Now that you have begun your company and have decided to take in investment to help it grow, what are the next step to run the business? Other than getting funds from investors, you would also need to organize the ownership and draw up the cap table (capitalization table) of your company. In short, the cap table is a brief summary about all the details of the investors’ and founders’ percentage of ownership in the company, the equity dilution and also the value of the equity at each investment round.
Not entirely clear with the idea? The next section would help you understand what the cap table is all about.
Introduction to Cap Table
To begin with, a cap table is a very important part of an entrepreneur’s life. And if you are one, you must already have an idea about it. But if you think that the cap table is just a simple spreadsheet on Excel holding the shares each person holds for your company, then you are in for a surprise. This is just the tip of the iceberg.
Many people take the cap table as something simple as just a representation of every transaction of the company from the incorporation of the company. However, the cap table is actually made of several legal documents and transactions. In short, you would find the following things in a cap table:
- Exercises of options
- Conversions of debt to equity
- Stock issuances
In short, it gets pretty complicated and a spreadsheet does not have the power to show this accurately.
So, why do we need a cap table management?
Well, with so many things to take care of, cap table management is essential so everything does not get messed up. In short, cap table management adequately and accurately manages these complexities. The management includes recording transactions, drafting and signing legal documents, complying with regulations, communicating with shareholders and a few other things.
In case you have not come across any of these complications of the cap table till now, you may come encounter them soon in the future. This is because any growing company that becomes worth something usually has or would have a complex capitalization structure. For your company to grow, you would have some investors who would help you along the way. You would also have many great employees, some of which you might even offer a piece of the equity in the company.
All these things would be great for the business, but they would bring in some administrative burden as well. Along with the stress of growing your business, you would also have to manage the cap table. And well, you shouldn’t let someone else do it for you. But why is that? The main reason is you want to be in control of overseeing the company’s ownership and management decisions. So, the cap table work has to be in your hands as a founder. And the best way to keep a cap table is by using cap table software to make it easy.
Still not satisfied as to why you need a cap table software? Well, the following would you help you find out why it is an important part for a founder’s life.
Why do you need a cap table software?
There are a lot of reasons why you need a cap table software and the following are a summary of these:
Raise Money on Better Terms
To grow the company, you would have to take up investments at different rounds. And as you do this, it would impact your ownership and the shareholders’ ownership as well. With a properly managed cap table, you would be able to negotiate your terms better. Hence, it is vital to keep the cap table accurate and up to date.
Also, you need to know that investors would always ask you to show the cap table during the negotiations. So, if you have a disorganized cap table or don’t have any at all, it would impact your plan for getting new investments. You might not be able to raise money easily or wouldn’t be able to raise money at all. Moreover, if you have a cap table that is well organized and has all the details needed, you would be able to get a much better deal.
Furthermore, you need to set up your cap table right in the beginning. If you wait for when you are about to take up some outside investment to prepare the cap table, you might miss out some important details. Though this might not be a problem during the beginning, you may lose your ownership of the company in case there is a mistake in the cap table.
Let us say that you have already offered some equity to a few employees and did not add it to your cap table. Now, when you are striking a deal with an investor, you would not have the right percentage of ownership or share numbers with you. This is because you did not add the ones for the employee compensation you offered. In short, you can end up giving a huge piece of your company not realizing that you are giving up your ownership.
In short, you need an up to date cap table and an accurate one. Without these things, you would not be able to get the deal you want, and your company would not grow easily. Managing the cap table well would help you avoid any costly mistakes. And in the end, you would still have the most equity in your pocket.
Another thing that you would have to take care of is keeping track of the vested shares for all the option grants as the stock options usually vest over time. Sounds easy? Well, it isn’t. There are situations where an option holder can also leave the company before time. And their unvested options are then given back to the company. This is because for employee equity plans that your company offers, there is a set amount of time when the employee can exercise their options before they are returned.
But that is not all; it gets worse. You would also have to keep track of all the various repurchases, transfers, restricted stock, and early exercises. With this, you can see that offering employees with equity compensation makes cap table management much more complicated.
Additionally, every option activity would also have to be noted in the financial statements as per the ASC 718 stock expense requirements. And sitting to do this by yourself can be a huge headache. So, it is better to get a cap table software to handle all these complexities with ease along with constantly updating the cap table to avoid any expensive mistakes.
Hiring Key Employees
Equity compensation is a great incentive if you are looking to hire and retain the best employees for your startup. Hence, it is crucial that you know how to create and lay down an excellent compensation package. Those getting the equity, especially the executives, would want to know what their payout would be at different exit values in case the company is acquired. For this, you would need to have an up to date cap table where everything is clear.
Many companies are now being much more transparent with their company’s employees about what their cap tables hold, and not just with the executives and investors. With this information sharing, you would have to answer any questions for any details regarding the equity in the company.
On the bright side, companies that are honest about their cap table items have a much better chance of keeping a high motivation amongst employees even during the hard times. And in case you have the right tools and information, your cap table can be a perfect asset from a human resources standpoint.
This is also why you need to use cap table software for your cap table instead of a simple spreadsheet. It allows the employees, investors, and executives to easily view their holdings. Furthermore, by seeing the options vest and the value increase, the employees would stick with the company for a longer time. It would also help in motivating them to work better. In short, your company wins by growing and employees win too by offering and getting paid for it.
Another essential part of the cap table is the regulation and tax compliance. If you have a cap table on a spreadsheet, you will spend hours just trying to figure out what to add in which part of the tax forms. And yes, the IRS has a lot of rules when it comes to equity compensation of a company. Doing anything wrong or ignoring the rules can cost you and the employees to pay a lot of penalties.
By using a cap table software, you would be able to comply with them easily as the software would take care of notifying you with any updates. It would also help in filing the forms and you would not have to worry about making mistakes.
Selling the Company
Many companies come to a point where they have to go public or be sold. And this is when the cap table would be needed to tell who is getting what. And if you are about to cash out during an acquisition, the lawyers would need your cap table to settle the deal.
But here is the thing; these lawyers would not rely on the excel sheet that you maintained. They would need everything in one place. This means that they would need the sale agreements, options agreements, all the transactions in the company, the various valuations over the year, the shareholder agreements and so one.
Keeping an excel and various scattered files would make things very complicated for lawyers to determine the right ownership. Any incomplete or erroneous detail can create legal disputes. And if you are looking to sell the company, this may be a big problem.
Even worse, you might not get the amount you thought you would when you sell or exit the company. Hence, the best way to stay on track is by using reliable cap table software. You would be able to avoid any problem while exiting.
Get a Cap Table Software
Even though there isn’t any right way to format a cap table, at first it is usually laid out in Excel spreadsheets. But as your company grows and begins to offer equity compensation, the spreadsheet would become complex and would not be able to organize everything well. Basically, the cap table should never be hard, but it does become a pain when you add in more employees and investors into the option pool.
Hence, you need cap table software that would automate your process and make it easier. And there are many cap table software out there, but some of the best ones are:
CapShare: CapShare is a great cap table application that would help you to easily issue stocks and manage all your equity in one place. You can say “goodbye” to all the paperwork and spreadsheets as you start issuing electronic shares with CapShare.
Trusted by over 10k lawyers, investors and companies, this application would make all the complex work simple for you.
Eqvista: Eqvista is at the top as it assists entrepreneurs to realize their dreams by offering them with complete company incorporation, share management along with valuation services. The software works towards managing the cap table, valuations, company shares, and more, more effectively and easily.
In short, you can incorporate your company and manage the equity all together. The best part about this software is that you have the option to utilize blockchain technology. This means that you would be able to have secure transactions online while everyone holding the equity can keep track of all the updates in the cap table all in one place.
Gust: Gust is the platform that allows you to start your company and also manage all the legal aspects in one place. The whole startup ecosystem would help you to bring your dream to life and grow it to become the best.
About 80,000 investment professionals and 650,000 founders, this platform has all the tools you need to manage a business from registering it to the cap table management and complying with various regulations.
Truequity: Truequity is a complete solution for private company ownership management. This means that you can handle everything about stocks from inception to exit. By using this software, you would always have an up-to-date, accurate, and complete view of your ownership data.
This would help you have a much clearer view of how the future financings and liquidation events would affect the company. The best part about this is that it is an easy-to-use, cloud-based solution.
All-in-all, the best way to keep track and manage your cap table properly is by selecting the best software that would help you achieve your business goals. Other than building a great company, you need to have a great cap table as well. So, make sure you choose the right software that would work best for you!