A cap table, short for capitalization table, is a document that outlines the ownership of a company. It shows how much each shareholder owns in the form of stock or equity and how much each shareholder has invested in the company. Cap tables are essential for startups because they help founders understand their company's ownership and financial structure, and they play a crucial role in fundraising and financial planning.
Startup entrepreneurs need to understand how cap tables work and how they can impact your company's future. This blog post will cover the basics of cap tables, how they're used in venture-backed startups, and some key terms and concepts you'll need to understand as you build and manage your own cap table.
What is a cap table?
A cap table is essentially a spreadsheet that lists a company's shareholders, ownership stakes, and the terms of their investments. It includes information on each shareholder:
- Name and contact information
- Total number of shares owned
- Percentage of ownership
- Valuation of the company at the time of their investment
- Type of stock or equity ownership (e.g., common, preferred)
- Voting rights
Cap tables can also include information on stock option plans and warrants (more on these later) and any dilution or conversion provisions that may apply to the shares.
Check out our ultimate guide to cap tables to learn everything founders should know about managing their capitalization table!
Why are cap tables important for startups?
Cap tables are important for startups because they help founders understand their company's ownership and financial structure. They can help founders answer questions like:
- Who owns what percentage of the company?
- How much equity have each shareholder invested in the company?
- What is the valuation of the company at any given point in time?
In addition to providing this information, cap tables are also used in fundraising and financial planning. For example, suppose a early stage startup is seeking funding from venture capitalists and angel investors. In that case, the venture capital firm and other potential investors will likely want to see the company’s cap table to understand the ownership structure and how much equity is available for them to invest in.
Cap tables are also used to track dilution, which is the decrease in ownership percentage that occurs when a company issues new shares. Dilution can be caused by a variety of factors, including:
- New investments
- Exercise of stock options by employees
- Conversion of debt to equity
Dilution is a normal part of the life cycle of a startup. Still, founders need to understand and manage it to ensure they retain enough ownership in the company to stay motivated and aligned with its mission.
One of the early and simplest ways to cause issues for your business is to make a mistake with the capitalization table. Read what 5 Cap Table Mistakes to Avoid as a startup founder!
Types of equity in a cap table
Several different types of equity can appear on a cap table. Here are a few of the most common:
- Common stock: Common stock is a company's most basic form of equity. It typically entitles the holder to vote on company matters and to receive dividends (if the company declares them). Common shareholders are usually the last to be paid if the company is sold or goes bankrupt.
- Preferred stock: Preferred stock is a type of equity that typically has a higher priority than common stock. Preferred shareholders are generally entitled to receive dividends before common shareholders, and they may also have the right to convert their preferred shares into common shares later on. Preferred shareholders may also have certain voting rights, but these are often limited compared to common shareholders.
- Options: Options are the right to buy a certain number of shares of stock at a predetermined price (the "strike price") at some point in the future. Options are often granted to employees as part of their compensation packages. The totality of these shares are grouped and called employee stock option pool. There are two types of options: incentive stock options (ISOs) and non-qualified Options (NQSOs). ISOs are generally granted to employees and have certain tax benefits, but they also have certain restrictions on when they can be exercised and sold. NQSOs, on the other hand, are not subject to these restrictions and can be granted to anyone, but they do not have the same tax benefits as ISOs.
- Warrants: Warrants are similar to options but are typically issued to investors as part of a financing round. They give the holder the right to purchase a certain number of shares at a predetermined price (the "exercise price"). Warrants are typically issued to sweeten the deal for investors, as they can offer a higher return if the company's stock price increases significantly.
Managing your cap table
As a startup founder, it's important to keep your cap table up to date and accurate. This can be challenging, especially as you raise new funding rounds and bring on new investors or employees. Here are a few tips for managing your cap table:
- Use a cap table software tool: Capbase let’s you execute a contract for equity, be it a stock option agreement, or a convertible note, while your cap table is updated in real time.
- Communicate with your shareholders: It's important to keep your shareholders informed about the status of your company and any changes to the cap table. This can help to prevent misunderstandings or disputes down the road.
- Be transparent: Be open and transparent with your investors and employees about the terms of their equity and any dilution that may occur. This can help to build trust and keep everyone aligned with the company's goals.
- Seek legal advice: If you have any questions or concerns about your cap table or equity structure, it's a good idea to seek legal advice from a qualified attorney. They can help you understand the legal implications of different equity structures and advise you on your company's best course of action.
How Capbase helps founders manage their cap tables
Capbase, unlike other tools for managing your cap table, automatically updates your cap table when you raise capital from investors and issue shares to founders, employees, and advisers. Due to the fact that our software generates the contracts and manages e-signatures, we are able to instantly update the company's cap table and document room after the execution of equity agreements. With Capbase, your capitalization table is always up-to-date!