When your business is in its relatively nascent stages, there aren't really any questions over who owns what or who does what within it. If you're an up and coming SME, for example, it's likely you're only really going to have a core team taking care of the essentials. But what happens when more people enter the fray? Lets look at what is a cap table and how does a cap table work?
It's important to consider this because as people come and go from your business, that previously easy to mete out graph of shares and money just keeps getting more and more complicated. This is where creating a comprehensive Cap Table is an absolute necessity, especially if you want your company, no matter what it does, to go the proverbial distance.
So, to begin with: what exactly is a cap table? Much as the name would suggest, it's a table that is used to chart out all of the ways in which your company delegates money in expenditures, salaries, projects, etc. Another way that cap tables are used is to keep track of which members of your team or investors have equity within the business (shares).
It's one thing to simply write about just how a cap table works, but it would be worthwhile looking at some good examples to demonstrate better just how a table should flow, and how it can really take a potential headache and make it manageable.
There seems to be some kind of division over perspectives of just how cap tables work. But there are some stand-out examples that merit some attention if you're looking for some inspiration.
Here's an example of a cap table and it can be used to give you an idea of the best kind of layout for a cap table.
So what you can see right here is a relatively early stage cap table which shows the division of company value by the stages of pre-money valuation, but also post equity funding such as Series A Funding from what we can see.
With this valuation fully calculated in the top section of the table, the lower section allows you to list out company ownership with an increasing/decreasing number of investors and founding members with however many shares they receive.
From the above example, it would be safe to assume that one such use of a cap table is to delegate shares and funds and balance the books between the amount of funding and revenues and employees/investors coming in/out of the organization.
The reality of it is that there are multiple applications for a cap table, and all of them help to make the process of building up your business easier. Here are some of the ways that you can put a cap table to use.
If you're in the process of negotiating for new funding, having a cap table present can help not only to address preliminary concerns that VCs have over the financial structure of your company but also to help satisfy some of their curiosity.
These same investors may come with questions that can easily be addressed by having a well-organized cap table. Having one of these allows them to see where exactly they would (potentially) sit in the listing of others that have obtained shares within the business.
More simplistically, it also lets them see that there are no misallocated funds on your part.
For smaller companies, and those looking for better retention and transparency for their employees, having a clear cap table can be a really effective motivating tool. Especially if your business is either in its early stages or provides employees with stock options in the business.
Within certain countries, having a cap table is a necessary legal and regulatory document. Even in places where it's not compulsory, having a well-developed cap table can really help to highlight to government, regulatory, and tax agencies just how your business is structured.
To effectively construct a cap table, you'll first need to do some fact-finding and research in order to put together the following information.
Firstly, you need to make sure to list all of the founding members of your business, along with how many shares they were/are allocated to them. This will also make it far easier to take inventory of what stock you have and how much goes to who. Doing this can simplify the process of dispensing and redistributing stock amongst new investors and members.
In order to fully develop a meaningful cap table, it's important to divide up the kind of shares that you have to mete out to employees, investors and the like, into the following four types:
You can also choose to add in other kinds of stock such as newly common stock, preferred stock, options, etc. But this tends to depend on the kind of business that you have and your own choices of the stock you want to provide.
Secondly, with each of these stocks measured out and calculated among your founders/investors, before writing up the full table, you should come to the decision of whether there are going to be employee incentives in play. These can consist of vested stock or stock options for new and existing employees.
Once you have come to the conclusion of whether you will have these options in place, the next stage is to determine just how these/this kind of system will work on an annual basis.
Third, with stock being calculated for the founding members of the company, an employee stock options system decided on and planned out.
The next people and organizations take into consideration are whether there will be special provisions for members of your future advisors and advisory board as well as key investment partners and valuable employees.
In doing this, you can plan out more regular alterations to stock for employees, advisors, and investors.
Fourthly, with these founding members, employees, and valuable individuals provided their stock from the total market valuation. You should now move on to identifying other individuals and companies essential to your business. These, of course, consist of individuals like stockholders along with those people that are or would be stock option holders.
Finally, now that you have each of these individuals mapped out, you can now place a special focus on all of the various owners, the amount and different kinds of stock that they own, and the kind of price that they either paid for this stock, or the speculative value of the stock that they were provided.
No single cap table method is the universally accepted approach, and there are a number of ways that you can create and update one. If you're just starting off as a sole founder, or small team, this may take the shape of an excel spreadsheet, just to have something in (quasi) formal writing.
But as you go on, there are online systems that you can use that not only help you visualize what shares belong to who. But also creates a wholly formalized system that is securely stored, and easily accessible to essential members of staff in order to make changes where/when necessary.
One example includes SeedLegals, among others, which allows you to delegate shares, add and remove employees, circulate their shares and keep an eye on market valuation while making it readily visible to potential regulatory, tax agencies and investors.