What it means
A warrant sits very close to a share option, and the two are often confused in conversation. The practical difference is who gets them and where the shares come from: options usually go to employees from a reserved pool, while warrants usually go to lenders, investors or partners and create fresh shares on exercise.
For a business, a warrant is a way to make a deal more attractive without spending cash today. A lender might accept a lower interest rate in exchange for warrants over 2% of the company, betting that the equity upside will more than compensate for the forgone interest.
Every warrant sets out three things: an exercise price (the fixed price per share), the number of shares it covers, and an expiry date. A holder will only exercise if the share price is above the exercise price, because otherwise they could simply buy the shares more cheaply elsewhere.
The nuance that catches finance teams out is the accounting treatment. Some warrants are classified as equity and sit quietly in reserves, while others count as liabilities and must be revalued at every reporting date, which pushes swings of gain and loss through the profit and loss account.
Warrants also need to be tracked on the capitalisation table long before anyone exercises them. If they are left out of a fully diluted calculation, the founders' ownership percentages in a board pack will be quietly overstated, and that misunderstanding tends to surface at the worst possible moment during a sale process.
In practice
Real-world examples
Example 1
A hardware startup borrows $1,500,000 from a specialist lender at 9% instead of 14%, and grants the lender warrants over 60,000 shares at $5.00 each. The cheaper interest saves roughly $75,000 a year, and the lender takes the equity upside as the real prize.
Example 2
A property developer cannot pay a main contractor in full during a slow quarter, so it settles part of the bill with warrants over shares in the development company. The contractor accepts because the exercise price is set below the expected value once the scheme completes.
Example 3
A listed mining company raises money by selling units, each made up of one share plus half a warrant exercisable at a 30% premium to the placing price. Investors get a free second bite if the drilling results are good, and the company gets its cash immediately.
Think of it
A warrant is like putting down a deposit on a house today with a guaranteed price lock for five years. If local property values skyrocket, you exercise your right to buy at the old price. If prices drop, you walk away and lose only your small deposit.
Formula
Calculation
Intrinsic value of a warrant = (Share price - Exercise price) x Number of shares under warrant.
A venture debt lender provides a $2,000,000 facility to a software business and receives warrants over 100,000 shares at an exercise price of $12.00. Two years later the company raises a round at $20.00 per share. Intrinsic value = ($20.00 - $12.00) x 100,000 = $8.00 x 100,000 = $800,000. To collect that value the lender must first pay the exercise price: $12.00 x 100,000 = $1,200,000 of cash into the company. If 4,000,000 shares were outstanding beforehand, exercise lifts the count to 4,100,000, and the lender ends up holding 100,000 / 4,100,000, or about 2.4% of the company.Case study
Seen in the real world
This is an illustrative, entirely fictional example. Northwind Ceramics, a mid-sized manufacturer, needed $3,000,000 to install a new kiln line but did not want to sell equity at what the founders thought was a depressed valuation. A specialist lender offered a four-year loan at 8% plus warrants over 150,000 shares at $10.00, exercisable any time before the loan matured.
Three years later Northwind won a large contract, profits doubled, and an independent valuation put the shares at $26.00. The lender exercised, paying $1,500,000 into the company and taking shares worth $3,900,000 at that valuation, a paper gain of $2,400,000. The founders grumbled, but the finance director pointed out that the warrant had saved roughly $180,000 of interest over the term, since the only warrant-free quote on the table had been 9.5% rather than 8% and had let them keep full control during the years when the outcome was still uncertain.
Watch out
Common mistakes
- Treating a warrant as free because no cash changes hands when it is granted. The cost is real, it just arrives later as dilution, and it should be modelled in the capitalisation table from day one.
- Assuming every warrant is accounted for as equity. Warrants with cash settlement features or variable exercise prices are often liabilities and must be remeasured at each reporting date.
- Quoting ownership percentages on a basic share count when material warrants are outstanding. Fully diluted figures are the honest basis for any negotiation.
Questions
People also ask
What happens if a warrant expires without being exercised?
Nothing is paid, the right simply lapses, and any liability recorded for it is released back through the profit and loss account.
Can a warrant have an exercise price above the current share price?
Yes, and that is common at grant; the warrant only has value if the share price rises above that level before expiry.
Are warrants and convertible notes the same thing?
No, a convertible note is debt that turns into shares, whereas a warrant is a standalone right to buy shares for cash at a fixed price.