Cap table for LLC
This article is dedicated to understanding the nature of cap tables for a particular type of business structure in the United States, Limited Liability Company (LLC).
Cap tables are fundamental to every business. They are designed to determine the ‘capitalization’ or ownership structure of a company in real-time. Cap tables function as a navigation compass for all management decisions. Equity being the cornerstone of cap tables, knowing the legal nature of equity ownership is important for designing these aspects.
Cap Table for LLC
Business structures globally are governed by the laws of the state. They vary with jurisdictions. The United States has three categories – C – Corporation, S – Corporation, and Limited Liability Companies. These structures affect the nature of asset holdings, liabilities, and taxation. Each one has its advantages and disadvantages. However, in the context of this article, to understand the Cap table for LLC, let’s first address some basic questions.
What is an LLC?
LLC or a Limited Liability Company is a great option for business owners to profitably run an enterprise in the United States. It is a unique structure designed especially for private companies. The best advantage of an LLC structure is its hybrid model combining the pragmatic features of both partnership and corporation structures. From the partnership aspect, an LLC mimics the flexibility and flow-through taxation. While from the corporation structure, an LLC adopts the limited liability feature. More on this in the following sections.
An LLC offers the best benefits of partnership and corporation structures. While the partnership aspect offers flexibility and flow-through taxation, the corporation quotient offers the limited liability aspect. We will discuss these in detail in the following sections.
At its core, an LLC is not a corporation, but a company. LLCs do not issue stock. They may issue bonds but only to non-members. LLCs issue bonds as debt instruments to raise the capital required for the growth and expansion of the company. They do not have shareholders, but LLC members. Here are some other basic differences between an LLC and a corporation:
- LLCs have ‘operating agreements’ while corporations have ‘Bylaws’.
- Stakeholders with an interest in an LLC will have to express ‘membership interest’, while stakeholders with an interest in a corporation can purchase their ‘shares’.
- LLCs issue ‘membership certificates’ to LLC members while corporations issue ‘stock certificates’ to shareholders.
- LLCs are governed by ‘Articles of Organization’ while corporations are governed by Articles of Incorporation.
- Corporations must appoint a Board of Directors but LLCs have a flexible management structure.
However, the best feature that benefits LLC members is the fact that all their tangible and intangible assets are protected by tax law.
What are the advantages and disadvantages of LLC?
LLCs, like any business structure, have their advantages and disadvantages. All the benefits offered by this structure are also kept in check with some regulations. Let’s take a look:
Advantages of LLC
- Single taxation – LLCs can either choose tax structures of Corporations or opt for the flow-through taxation. If a company is incorporated as an LLC, it is best to use the advantage of flow-through taxation. In this format, all income of the company is treated as income of the LLC members. This helps to avoid double taxation, which is the usual case for a corporation. In a typical corporation, income gets taxed twice – at the corporate level as well as at the time of dividend distribution to shareholders. In LLCs, income is taxed only once at the individual member level.
- Limited liability – The other important benefit of being an LLC member is protection from personal liabilities. Though the income of the company is treated as income of the member, they are protected from individual liabilities on behalf of the LLC. An LLC is a legal entity as it is. The members are not liable to take responsibility for any company decisions.
Disadvantages of LLC
- Franchise taxes – While it is true that LLC members have to bear taxation on income only once, they are charged a franchise tax as well. This is a self-employment tax and must be paid twice – first as an employer and then as an employee.
- Varying regulations – LLC regulations vary from state to state within the US. Since an LLC is governed by state laws, managing businesses across borders might be difficult. So is the case with international transactions. Thus LLC members must carefully design the ‘operating agreement’ so that the company has a chance at behaving in diversity.
Why is a cap table important for LLC?
Cap table is essential for every business. It helps understand the ownership structure of a company. Since LLCs have limited members when compared to several shareholders in a corporation, a cap table for LLC serves as an important document for all strategic moves. The two basic functions of an LLC cap table are:
- Fundraising – LLCs have limited members. Like corporations, they do not issue stock. Still, a cap table is essential to document ownership stakes in the company. Investors would want to see the LLC’s past funding track record and how their additional funds would affect the company’s ownership structure. Investors would also want to understand their liquidity rank.
- Recruitment – Cap table for LLC also plays an important role in recruiting the best talent in the industry. Transparency in company shareholding information inspires employees to stay longer and contribute better.
Who uses and manages LLC Cap Table
As we see, the cap table for LLCs among other things helps to attract investors and the right people for a company. These are important decisions that drive the growth and expansion of a business. Needless to say, the people who use a cap table and are responsible for managing them in an LLC are the entrepreneurs and financial analysts.
Beyond them, the next categories of people who use a cap table in an LLC are venture capitalists. As discussed in the previous section, without a cap table, investors cannot understand the extent of their ownership and investment risks in a company. If an LLC is serious about securing funds from the best of venture capitalists, it must concentrate on efficient cap table management.
LLC Cap Table Template
A cap table is a document with a company’s ownership information in real-time. An efficient cap table is updated after any event that impacts the proprietary structure. Cap tables do not have a set structure. Certain information is a must. Beyond that, a company can design a cap table template in any form that suits its needs. In this section, we focus on an LLC cap table template.
What to include in your LLC cap table?
Like every cap table structure, a cap table for LLC should contain shareholder information in a simple, yet clear format. Some basic details to be included are the total number of shares across various classes, details of these shareholders, and the total worth of each shareholder. Even without adding any other information, a spreadsheet with these details is a good place for a startup LLC. It is easy to maintain and manually update.
However, once the company begins to expand and more stakeholders including investors come on board, LLC members need to consider automating cap tables. Equity management software such as Eqvista is one of the market leaders in this category. Beyond basic shareholder details, an LLC can now explore adding comprehensive information such as:
- pre-money valuation
- post-money valuation
- initial price per share
- price per share post-money
- percentage ownership of investors post-money
How to use a Cap Table
An up-to-date cap table is a powerful tool in any business. It not only provides insights into the present financial health of a company but also helps unearth future patterns based on present numbers. Some ways to use a cap table for LLC are:
- As a negotiating point during investment rounds
- Keep track of important events such as equity issuance, transfers, debt to equity conversions, and share cancellations
- Finance modeling
- Keep track of funding needs and new investments/IPO/mergers and acquisitions for the company
LLC Captable Template
An LLC cap table template usually details the type of securities on the X-axis and the names of investors on the Y-axis. Further, it should begin with a row with details of:
- total number of shares in the company
- total authorized shares
- outstanding shares
- uninsured shares
- shares allocated for ESOP
An LLC cap table template must be carefully designed in the initial stages with a vision for the future. Founders must account for all the possible inclusions and variables that a growing startup may incur. However, the basic blueprint must include the following details:
- all stockholders in a company
- all classes of stock
- value of each class of stock
- details of who owns how much company stock
- total ownership in the company on full dilution
Here is an example of a simple cap table template for an LLC:
LLC Cap Table Use Case
Cap tables are not just a tabulation of ownership stakes in a company. If maintained well, they provide insightful information for future scenarios. This is otherwise known as financial modeling. Here is an example of how waterfall analysis can be done using a cap table for LLC on Eqvista:
Waterfall analysis is an important feature of a cap table. Be it company owners or investors, anyone with stakes involved in a business would want to know where they stand in case of liquidation (ie. sale or acquisition of the company). Waterfall analysis helps to design profit distribution and hierarchy in exit scenarios. Take a look at how Eqvista helps in waterfall analysis of an LLC:
Shareholder vs LLC Members
There is a fine line between the concept of shareholders and members. Both have stakes in businesses but function in different formats. Let’s explore.
Do LLCs Have Shareholders?
The question of shareholding arises only when a company issues stock. LLCs are structured in a way that stocks per se are not. Ownership in an LLC is distributed among members in varying percentages. It is these members who take care of day to day operations of the company as well. During an LLC’s lifetime, the number of members can be added or deleted. Business profits are distributed accordingly. Thus corporations have shareholders while LLCs have LLC Members.
What is the difference between an LLC member and a shareholder?
Since LLCs and Corporations have different modes of operations, the roles of LLC members and shareholders are different as well.
As the terms suggest, LLCs have ‘members’ while Corporations have ‘shareholders’. Both are stakeholders in these respective companies, but their roles and extent of involvement in the company differ. Here are some basic differences between the two:
- LLCs are governed by an ‘operating agreement’. LLC members play an important role in designing this. All roles and responsibilities of LLC members along with an outline of the decision-making process in case of contingencies such as deaths or premature exits are spelled out in this agreement. In a way, LLC members design and execute strategies that determine how a company will function. Meanwhile, a corporation is governed by state laws. Shareholders are owners of the business, but they have to appoint a board of directors to oversee regular operations and steer management decisions. The board of directors, in turn, appoints executives to implement business strategies.
- Shareholders in a corporation have equity. No matter how many shares they hold, if it is of a certain class that allows voting rights, then all shareholders irrespective of the number of shares have equal rights. But in the case of LLC members, ownership rights depend on the amount of money invested in the company.
- The roles and responsibilities of shareholders depend on the extent of their stakes in a corporation. For eg., A 35% shareholder has more responsibilities than a 10% shareholder. But this is not the case with LLC members. In an LLC, a member with 35% stakes might have fewer responsibilities than the one with 10%. These equations are a matter of discussion while designing an operating agreement. A corporate structure does not offer this flexibility.
- In a corporation (S-Corp), creditors can buy all shares if they want to. Eventually, they can become the highest shareholder in the company with the highest stakes. This is not the case with LLC companies. Creditors cannot buy their way into becoming LLC members. LLC membership is exclusive that way.
- Shareholders receive a percentage of profits equivalent to their shareholdings. This is a legal requirement and does not change based on management decisions. But LLC members can decide who should or not receive shares in business profits. This is open to discussion and laid out in the operating agreement.
Stock Certificate vs LLC Membership Certificate
Stock certificates are issued to shareholders of a corporation. While membership certificates are issued to LLC members. Both are documents that certify ownership stakes in the business. Details that must be included in these documents are:
- Name of the company
- State of incorporation
- Name of the shareholder/LLC member
- Total number of issued stock/LLC membership units
These documents form an important part of company ledgers and registers. It enhances the brand value and legitimacy of a company. It is best to engage with professionals to design and maintain records of these.
Create A Cap Table for your LLC using Eqvista
Take a look at how Eqvista allows easy creation of a cap table for an LLC:
Eqvista is the leading equity management software. Eqvista’s sophisticated technology helps automate all equity-related functions of a company. The cap table for LLC is one of its unique features. We also provide 409a valuations for private companies. For more contact us today.