimum price threshold — often a multiple of the last private round's price. A public offering that prices below that level may require separate negotiation to get preferred shareholders to convert. A private sale keeps original preferred terms intact regardless.

The waterfall model is a document that maps who gets paid, in what order, at what price. Requesting it before any liquidity event or new funding round, and running it across a range of exit prices, gives founders and employees a clear picture of where their equity stands.

For educational purposes only. Not tax, legal, or investment advice.