What is a liquidation preference?

A term used in venture capital contracts to specify which investors get paid first and how much they get paid in the event of a liquidation event such as the sale of the company. Liquidation preference protects investors by making sure they get their initial investments back before other parties. If the company is sold at a profit, the liquidation preference can also help investors be first in line to claim part of the profits. It is typical for preferred stockholders to be repaid before holders of common stock and before the company's original owners and employees.