With the diversification of investments, the number of shares and owners in a company can often be a bit tricky to keep track of. In order to avoid any confusion down the line, it’s important that you know how a company’s equity is divided among the shareholders. A cap table or capitalization table is a visual representation of how the equity in your company is distributed among the shareholders. It is essential to create a cap table when you form a company and update it as the company grows, invests, and issues new stock. This article will serve as a guide, explaining the concept of the cap table and its important components.
Cap table and track your equity
A cap table is a spreadsheet representing the ownership stake of each shareholder in a company. Equity is a major component of a company, and you would always want to track how much equity each shareholder holds. Your cap table should always be up-to-date, as your company’s equity can change depending on the investment decisions, financing, or any other events that alter the ownership stake. Thus, tracking the equity with the use of a cap table is considered standard practice, especially in the early stages of the business.
Understanding cap table
When a company is established, it’s important for the shareholders to ensure that their ownership stake in the company is clearly understood. This is where a cap table comes in handy. It serves as a snapshot of the ownership stake of every shareholder in a company and keeps track of how their ownership stake changes throughout the firm’s lifetime. In fact, cap table management software is now available online, which makes the preparation of a cap table easy and simple. Therefore, the preparation of the cap table is essential to keep track of the ownership stake in a company.
Importance of preparing a cap table
Since the management of equity is a key business component, having a well-organized and accurate cap table becomes extremely important. Here are a few reasons why a cap table is essential:
- The cap table creates transparency among the shareholders of a firm. It helps you keep track of how your ownership stake changes, depending on the events that take place within the firm, and prevent any type of confusion in your decision-making process.
- A cap table acts as protection from any legal disputes or issues pertaining to equity. It helps in building a defined and clear partnership between the shareholders that can withstand any argument and disagreement that may arise.
- In the early stages of the business, the cap table is often utilized to gather new investors and attract additional capital to your firm. Having a well-structured cap table in place helps in forming credibility and trust among potential investors.
- Understanding and reading a cap table is typically easy and simple because it is structured clearly and concisely. It includes basic information yet provides you with sufficient details about your ownership stake in the company.
When does a cap table change?
There are various events that alter the ownership stake of your company. These events can be anything from adding new investors or issuing stock-based compensation to converting debt into equity, mergers, and acquisitions, or other significant events that may take place, such as:
Essentially, your cap table will be updated after such events occur to reflect your company’s new ownership stake. As a matter of fact, the primary purpose of preparing a cap table is to keep track of the ownership stakes; thereby, whenever any changes in the ownership take place, you will have to update the cap table accordingly.
How does the cap table benefit founders?
The cap table for founders serves as a basic and essential tool for making decisions regarding the company’s financial affairs. The primary focus of a cap table is to keep track of your equity holdings so that you can gain the right amount of information in terms of how much you own in the company and what are your rights, obligations, and responsibilities. Following are some of the importance of the cap table for founders:
- Helps in finding inventors and funding – Potential investors require a thorough and detailed cap table in order to understand the firm and its underlying shareholders. Thus, a cap table would usually be included in one of the early pitch decks for investors. If your cap table looks clear, organized, and well-structured, it will act as a positive point in your favor.
- Manage employee option pool – Since you would have incorporated the company and granted options to your employees, they would usually be eligible for vesting over time. The stocks reserved for employees are termed option pools, thereby, which can easily be tracked and managed through the cap table.
- Helps in preparing business decisions – A well-structured cap table provides the key information you would require in order to make important decisions about the business. It could either be related to funding rounds, employee compensation, business valuation, or anything else that pertains to equity.
- Help with financial decisions – The cap table provides you with a step-by-step approach to the finances of your firm. It keeps track of how the equity holdings change depending on the events that take place within and outside of the firm, thus allowing you to gain sufficient information and make sound financial decisions.
- Comply with tax regulations – Apart from assisting you in making decisions related to your business, the cap table also helps you to ensure that you are compliant with all the tax regulations. It provides a clear picture of how you should manage your tax obligations as per the accounting standards and helps you prepare your tax filings.
- Distributing equity efficiently and fairly – The cap table serves as an effective tool to distribute the ownership stakes in a firm efficiently, fairly, and in an organized manner. With the help of a cap table, the allocation and distribution of equity could be done in a manner that benefits the company and its shareholders.
How does the cap table benefit shareholders?
Well, now that you have learned the various benefits that a cap table can provide to the founders, it is time to look at the benefits from the shareholders’ perspective. Here are the two most common benefits of a cap table for shareholders:
- Equity distribution details – When you read the cap table, you will be provided with a concise and clear-cut overview of the ownership stakes held by each shareholder. It also provides you with an understanding of what changes are taking place in terms of your ownership stake, depending on the nature of the events that take place in the company.
- Transparency – Having a well-structured cap table is an important step towards maintaining transparency in the ownership of the company. It helps you to understand the ownership stakes held by different investors and also provides you with key information pertaining to your stake and rights, as well as obligations.
How does the cap table benefit investors?
Let us now look at the various benefits that a cap table can provide to investors. Following are some of the benefits of a cap table for investors:
- Help to check the ability to retain talent – Investors believe that stock options are a powerful tool that helps to retain talent; thus, they generally check the option pool details and assess whether it is large enough to retain the employees over time. The cap table will provide them with sufficient information regarding the option pool and its size.
- Give insights into other investors – Since startups usually comprise multiple investors, it becomes very important for potential investors to understand the details of existing investors, such as who they are, what is their equity stake, and what type of investment they have made in the company. Thus, by reviewing the cap table, one can easily gain a clear picture of existing investors.
- Help to make an investment decision – Having clarity in key financial details and other information included in the cap table can help investors to make more informed investment decisions. It gives them a clear sense of how various stakeholders, including founders, employees, and investors, hold their stakes in the company, thereby providing them with a wealth of information on the performance and standing of the company. So, how to read cap table?
What does a cap table include, and how to read it?
Now that we have identified the various benefits of a cap table, it is time to understand what it includes and how it can be read. The basic structure of a cap table includes the following key components:
- Equity – The equity section of the cap table would include the amount of equity held by each shareholder, as well as their percentage holding, the type of security, and the price at which it was acquired. You can easily determine each shareholder’s ownership by simply looking at their percentage holding in the table.
- Debt – It includes the amount of debt raised by the company, as well as the basic details of each lender. Shareholders and investors are interested in the overall debt level of the company, and reading the debt section of a cap table can help them gauge the accurate amount of what the company owes.
- Common stock – The shareholders of common stock are vital for the company, as they have voting rights to determine the critical aspects of the company, such as its strategy and future plans. Thus, it is very important for them to gain a clear understanding of how much of the company’s equity is held by individual shareholders at any given point in time.
- Stock options – Small and emerging companies often use stock options to attract and retain employees. The cap table will include details of stock option grants, vesting schedule, and other related details. A cap table is a key document to check if the company has enough stock option grants as per the requirements and guidelines.
- Pre-money valuation – The pre-money valuation is a key figure that is used to value the company prior to any kind of capital injection by any investor, such as an equity financing round. It helps investors and founders assess the company’s worth using a cap table and determine a base valuation for subsequent financing rounds.
- Post-money valuation – Post-money valuation determines the company’s value after the financing round. A cap table helps founders to more clearly understand and calculate the value of the company after an investment round, as well as the overall valuation of the company at a specific point in time.
- Authorized shares – The authorized shares, which are the maximum number of shares that a company can issue, are usually displayed in a cap table. It helps all stakeholders of the company to understand the maximum limit on the percentage of equity that the company can issue. This helps to ascertain the level of dilution to some extent.
- Outstanding shares – The cap table will include the number of outstanding shares, which is the number of shares that are issued to investors. With a cap table in place, it helps to keep proper track of the number of shares in circulation and provides an accurate outstanding share count. This helps to avoid any kind of complications or uncertainty.
- Fully diluted shares – The fully diluted shares are the total number of outstanding shares with respect to all possible securities that the holder exercises. A cap table can show the actual number of fully diluted shares and even the securities that are ready to be exercised. Founders and shareholders can assess this information with the help of a cap table.
- Convertible debt – Convertible debt is a financial obligation that can be converted into equity at a future date by the creditor. A cap table will show the amount of convertible debt raised by the company, as well as details regarding the conversion option. Raising more than what is required is a risk; thus, a cap table can help to allocate equity in a more effective manner.
- Convertible note – Convertible notes are a type of debt instrument that can be converted into a share at a specified time frame. With a cap table, it is easy to gauge the number of outstanding convertible notes. Managing and keeping track of such financial instruments is integral to maintaining a high level of efficiency and effectiveness in terms of capital raising.
How to manage your cap table?
To ensure that your cap table is managed properly, it is highly important to maintain it in a systematic manner. The cap table should be up-to-date at all times and contain all the information that is required. In fact, after every event of dilution in equity, proper amendments and modifications in the cap table should be made by the company. Nowadays, cap table management softwares like Eqvista provides you with an effective and convenient way to maintain your cap table.
Issues founders face managing cap table
Generally, there are multiple investors and shareholders in a company. Along with that, various financial events require the cap table to be updated on a regular basis. Thus, it becomes extremely challenging and time-consuming to manage the cap table manually. In fact, updating the cap table manually is one of the primary reasons for errors and mismanagement of cap tables.
How can Eqvista help?
With Eqvista cap table management software in place, you can easily manage and track the equity. Founders, investors, and shareholders can all access the cap table in real time and pull out the information required for different financial events. Eqvista provides a complete solution for accurate and timely management of your cap table. By simply entering the required information, you can create a cap table in minutes and also modify it as per the requirements.
Why choose Eqvista for your cap table management?
A common starting point for many startup founders is an Excel sheet to serve as a cap table. And while it may serve you well at first, as your firm expands and business picks up, the finer points will get increasingly complicated. So to not miss a thing, it is highly recommended that you start with Eqvista’s software. Moving from Excel to the software made for cap table management can also help you save time in the long run by preventing you from having to redo the entire cap table when things get tough.
Our software has made life simpler for business owners everywhere. Eqvista employs cutting-edge development techniques to create a handy tool that will save you time and effort in the long run. When a new contract or development occurs, simply add the relevant information. Our software can be relied upon as the definitive cap table document, from which you can readily ascertain the identity of the company’s equity holders and their respective rights and obligations. As a leading provider of cap table management software, we are the perfect partner to meet your needs. Manage up to 20 shareholders with no credit card required; to get started, sign up now for a free demo!
Manage your cap table with Eqvista!
Our cap table management software offers a complete solution to manage your equity. It helps in making the entire process hassle-free and particularly quick. The team at Eqvista is committed to building a platform for seamless and cost-effective equity management. Our cap table’s versatile features make it easy to keep track of important business data and share distributions. To learn more about our cap table solutions, contact us today!