So you just launched your startup and are on the verge of heading out in search of investors. You have checked all other agendas on your post-incorporation calendar and it’s now time to create your Cap Table (Capitalization Table).
A Cap Table is a table that lists all of your business’s shareholders and lays out what each shareholder owns, how much they own, and the value assigned to the stock they own.
Cap Tables are awfully important for numerous reasons as we shall see a little later in the article.
But one of the most important roles they play is that they help investors understand what they’re buying. At the same time, they help shareholders (such as yourself) keep track of their stake in the Company.
In the beginning it was easy to determine the ownership share of your Company, right?
For example, if you were four founders, it was as simple saying, ‘Each founder owns 25 percent of the company.
At this stage, your Cap Tables is relatively simple and requires very few elements to describe the ownership structure. It will be something as simple as this:
However, as your Company grows and you start to raise funds from family, friends, angel investors, VCs,… your Cap Table gradually grows more complex and you may eventually wind up with a Cap Table much like this:
|Shareholder||Common||Seed I||Seed II||Options||Total||Fully Diluted|
Or something even more complex like the Cap Table from Facebook:
Now you may be thinking,’ That’s well and good, but do I need a Cap Table all that much?’ ‘Is it that important?’
Let’s find out.
Cap Table: A Vital Part of your Arsenal
A Cap Table is the only business record (yes the ONLY) that lays out who owns what in a Company.
The importance of a Cap Table cannot be overestimated. There are many compelling reasons why a Cap Table is a vital part of your Company’s arsenal, but the five most prominent reasons are these:
Makes Company Ownership Transparent
Let’ start with the most obvious reason.
We have mentioned that a Cap Table helps you keep track of who owns what in your Company.
Your Cap Table will enable you to track how the percentages and values of equity change over time.
That is; you will be able to identify the changes in equity percentages for each owner as well as their value between each funding round (e.g. seed round, series A, series B).
Keeping track of ownership allocation has numerous implications on the management of your Company.
And this brings us to our next point.
Clarifies Voting RIghts
With a Cap Table, it is clear to see which stakeholders have voting rights, what their voting powers are, and who doesn’t have any voting privileges.
For example, preferred shareholders have a dividend that must be paid out before dividends of common shareholders but they usually carry no voting rights.
So, keeping a Cap Table will enable you to determine, ‘Which stakeholders make up the voting bloc in my Company?’ ‘Who do I need to convince to make 75% and push this vote through?’
Just open your Cap Table and voila! All the answers are right there. What are the odds?
It’s Required For Startup Fundraising
A Cap Table will also be a topic of concern whenever you approach investors. Investors will want to know, ‘Who has invested in the Company before?’ ‘Who owns what?’
If you don’t have these outlined, such questions will be an unnecessary cause of stress. You will find yourself in a last minute rush to get your numbers right.
Your Employees Want to Know, So You Can Hire and Retain Them
ESOs (Employee Stock Options) are stock options granted to employees, especially at the early stages of a Company, as part of their compensation.
They offer the holders the right to buy a certain amount of shares at a specific price over a certain period. They are basically an incentive to keep your employees with you; offering them a sweet deal in exchange for their loyalty.
ESOs are different from exchange-traded options because they are not traded between investors. But they are nonetheless recorded in the Cap Table. See:
|Securities||Number of Shares||Fully Diluted Basis (%)||Issue Price/Strike Price||Liquidation Preferences|
|Common stock (Founders)||1,200,000||55%|
|ESOP Pool- Granted||500,000||22.7%||0.5|
Helps You Know Your Potential Cash Return at a Future Exit
An updated Cap Table indicates the current monetary value of your company as well as the value of your stake.
This allows you to keep track, at all times, of the size of the check you will receive upon the successful exit of your company; ensuring that you are not washed out of your own Company in the end.
Is there an Ideal Cap Table? What Elements to Include?
There’s really no right way to format a Cap Table. So, no matter the format, a good Cap should indicate:
- Who invested in the Company.
- How much they invested.
- How many shares they own.
- How their ownership percentage translates into actual equity. How much it’s worth fully diluted.
So let’s delve into a little more detail on what your Cap Table should actually look like:
General Layout of a Cap Table
A Cap Table is normally laid out in an Excel spreadsheet. The names of the founders and shareholders are typically in the left column sequenced top to bottom from the earliest to the most recent.
The shareholder names are separated by rows in order to clarify what kind of investor they are. Their capital contributions and equity shares are recorded in the subsequent columns to the right.
At the very least, your column headers should specify the following:
- Shareholder Names (including a new investors).
- Form of security.
- Number of shares.
- Ownership percentage of each shareholder (fully diluted).
The best practice when preparing or updating your Cap Table is to display it at its ‘fully diluted state’. That is, the state where all options, warrants, convertible securities, and other instruments used to acquire stock have been accounted for.
Presenting your Cap Table in its fully diluted state is the most transparent way to show investors potential ownership. The layout should generally look something like this.
Source: AVC. ‘MBA Mondays: Cap Tables’.
Managing your Cap Table becomes more chaotic as you bring on more investors. Getting the layout right from the get-go saves you a lot of confusion in future.
To keep your Cap Table up to date, adjustments should be made whenever there are changes to the number of outstanding shares or when shares change ownership.
Some of the events that will provoke changes to your Cap Table are:
- When shares of an existing security are sold or when shares are issued for a new security.
- When options are granted to employees or advisors. For example, ESOs.
- When options are terminated due to an employee’s departure or when they expire unexercised.
- When there is an increase in the size of the option pool.
- When an investor exercises vested options.
- When an investor redeems shares back to the Company, transfers, or sells shares.
Basic Calculations You Might Need to Do
Angel investors and venture capitalists do their calculations in a very specific manner.
Here are some of the basic standard formulas you will mainly apply in your Cap Table.
- Pre-money valuation / Fully-diluted shares = Price per share.
- Investment / share price = number of shares to investor(s).
- Pre-money valuation + investment = post-money valuation.
Common Shares/Common Stock
In your Cap Table, you’re going to have a section for common shares/stock.
Common shares or common stock refer to securities representing part ownership of your Company and generally carry voting rights.
Holders of common shares are normally the founders. But it may sometimes include some employees and advisors.
The common share column of you Cap Table will appear much like this.
|Name||Common||Preferred A||Preferred A Warrants||Options||Total|
You should also allocate a section for stock options.
A stock option refers to a privilege issued by one party to another to buy or sell stock at predetermined price within a certain period of time. For example the ESOs we mentioned above.
They are normally unaffected by the injection of new investors and are therefore recorded separately in your Cap Table.
Note however, that options have an expiry period that will range anywhere between a few weeks to a few months. Longer dated options are more likely to be illiquid.
Here’s a visual example of Options in a Cap Table.
|Common Stock||Angel Round – Preferred Stock||Ownership on a Fully Diluted Basis|
These are sometime confusing to entrepreneurs because it’s unclear what the difference between options and warrants is.
A warrant is an option to buy common shares in your company at some point in the future at a fixed price.
Warrants normally have longer maturity and expiry periods in comparison to options. They are normally issued by companies when entering lease agreements, debt etc.
So while not always present, you may find yourself requiring a ‘warrants’ column on your cap table.
Preferred Shares/Preferred Stock
When you start inviting investors, whether they are friends/family, angel investors, or VCs, in all likelihood they will insist that they have preferred shares in your Company.
The difference between preferred and common stock is exactly as it sounds; preferred stock has preference over common stock.
This preference generally implies an advantage when the company is sold or liquidated; Preferred stock holders get their money back prior to common stock holders.
|Name of Shareholder||Common Shares||Preferred Shares||Class C Shares||Total||%|
|Stock Option Plan Reserved||310k||310k||14.03%|
When you raise money from family and friends or even from angel investors, as opposed to creating preferred stock, you may choose to create convertible notes.
Convertible notes are a debt instrument that is convertible into equity. So it’s a great way to raise money from family and friends.
The whole logic behind convertible notes is that, ‘I don’t know exactly how to value of your company now, but I know I want to be part of it once a bigger investor comes into your company.
At that point I want my investment in you Company to convert on equal or better terms as that of the investor’.
These should also be recorded in you Cap Table for transparency purposes.
Generally, your Company’s unique transactions will determine which elements comprise your Cap Table.
One Company’s Cap Table can look totally different from another one. Regardless, your Cap Table should always be presented in its fully diluted state.
Movinga Case Study: Example of A Real-Life Cap Table over Time
The purpose of this section is to show you the gradual development of a Cap Table and how the injection of different investors progressively affects equity shares and valuations for Company stakeholders.
And for this purpose we are going to use a simple 2016 Movinga Cap Table.
|Founders||Seed||Series A||Series B|
|–||Unspecified||€6 Million||€25 Million|
|Felix und Florian Swoboda||6,88%||5,22%||4,53%||2,52%|
|Michael Schrezenmaier u.a.||–||0,04%||0,04%||0,03%|
|Global Founders Capital||–||–||9,44%||9,36%|
In the beginning you can see four founders invested mainly sweat equity in the company, collectively owning 100% of Movinga.
However, as the Company grew and founders sought Seed funding. 15 Business Angels invested in the Company, each Angel claiming a small equity percentage. Collectively, the Angels claimed 8.78% equity. One VC, Earlybird, also invested at this stage and wound up with 19.62% equity. At the end of that round, the founders had their equity collectively diluted from 100% to 71.60%.
The startup needed more funding and in their Series A round, the same group of Angels participated, bringing their collective equity to 8.89%. In the VC corner, Earlybird and a new investor (Global Founders Capital) participated, rising their collective equity share to 28.5%. In this round the founders’ equity was collectively diluted from 71.60% to 62.17%.
In the Series C round, two new Business Angels joined in. Angels’ investments in this round collectively raised their equity to 9.51%. The two VCs from the previous round participated alongside a new VC (Index Ventures). They collectively raised their equity from 28.5% to 45.34%. Note also that two Movinga employees participated in this round; each claiming 0.02% equity.
After this round, the Movinga team was left with 45.15% equity of the Company.
As you can see, by using a Cap Table, Movinga stakeholders are able to observe how each individual’s equity share is affected by the progressive participation of investors. They are able to keep track of who owns what in the Company and who is really in control at all moments.
In the same way, your Cap table will keep you aware and enable you predict future outcomes. It will enable you to make informed critical decisions and come to some crucial conclusions on your Company.
Your Cap Table will help you answer questions like,
- Should I accept another round of funding’ ‘Is it time to exit?
- How much will I get upon exit?
- Who really owns the Company?
- Which group has voting power?
- Do my fellow founders and I stand a chance of losing control of the Company?
Quick Summary and Some Tips on Creating Your Startup’s Cap Table
Your Cap Table will definitely be requested by investors who will use it to make critical decisions on their investment. It will also enable you to keep track of real-time equity shares and make critical investment and management decisions.
For example, Lane Becker, founder of GetSatisfaction a $50 million dollar startup along with his fellow founders, got absolutely nothing after the company’s exit. Becker and his fellow founders rejected acquisition offers in favor of a $10 million funding and ended up losing control of the company.
I’m not saying Becker and the team lost control because they didn’t have a proper Cap Table. All I’m saying is that an up-to-date Cap Table may just enable you to foresee similar outcomes and make decisions that won’t get you screwed.
Some takeaways for your Cap Table:
Keep your Table Organized and Up to Date at all times. A table that you need to ‘Clean up’ at the last minute does not guarantee that you are fully aware of all factors at play.
In your rush to get your numbers in order, you may end up making misinformed decisions. Decisions that may lead you to losing control of your Company. So, stay sharp and update your Table after every relevant transaction.
Even though your Cap Table is bound to get more complex as your Company grows, don’t deviate too much from the simplistic standards described in this article in favor of more ‘fancy’ formats.
Simplicity is the keynote of all true elegance. Your Cap Table should be self-explanatory and easy to read, even by a person with zero background knowledge of your Company. Such as the Movinga Table we have just reviewed.
Engrave your Cap Table in your Mind. The numbers in your Cap Table represent yours and your colleagues’ ownership of the Company. Any changes to the current holdings based on investments, stock splits/transfers/sales, option allocation… will determine how much money you wind up with upon exit.
So you should, at all times, Maintain Awareness of all elements at play in your Cap Table and how each potential decision will affect the equity share.
Finally, don’t shy away from Requesting Assistance from someone who understands Cap Tables better than you. But remember, the bulk of the burden is on you. This is your Company, isn’t it?
So get comfortable, open that spreadsheet, and get cracking!
Go get ‘em!