In a preferred stock financing, there are three typical methods by which the price per share of the new preferred stock is determined, the “pre-money method,” the “percentage-ownership method” and the “dollars-invested method”. They yield different results if convertible notes are converting at a discount or the transaction involves the company using proceeds from the financing to buy back stock.
Using the “dollars-invested method”, the price per share of the new preferred stock is calculated by dividing the agreed-upon pre-money valuation by the fully-diluted shares outstanding at the closing, excluding only the shares of new preferred stock to be sold for cash at the closing. This method is the most favorable to investors, in that it causes the dilution associated with convertible notes issued prior to closing to be borne by the existing stockholders and not the new investors. See also “pre-money method” and “percentage-ownership method”