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Waterfall Analysis

A type of quantitative assessment used in finance to evaluate investment liquidation outcomes (how money will be distributed). In the context of equity compensation, a waterfall analysis measures the distribution of money to investors, executives, and employees at a privately held company preparing for a liquidity event (e.g. an acquisition). It factors in the special rights of preferred stock investors and considers who has priority in the distribution hierarchy. For example, a waterfall analysis may show that early angel investors and venture capital firms will gain a special return on their investment before employees receive anything for their shares.

For more on the importance of investor liquidation preferences in equity grants at privately held companies, see the article Negotiating And Structuring Your Stock Compensation (Part 2): Privately Held Companies elsewhere on this website.

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