Guide to Private Equity Cap Table
This article explains the private equity and cap table for startups and how to manage shareholder’s equity in a cap table.
Private equity management is crucial for startup founders as it gets increasingly complicated as they grow and receive increasing amounts of investment. Efficiency in managing equity has a direct impact on a company’s financial situation. A company must show effectiveness, whether it is to divide earnings among shareholders or obtain enough funds from reputable investors. Making private equity cap tables at the start of company operations is the best approach to managing equities granted by a startup from the start. This article explains the private equity and cap table for startups, the equity cap table example/template, and how to manage shareholder’s equity in a cap table.
Private equity cap table
For startups or new enterprises, a private equity cap table is a tool used to demonstrate the ownership of the firm awarded via private equity. Common shares, preference shares, options, and other securities are often included. The founders, investors, staff members, and other parties would be impacted. You might finally ascertain who owns the firm shares, how many shares each individual has, and how the share price has changed over time thanks to these business activities.
Understand private equity
Private equity (PE) describes investment funds that acquire and reorganize businesses. These funds are normally established as limited partnerships. Private equity, as defined more precisely, is a subset of equity and one of the asset classes made up of debt and equity instruments issued by running firms that aren’t listed on a stock exchange and aren’t traded publicly.
For a startup, visualizing private equity as a pie can help you comprehend it better. If you, the company’s creator, own 100% of it, you own the whole pie. Keeping your company’s whole value to yourself may seem desirable in principle, but in practice, you can only make as much money as it is worth, and preserving 100% ownership will prevent your firm from expanding.
You must be prepared to give up part of your pie if you want the pie to increase in value overall. As your company succeeds more, the value of each shared component rises. Equity to investors helps raise funds, while giving equity is also a great method to keep people in the business involved in their job. They are able to acquire a stake in the business, which motivates them personally to contribute to its success.
Types of equity in a company
Below are listed two types of equity a private startup company can offer:
- Common stock – The most fundamental kind of stock is common stock. Most founders and staff are given them.
- Preferred stock – Investors are the major recipients of preferred stock, who often pay a premium share price. In return, in the case of a liquidity crisis or bankruptcy, these stockholders get payment first.
Types of equity for employees in a company
Employee stock options, which provide employees with the chance to acquire shares of common stock at a predetermined price, are often granted by early-stage enterprises. To be eligible to exercise their options, i.e. buy their shares, most employees must first reach specified milestones or serve the firm for a certain amount of time. However, if your equity plan permits it, they may exercise their options immediately, which is known as early exercising.
- Non-qualified stock options – NSOs are provided to contractors, consultants, overseas workers, and later-stage firm personnel. NSOs must be exercised and sold with applicable taxes, unlike ISOs.
- Incentive stock options (ISOs) – Employees most often get ISOs. ISO holders don’t pay taxes when they obtain grants or exercise options, aside from the Alternative Minimum Tax, if applicable.
How does private equity work in a company?
Startup equity is based on the assumption that a company’s participants deserve an ownership interest. That includes giving early contributors like staff and investors a piece of ownership. The size of this piece depends on timing, participation, commitment, and firm value at stock distribution. Founders earn the most initial ownership.
Early investors earn greater stock since their contributions are proportionally bigger compared to the company’s early value. Similarly, employees who help launch a firm frequently have more ownership than later hires. Funding phases affect equity distribution. As fundraising rounds proceed, your finances change, and how you allocate stock does too.
How to distribute equity in a company?
The allocation of startup equity varies depending on a variety of variables, including time, company model, industry, Executive choices, and the number of stakeholders. There is no set method for the procedure. However, there are a few patterns and numbers that help determine the stock allocation of a typical company.
Factors that determine the equity value
Knowing the value of private equity is crucial in determining how to distribute equity in a company. Here are a few factors that help determine the value of equity in a startup:
- Post-Money Valuation – The post-money valuation of a startup depicts the overall worth of the business after a round of investment. Pre-money valuation, or a company’s worth before an investment round investment, and the amount of fresh equity are added together to compute it.
- Last Preferred Price – The most recent investment round for the business resulted in investors paying the latest preferred price for a single share. It is often used as a benchmark to determine the likelihood that a company will succeed.
- Number of Options in Your Grant – This one should go without saying. There are basically as many possibilities in your grant as there are alternatives.
- Hypothetical Exit Value – The value at which a firm might hypothetically exit, that is, the amount of money it would bring in if it were to be sold. Startups often don’t make this information available right away. If you want to come up with a rough estimate, seek comparable businesses to see how theirs have operated in the past.
- Strike Price (409a valuation) – The cost per share associated with exercising your options is known as the strike price. To ascertain the strike price the most recommended 409a valuation is used. You can employ a firm or use software to get it done.
Who gets equity in a company, and how much?
The distribution of equity in your firm will rely on how your company is set up. Founders (and co-founders), workers, outside investors, and business advisers often share equity.
- Founders – If you’re the only founder, equity for the owner is pretty simple. However, a company with co-founders needs a proper equity division. Open and frequent communication with your co-founders is essential if you want your business to be successful in the long term. Consider aspects like risk, amount of commitment, and creativity each co-founder brings when you discuss how to divide stock with your co-founders. Equal splits like 50-50 or 33-33-33, or senior controlling partnerships, where one founder has a bigger interest, such as 60-40, are common equity distribution strategies among co-founders.
- Employees – Many professionals are motivated by having a stake in the businesses they work for because they realize that the success of the business may lead to a financial advantage for them personally. To allocate equity to employees, founders must determine how much equity they’ll give away, a vesting schedule that will determine when they can exercise their shares, and the types of shares to grant. Lastly, if a business decides to grant employee stock, it must make sure to educate employees on how to benefit from it. Employee equity should encourage workers to remain with the firm and contribute to its success. The amount of equity conferred to employees often depends on their expertise, their contribution, the employee equity pool, and the business’s financing timeline.
- Investors – Investors in your firm, whether they are angels, venture capital firms, or members of your family, need to have a piece of the equity. An investor who invests in a startup is effectively taking on investment risk in the hopes of making a profit. Based on the size of the transaction and the business valuation at the time of the investment, an investor may get a different amount of equity. When proposing and arranging investments, discussions concerning equity should take place if you want to raise money from outside investors to expand your business.
- Advisors – Early-stage businesses often feature an advisory board made up of seasoned entrepreneurs and sector experts who help the firm with strategic guidance; these individuals are sometimes paid with stock. There are no set rules for how to distribute shares to advisers who provide their time and knowledge to assist your firm in succeeding. However, many businesses provide their consultants with between 0.2% and 1% of their shares. As you establish advising relationships, it’s important to establish expectations with advisers up front, so they understand the level of commitment you expect of them in return for the amount of stock you decide to provide.
Cap table overview
A capitalization table, or cap table, is a ledger that monitors shareholder equity. It can refer to how a company keeps a record of all of its stakeholders and their claims on the company. It can be for debt, convertible debt, stock option, warrant, or derivatives. Private corporations’ capital structures and shareholder accounting standards are simpler than public companies. Private enterprises can monitor stockholders in an early document or spreadsheet. Founders, VCs, and investment bankers utilize private equity cap tables to predict and assess ownership dilution, employee stock options, and new securities.
What elements does a cap table hold?
All of a company’s equity ownership capital, including ordinary equity shares, preferred equity shares, warrants, and convertible equity, is often represented in private equity cap tables. Each sort of equity ownership capital, the individual investors, and the share prices are shown in a simple capitalization table.
The ownership of stocks, convertible securities, warrants, options, and stock compensation awards will all be tracked in the cap table. This makes it possible to depict share ownership as completely diluted. The private equity cap table will display who owns how many shares, the present market value, and the percentage of ownership as a whole.
Details on prospective new financing sources, mergers & acquisitions, public offerings, or other hypothetical transactions may also be included in a more complicated table. Capitalization tables are often used informally by private businesses to provide details on their stockholders and market worth.
Common benefits of a cap table
There are several benefits and uses of a private equity cap table. Here are some common benefits that it provides in managing private equity.
- Negotiating investments – Investors are interested in the company’s ownership structure and prior financing rounds when negotiating additional finance. Here, a private equity cap table answers investor queries. New investors want to discover how their investments affect others. They wish to prevent litigation with other investors. Investors want to know their liquidity ranking. They want to be first in line in case of a liquidity event.
- For Employees – Most organizations are being honest with their workers regarding private equity cap tables. This helps retain and inspire high-performing personnel. Business leaders want to know their rewards if the company sells or liquidates. Transparent and structured companies are more likely to retain personnel, even amid financial trouble.
- Easy Tax and Compliance regulation – In most places, including the US, cap tables are used to record stock ownership. Cap tables help tax authorities decide whether a firm, its workers, and its investors pay enough taxes. If cap tables aren’t updated regularly, the corporation or its workers may overpay taxes. If the corporation filed fewer taxes than necessary, it might face significant fines for avoidable blunders.
- Sale of the business – When a business sells, the profits are split among shareholders. The cap table shows how much and to whom each shareholder receives. An improved cap table reduces conflicts and litigation over profit distribution.
Why do companies need a cap table to manage their equity?
Startup businesses often only have a few equity shareholders. These often consist of the company’s founders, their loved ones, and angel investors. As the new business expands and acquires funding from other sources, like venture capitalists, and eventually from the general public through an IPO, it’s critical to keep track of who has what stakes in the business. After each succeeding financing round, the private equity cap table will be modified to reflect how ownership is diluted and distributed among new owners as the business expands.
Why should companies choose cap table management software?
A private equity cap table might get complicated after many funding rounds. Most cap tables are handled via spreadsheets, which limit scalability and are prone to human mistakes. Growing organizations with complicated equity arrangements can use cap table management software to omit limitations and automate the process.
How can Eqvista help manage companies’ equity?
Eqvista provides specialized software that was developed by professionals with in-depth knowledge of the equity requirements of businesses in various phases of development across several sectors. This program includes templates that are ready to use in your cap table. It is not necessary for startup owners to take on the additional task of searching for a suitable template for their company. This is easily accessible on Eqvista. Additionally, this program offers a number of stock management options, including:
- All types of electronic shares, including convertible securities like convertible notes, KISS, SAFES, and others, may be issued, tracked, and managed
- Publish, monitor, and control employee stock option plans
- Platform unified for requirements in equity accounting
- Simple upkeep of equity ledgers
- Effective administration of vesting plans
- Real-time cap table management via the cloud
- Customized shareholder portals enabling cap table access as needed
- Analysis using waterfall and round modeling
Create and Manage your cap table with Eqvista!
Eqvista is a fantastic equity management solution that you can use to monitor and communicate your private equity cap table to important business stakeholders. The information is editable in real-time, and shareholders and the corporate administration may communicate immediately. For entrepreneurs looking to determine their business worth and price per share, which may also be submitted to the cap table system, we also provide expert 409a valuation. Call us right now for additional information!