Employee Option Pool Explained: Size, Timing, Dilution

An employee option pool is a reserved block of company shares set aside for future equity grants to employees, advisors and other key people. It matters because the pool counts toward fully diluted ownership the moment it is created, and investors usually require it to be created before their money comes in, so it dilutes the founders rather than the investor. Sizing it from a concrete hiring plan, rather than accepting a generic percentage, is one of the most direct ways founders can protect their stake in a funding round.

This article explains how pools work, how the pre-money "option pool shuffle" changes your effective valuation, and how to build a sizing estimate you can defend in a negotiation.

How an option pool works

When a company sets up an option plan, the board (and often the shareholders) approve a maximum number of shares that can be issued under the plan. Those shares are not given to anyone yet. They sit in the pool, which shows up on the cap table as its own row, usually split into:

• Granted options: promised to specific people, with a vesting schedule and an exercise price.
• Available (unallocated) options: still in reserve for future hires.
• Exercised options: converted into actual shares, at which point they move to the holder's row.

Employees typically receive options that vest over several years, often four years with a one-year cliff. When someone leaves, unvested options usually return to the pool. The plan documents define the details, and they vary by country and plan type.

Pre-money vs post-money pools

The timing of pool creation decides who pays for it. This is the most important concept in the whole topic.

Worked example

A hypothetical startup has 8,000,000 founder shares and no pool. An investor offers €1,500,000 at a €6,000,000 pre-money valuation, so the post-money valuation is €7,500,000 and the investor gets 20%. The term sheet asks for a 15% option pool.

Case A: the pool is created before the round (pre-money). The investor still ends up with exactly 20%, the pool is 15% of the post-money company, and the founders absorb the entire pool:

Holder	Ownership after round
Founders	65%
Option pool	15%
Investor	20%

Case B: the pool is created after the round (post-money). First the round happens (founders 80%, investor 20%), then the pool is added and dilutes both:

Holder	Ownership after round and pool
Founders	68% (80% × 0.85)
Option pool	15%
Investor	17% (20% × 0.85)

Case B costs the founders three percentage points less. That is why investors almost always ask for Case A: they want their ownership fixed regardless of the pool.

The effective pre-money valuation

In Case A, the headline pre-money valuation is €6,000,000, but part of that value is the new pool. The pool is worth 15% × €7,500,000 = €1,125,000. The founders' shares are therefore effectively valued at €6,000,000 − €1,125,000 = €4,875,000, which matches 65% of €7,500,000.

When comparing term sheets, compare the effective pre-money valuation, not the headline number. A higher headline valuation with a much larger required pool can leave founders worse off than a lower valuation with a smaller pool. For the underlying arithmetic, see pre-money vs post-money valuation.

You can test both cases with your own numbers in the funding dilution calculator, which models the pool as a percentage of post-money created before each round.

How big should the pool be?

You will hear ranges such as 10 to 20 percent for early rounds. Treat those as conversation starters, not benchmarks: what matters is how many grants you realistically need to make before the next financing, when the pool can be topped up again.

The strongest argument in a negotiation is a bottom-up plan.

Building a bottom-up estimate

1. List the hires you plan to make before your next round, typically over the next 18 to 24 months.
2. Assign an indicative grant to each role as a percentage of fully diluted shares. Base this on what you believe is needed to attract the people you want; ask your lawyer or experienced founders in your market for local norms.
3. Add advisors and board members if you plan to grant them equity.
4. Add a buffer for unplanned hires and retention grants.
5. Subtract grants already made from an existing pool.

Here is an illustrative plan. The grant sizes are made up for the example and are not market data:

Role	Count	Grant each (% fully diluted)	Total
Senior engineering lead	1	2.00%	2.00%
Senior engineers	3	0.75%	2.25%
Engineers	3	0.35%	1.05%
Head of sales	1	1.00%	1.00%
Sales and customer success	3	0.25%	0.75%
Product designer	1	0.50%	0.50%
Advisors	2	0.25%	0.50%
Planned grants			8.05%
Buffer for unplanned hires			1.95%
Pool requested			10.00%

If an investor asks for 15% and your plan supports 10%, you now have a concrete basis for the discussion. Investors may disagree with individual numbers, but the conversation moves from "standard" to "what do you actually need", which is where founders have leverage. The guide on first hires for a startup can help you build the hiring list itself.

Topping up the pool in later rounds

A pool sized for one round eventually runs low. At the next financing, the new investor will usually ask for the pool to be refreshed, again often before their money comes in. Each refresh dilutes existing shareholders, including earlier investors, which is why early investors sometimes push for a pool that is large enough to last.

This creates a trade-off for founders:

• Smaller pool now: less dilution today, but a top-up at the next round dilutes you then.
• Larger pool now: more dilution today, but it may be partly unused when the next round comes.

Unused options are not lost; they remain available. But dilution you accepted for an oversized pool does not come back. On balance, a well-reasoned plan with a modest buffer tends to be the cleanest position.

Options, RSUs and virtual shares

"Option pool" is a generic term. The instrument behind it depends on the country, the company form and tax rules:

• Stock options give the right to buy shares at a fixed exercise price. Common in the US and many other markets.
• Restricted shares or RSUs grant shares directly, sometimes subject to vesting.
• Virtual or phantom shares give a cash payment linked to the company's value at an exit, without real shares. They are widespread in some European countries, partly because issuing real shares can be administratively heavy there.

For modelling founder dilution, treat all of them as part of the fully diluted pool: in an exit, the payout to employees reduces what everyone else receives. For legal and tax treatment, which differs significantly between countries, work with a lawyer and tax adviser.

Negotiation checklist

• Prepare a bottom-up hiring plan that supports your proposed pool size.
• Ask whether the pool is calculated on a pre-money or post-money basis.
• Calculate the effective pre-money valuation for every term sheet you compare.
• Count existing unallocated options toward the required pool.
• Clarify whether convertibles that convert in the round are included in the fully diluted base.
• Agree on who approves grants and how grant sizes are decided.
• Model the next round's likely top-up so you see the full picture.

Common mistakes

Accepting the pool size without a plan. A generic percentage is easy to agree to and hard to undo.

Comparing headline valuations. As the example showed, a higher pre-money valuation with a larger pool can be worse for founders.

Granting too generously to early helpers. Large grants to advisors or the first one or two hires can empty the pool before the critical senior roles are filled.

Granting percentages instead of a number of options. Grants should state a fixed number of options. A percentage changes with every round and creates confusion.

Forgetting the pool in your own projections. Founders often model their ownership as "founders plus investors" and are surprised when the pool appears in the term sheet. Include it from the start.

Putting it into practice

Before your next fundraising conversation, write down your hiring plan, translate it into grant sizes, and run two or three scenarios in the dilution calculator: your proposed pool, the pool you expect investors to ask for, and one with a top-up at the following round. Seeing the difference in founder ownership makes it much easier to decide where to hold firm. To see how the pool fits into the bigger question of how much ownership to sell, read how much equity to give up in a seed round.