A cap table (also called capitalization table) is a spreadsheet specifically designed for a startup company that lists all the company’s securities such as:
- Common shares
- Preferred shares
- Convertible instruments
- Who owns these warrants?
- Prices paid by investors for these securities
It details the percentage of ownership and the value of securities of each investor. Cap tables are built in the early stages of a startup so everything is agreed and negotiated without any chance of dispute in the future (which goes beyond a typical partnership or collaboration contractual agreement since it speaks to very detailed numbers). As time flows, cap tables start getting more complex, this is where you’ll have to get the help of a professional.
Why Do You Need a Cap Table?
When an investor or a huge business firm is looking to invest in your startup or startup idea, most are interested in looking at your cap table so they can identify the owners and initial investors (if any) of the business. The number of owners and their equity directly affects their returns. This is why they take a deep look at your cap table before providing the seed funding. They look at 4 things in your cap table:
– Number of owners in your company
– Composition of their shares
– Value of securities issued by your company
– Potential of dilution of ownership
How Does it Get Complex?
In the early days of your startup, ownership seems pretty easy. You just wrap it by saying: “You get 50%, I get 50%”. That’s it. Seems ideal right? One could only hope your answer would be no!! Why? Because when those finances gets complex you have to:
– List the potential source of your funding and public offerings
– Track the equity dilution
– Manage your taxes
– Take care of compliance issues
– Account for all of the mergers and acquisitions
Now, are you sure you’d want to do all of that without a cap table, in addition to managing a company that you’re trying to build from the foundation up? A lot of startup founders indulge in this mess without a cap table and can’t figure their way out of failing business.
How to Make a Cap Table?
Most companies prefer making cap tables by using spreadsheets. No matter the medium, a cap table must be designed in a way that clearly defines all the shares owned by each investor. It can be simple, but it has to be organized. The most common way to make a cap table is to:
- List the name of the investors on the Y-axis.
- List the type of securities on the X-axis.
This layout is often used out of easiness; however, there is no fixed approach to making a cap table. You can try out different layouts according to your company’s demands and needs.
While making a cap table, you must keep in mind to include all the information necessary in the operation of your business. Even a single miscalculation can cause a lot of disputes and misunderstandings. A cap table must include:
1) The number of founders
2) Composition of shares owned by them.
3) Any preferred shares by the investor
4) All the stakeholders
5) All the employees receiving any special incentives
6) Any instruments issued by your company
7) Holders of these instruments
8) The names, classes, prices, and number of shares belonging to each of the security issued by the company
When Should You Update the Cap Table?
Your startup will not be restricted to a single source funding. With each coming phase of funding, you will have to update the cap table. This will be a regular process, requiring continuous attention. For instance, if you want to use the new funding to increase the shares of a security, you will also have to update it on the cap table. This isn’t the only instance where you’ll need it. Other such instances include:
– Transfer of shares
– The exit of a shareholder
– Varying the stock options for employees
– Termination of an employee
– Retirement of an employee
An updated table can help you to make the right business decisions on time, and can save you a lot of time when it comes to making those decisions because all of the business details are immediately available (especially when a Waterfall Analysis is needed).
What is the Waterfall Analysis?
Waterfall analysis tells us the amount of money each shareholder will receive, in case of a liquidity scenario. Investors like to have peace of mind before they invest. So, they ask for a waterfall analysis which tells them the amount of money they will receive if everything goes “belly up” and the company is sold.
This analysis is done with the help of a waterfall chart, which shows us how a specific value changes after being affected by varying factors. It details the factors that would help increase or decrease the value of the company.
It doesn’t matter where you are in the startup business, be it the initial stages or the investment periods, you always want to manipulate your cap tables timely and efficiently.
If you think you can go all the way by yourself, then give yourself a huge round of applause because it’s a pretty inhuman feat while managing a business. But if complex structures and spreadsheets scare you, then it’s better to not risk your business and get yourself a professional who not only understands cap tables, but can build an efficient one that can grow as your business does.