Why Your 409A Is Always Lower Than Your VC Valuation (And Why That's Good)

"We raised at $20M but our 409A says $2 per share?"

This is one of the most common questions founders have after receiving their post-round 409A. The numbers seem contradictory. They're not — they're measuring fundamentally different things.

Your fundraising valuation is the price that sophisticated investors paid for preferred stock. That preferred stock comes with specific economic rights that make it more valuable per share than common: liquidation preferences (preferred gets paid first in an exit), anti-dilution protections (if you raise a down round, preferred holders get additional shares to compensate), board representation, information rights, and often participation rights (a share of the upside above the preference).

Your 409A values common stock — which has none of those protections. Under Revenue Ruling 59-60↗, fair market value is the price at which property would change hands between a willing buyer and a willing seller, both with reasonable knowledge of the relevant facts. A willing buyer, knowing that common stock sits below preferred in the liquidation waterfall and can't be freely traded, pays less.

Both numbers are correct. Both are defensible. They describe different securities with different risk profiles and different economic rights.

Three layers of discount between preferred and common

The gap between your preferred stock price and your common stock FMV comes from three distinct factors, each documented in the AICPA Valuation Guide↗:

Layer 1: The equity allocation. In the Option Pricing Model used for the backsolve, common stock sits below preferred in the payoff waterfall. Preferred gets its liquidation preference before common receives anything. If your company has a $10M liquidation preference stack and exits at $15M, preferred gets $10M first — common splits the remaining $5M. At a $10M exit, common gets nothing. This asymmetry means common stock is worth less per share, especially at lower enterprise values.

Layer 2: Discount for Lack of Marketability (DLOM). Your common stock can't be sold on an exchange. There's no public market, no liquidity, and significant transfer restrictions. The DLOM — typically 15–35% for venture-backed startups — reflects this illiquidity. It's quantified using financial models (Finnerty put option model, protective put method, or restricted stock studies), not guessed. A higher DLOM means a lower per-share value.

Layer 3: Minority interest. Common shareholders typically lack the control rights that preferred holders exercise: board seats, veto rights over major transactions, approval rights over new share issuances. While not always modeled as a separate discount in 409A work (it's often captured implicitly in the OPM allocation), it's a conceptual factor that explains why common is worth less.

A concrete example

Your company raises a Series A at $30M post-money. Investors paid $5.00 per share for preferred stock.

The appraiser runs the backsolve: total equity value is calibrated to make preferred worth $5.00/share. In the OPM allocation, common stock (which sits below the preference stack) is allocated value — say, $4.50 per share before discounts.

Then the DLOM is applied. At 25%, the $4.50 becomes $3.38 per share.

Your 409A concludes FMV at $3.38 per share. Your investors paid $5.00. The ratio — roughly 68% — is typical for Series A. Earlier-stage companies often see ratios of 20–40% because the preference stack represents a larger share of the enterprise value.

Why the gap is actually good for employees

A lower 409A means a lower strike price. A lower strike price means more upside.

Consider two employees joining the same company at the same time. Employee A receives options with a $3.38 strike. Employee B, hypothetically, receives options at $5.00 (the preferred price). If the company exits at $20/share, Employee A's gain is $16.62 per share. Employee B's gain is $15.00 per share. Employee A made 11% more per share — on every single option — purely because the 409A properly valued common stock below the preferred price.

The 409A discount isn't a problem. It's a feature of how private company equity works. Early employees benefit from lower strike prices. The methodology protects this benefit by correctly valuing common stock as a different (and less protected) security than preferred. (See 409A Valuation Explained for the full methodology overview.)

Communicating the gap to your team and board

Founders sometimes worry about explaining the gap to employees or board members who don't understand valuation methodology. Two framing tools help:

For employees: "Our investors paid $5.00 per share for preferred stock, which comes with special protections that your common stock doesn't have. That's why your strike price is lower — and that's good for you. A $3.38 strike price means you make more money per share when the company exits."

For board members: "The 409A correctly values common stock below preferred based on the equity allocation, marketability discount, and minority interest factors. The ratio of common to preferred FMV is within the standard range for our stage. The methodology is AICPA-aligned and defensible."

If a board member or employee asks "why isn't our 409A higher?" — the right answer is that a higher 409A would mean a higher strike price for employees, which means less upside for the people you're trying to attract and retain. The 409A methodology exists to get the number right, not to get it high.

Express 409A delivers the FMV determination with full methodology documentation — so you can explain the gap to your team, your board, and your investors with confidence. Every report is dual-purpose (IRC §409A + ASC 718) and includes lifetime audit support.

See how Express 409A works →