Cap Table Diversity in Startups

Startups disclose their ownership structure to the public through a cap table, which breaks down a company’s equity capitalization. Those who are allocated on the cap table are in a position to create generational wealth for themselves if their enterprise’s scale to extraordinary levels. Startups desiring growth capital should look into a wide pool of resources that includes an ideal combination of investments from venture debt companies, high-net-worth individuals, and revenue-based finance organizations. This is because equity investors are tightening their purse strings. The finest feature of such a broad-based strategy is that it can assist entrepreneurs in raising capital that supports their business model and prevents any unnecessary stock dilution. The sustainability followed by the growth of startups lies in cap table diversity. From this article, we can understand cap table importance, diversity in cap table, and how to diversify cap table.

Cap table diversity

A varied and inclusive cap table is something you should strive for. It’s no secret that men currently control the majority of cap tables. Only 20% of shareholders in high-growth startups are women. Nevertheless, it goes beyond mere gender. Around 80% of angel investors in the United States are white. With a diversified cap table, you may gain insights from people from many walks of life and contribute to improving the investment environment. Every investment will increase your purchasing power, but the knowledge and expertise you may gather by having a varied cap table are far more beneficial.

What is a cap table?

A capitalization table (cap table) is a table that displays a company’s equity ownership capitalization. It can be used by any sort of company, but it is most frequently used by startups and early-stage organizations. The capitalization table is a complex breakdown of the shareholders’ equity of a corporation. All of a company’s equity ownership capital, including common equity shares, preferred equity shares, warrants, and convertible equity, is frequently represented in cap tables. It is crucial for financial judgments concerning stock ownership, market capitalization, and market value. It supports the estimation of a private company’s market value. They are also significant in the private market for shareholder reporting and new capital issue marketing.

How does a cap table work?

A simple capitalization table includes the share prices, individual investors, and each category of equity ownership capital. Details on potential new funding sources, mergers, and acquisitions, public offerings, or other hypothetical transactions may also be included in a more complicated table. Capitalization tables are frequently employed informally by private businesses to provide details on their stockholders and market value. The overall market value of a firm and all of its parts is displayed. Every financial choice that affects market capitalization and the company’s market worth is taken into account by business managers as a vital point of reference. To make decisions based on the most up-to-date information, the capitalization table must be accurate, tailored to the needs of the organization, and frequently updated.

Importance of having a cap table

A cap table protects not just your company but also you and the other stakeholders. This is particularly crucial when developing an exit strategy since it enables you to determine with accuracy how much money each party would earn from the deal. A cap table also paves the way for potential future deals. For instance, a proper cap table is a must if you intend to sue someone for breach of contract. This makes it easier for all stakeholders to determine who holds what stakes in the company and whether any agreements have been broken. It is also crucial for investors, to make a company shareholder-friendly. A new investor will probably ask to examine the cap table if they join the company to make sure they are getting the right number of shares. This makes it simpler for them to decide whether or not to invest in your company.

What is cap table diversity?

Cap table diversity refers to a practice in the Venture capital ecosystem that creates investment opportunities for all categories of investors including traditionally marginalized investors. It refers to the process of including various categories of investors in the cap table. Focusing on diverse founders tends to increase the return on investment. Fundraising is a challenging aspect of any venture. Diverse investors attract more varied talent than their competitors because of their connections, communities, and networks.

Understand historical conversations on diversity

In the past, most discussions have centered on increasing diversity in large tech. These discussions have forced decision-makers to employ senior leaders from varied backgrounds and use boot camps to prepare candidates for IT jobs. Unfortunately, the progress we’ve made hasn’t been as significant as everyone had hoped and pushed for. Diversity takes many forms such as:

• Ethnic diversity in big tech
• Gender diversity
• Senior leadership diversity

Why should you diversify your cap table?

The current state of venture capital (VC) diversity can be changed by concentrating on cap table diversity because it opens doors for investors to advance in their careers. Statistics on diversity in venture capital frequently include staff members who are neither managing partners nor directly involved in investment choices. More value will be gained from breaking down cap tables to diversify investors based on several factors than just funding. The various reasons for diversity in the cap table are listed as follows:

• Provide talent economies of scale – With diversity in the cap table, all ranges of investors are included in the table. When a wide range of investors is involved, collective resources are pooled in one place. New talents of diversified investors offer innovations to businesses. Startups require exceptional skills as they expand. Investors can support businesses by supplying a consistent talent pipeline, deals, and clients. It also provides economies of scale that help companies to develop a competitive advantage over time. Diversity is essential to ensure that startups have the right skill base to make differentiations in the product line which is the essence of innovation.
• Unlocks opportunities for investors to progress in their careers – Statistics on diversity in venture capital (VC) frequently include staff members who are neither managing partners nor directly involved in investment choices. Analysts, scouts, and staff focused on due diligence are included in diversity statistics. Working on cap table diversity may help underrepresented investors gain access to areas that are currently closed. It offers growing investors an opportunity to progress further.
• Diverse and under-represented founders are more likely to invest money in other founders – The amount of money invested in female and underrepresented entrepreneurs is impacted by the lack of a diverse and underrepresented investor pool. Hence funding for diverse and under-represented entrepreneurs is more likely when diverse and under-represented investors make investment decisions.
• Diverse investments can have a significant force multiplier on the economy – The economy can benefit greatly from diversifying investments. Future generations can benefit from the time and money invested in them as diverse founders receive more funding and under-represented investors collaborate with or even launch their funds. These diverse networks provide economies of scale.

How to diversify your cap table

Teams of diverse founders (more than one gender or more than one race or ethnicity represented) produce more innovation and, on average, better financial results at venture-funded startups. These improvements include 30% higher multiples on invested capital (MOIC) when companies are acquired or go public, as well as better valuations for startups with at least one female founder (65% better than all-male teams), and with at least one ethnically-diverse team member reporting to the CEO (64% better than all-male teams). Accepting investments from this diverse range of investors and including them in the cap table completes the process of diversity in the cap table.

Founders have 3 options while diversifying their cap table

Making investments in startups is more challenging since diverse investors are less likely to share the same level of wealth or to work for an institutional investor. They consequently fail to establish a reputation as investors and miss out on the wealth created by successful firms. Inequality is maintained as long as wealth and experience remain concentrated. There are various options available to entrepreneurs who care about increasing the diversity of their cap tables:

• Option 1 – Spend a lot of effort cultivating connections with different investors who can fund their rounds. This approach may or may not result in a more varied cap table because so many individuals decline to make a single investment. Hence, you might develop a relationship with ten underrepresented investors and get a yes from just one.
• Option 2 – Entrepreneurs can diversify their cap table by giving a larger range of stakeholders access to an ownership position in the business by using a crowd equity platform like Republic. These platforms, however, are new and not entirely tried and true. Although they have a great deal of potential to add a new layer to the capital stack, this field lacks both expertise and sound guidance.
• Option 3 – This option is simple but very effective. Facilitate the acceptance of varied investors. This is possible by working on areas that persuade investors to agree to invest. On the other hand, startups should ensure that diversity plans are tiring in nature and are result oriented.

Ways to diversify a cap table

Prioritizing diversity will bring a lot of knowledge, insight, and expertise to the table. This is possible by developing a team and product that people would be interested in investing in. Many businesses express a desire to diversify their capital structure. The multiple methods to diversify a cap table are enumerated as follows:

• Set investors criteria – Investor criteria refer to the predetermined set of standards that the financial and strategic sectors employ to evaluate potential investors. The area, industry, and capacity are the three types of investment criteria that are most frequently declared. Clarify the objectives before analyzing the criteria and determine the value that each investor will contribute.
• Build an investor funnel – As an entrepreneur, you ought to approach funding the same way you would do with sales. And doing so entails creating a reliable funnel and pipeline. Both funnels require a substantial number of highly targeted and qualified leads at the top. For your fundraising process, investor pipelines act as a natural funnel. The top of your funnel should be populated with active investors who frequently write checks in the amount range you need to fill your round.
• Identify your compromises – A compromise is when two parties agree to something that is only somewhat at odds with their original intentions due to external factors or when they are taking other people’s preferences into account. For a successful diversification procedure, the founders need to identify their areas of compromise with a wide range of investors.

How does the rule of five work for greater cap table diversity?

The Rule of Five is a policy that can be implemented immediately. It operates efficiently during early funding rounds. If this policy is adopted it has to be communicated to people. Additionally, it has to be included in the overall DE&I (Diversity, equity & inclusion) plan because it affects how employees and the community feel about business as well as how investors perceive it. This is a straightforward approach that can assist all founders in achieving greater cap table diversity.

Manage your cap table with Eqvista!

From this article, we can emphasize the fact that diversity in the cap table provides founders with an increased return on investment. With the help of Eqvista’s cap table management software, sophisticated and diversified cap tables can be created. It guides the process by providing step-by-step instructions. To handle your complex cap table with ease, pick Eqvista! So what are you waiting for? Create your cap tables by signing up with us. To know more about cap table management contact us.