How To Read A capitalization table (A Cap Table)?

 Have you wondered how to read A capitalization table (a cap table)? Here is what you should know

 

What is a cap table?

A capitalization table, also called a cap table, is a table of a spreadsheet that private companies use to keep track of their securities, how much equity each shareholder owns, and how much the equity is worth.

 

The capitalization table lists all of the company’s securities, like ordinary shares, preferred shares, and warrants, as well as who owns them and how much different investors paid for the security.

 

The cap table is used as a reference by investors to know how much their shares are worth and how ownership changes over time. 

 

The involvement of cap tables over time

In the early stages of a new business or startup, the cap table is one of the original documents it creates because it actively seeks investment during the initial stages.

The cap tables get more complicated when the company raises funds, with possible funding sources, IPOs, mergers and acquisitions, and other transactions. A cap table is essential not only for the investors but also for the founders.

 

 

How to manage a cap table?

A cap table can be managed in an excel spreadsheet or using software, like the cap table module in Equitest.

 

 

 

Cap Table - Important Financial Terms?

To read a cap table, you must be familiar with the following financial terms. Here is the list:

 Debt:

Debt is money a company has borrowed and must pay back with interest over time. The debt helps investors to understand how much the startup owes to banks and other lenders.

 

 Equity:

 Equity is an individual’s share of a company’s capital. The person who owns equity in the startup owns a portion of the business equal to the amount of equity they hold.

 

 Common Stock

An ordinary share gives its holder a piece of the company. As a shareholder, you have a voting right if you hold common stock in the company and can vote on how the company handles things.

 

 Preferred stock

Preferred stock is a group or series of stocks that give their owners additional rights and benefits. People who own preferred stock come before people who hold common stock.

Stock options

These are a particular type of stock offered to employees that gives them the right to buy a certain number of shares at a lower market price within a specific time frame. 

 

Warrants

Like stock options, a warrant is a contract that gives the holder the right to buy the stock later. But stock options are usually given out through a stock option plan, while warrants are rarely offered by startups and are not part of a stock option plan.

 

 Option Pool

An option pool is a group of shares for senior management and employees. Any stock options that might be issued are supposed to be allocated from this reserved pool.

 

 Pre Money Valuation:

 

 This shows how much a company is worth before investors invest money. Negotiations decide the pre-money valuation between the owners of the company, new investors, and current investors.

 

Post Money Valuation

The post-money valuation indicates how much a company is worth after investors have invested in the company. To figure out the post-money valuation, you add the value of the pre-money valuation to the total cash received during a funding round.

 

 Authorized Shares

This is the number of shares a company can give out now or in the future. The number of authorized shares can also be changed by the consent of the shareholders of a company.

 

 Outstanding Shares

The outstanding shares are the number of claims already issued to investors. Outstanding shares are meant to be allocated from the authorized share pool, and each share issued to the investors adds to the outstanding shares count.

 

 Fully Diluted Shares

Fully diluted shares show how many shares there would be if the holders exercised all outstanding shares, stock options, convertible securities, and other reserved stock. It also considers all possibilities, restricted stock, warrants, and the option pool that hasn’t been used yet and is still in the mysterious state, ready to be issued.

 

 Convertible debt

Convertible debt is debt financing that can be turned into equity later. Convertible debt has clear rules about what conditions need to be met to turn the debt into equity. Also, until the debt is transformed into equity, the interest can be added to the total convertible debt.

 

 

Convertible Note

The convertible note is not meant to be paid back in cash. The idea behind convertible notes is that they can be turned into company shares in the future. When learning to read the cap table, pay close attention to the investors who hold convertible notes and what ranks they hold in the investment hierarchy.

 

How does a cap table help investors?

 As mentioned above, a cap table is mainly used by investors to understand the equity allocation of a company. However, investors can use a cap table in a mixture of other ways, including:

1. Gives investors an understanding of the company's ability to keep talent

Stock options are a significant motivation for employees to work in specific companies, like startups. Investors likely want to look for a large enough pool of employee stock options to attract, keep, and encourage the talent the startup needs to grow.

 

 2. Allows investors to know more about other investors

 The names and percentages of ownership of the other investors on the cap table can make people feel good about the business because it shows that other investors already trust the startup enough to put their money in it. Investors also want to know how many other investors are investing in the startup. Too many investors are a disadvantage since the founders may have to spend a lot of time getting everyone on the same page, which could make future negotiations harder.

 

3. Can help them figure out how much they want to invest:

Investors can figure out how much they should invest in a startup by looking at a startup’s capital table. Using the current value of the startup and an estimation of the startup’s exit value, investors can figure out the right amount to invest. Many things could change in the future, so investors shouldn’t solely rely on the cap table when investing in a startup. However, it still helps investors a lot before they put their money into a business.

 

 

 

How do a cap table work for the startup and its founders?

Founders use cap tables for several reasons.

1. Helps attract investors:

When new businesses start talking to potential investors, they usually want to know who owns the company and what has changed since the company raised the last round of funding. Investors should examine the cap tables to find solutions to questions about a company’s potential, legal problems, or where they stand if the business gets closed down. Investors ideally want to be as close to the top as possible so that they have a better chance of getting their money back in case things go south with the company, and a cap table provides all these details to investors.

 

2. Helps fulfill tax requirements and other rules

In the United States, cap tables are a formal legal document of who owns what company shares. They are what tax rules define if a business, its employees, and its investors have paid all the taxes they owe. So, before investors can invest in the company, they will need to confirm the company keeps its cap tables up to date, so they don’t have to pay for any errors made by founders.

 

3. Testing the impacts of the business decisions

Companies getting ready to go public can use cap tables to see how different business decisions affect the company's equity structure. Shareholders can also see how a judgment will affect them and what they might earn or lose if the company owners go through with it.

 

4. Helps in running the business better

The founders can ensure the right investors are kept in the circle if they have a complete list of all their investors and how much they own. The cap table can also help with decisions like suggesting new shares or stock options and the right time to provide them.

 

 5. Take care of the pool of employee stock options:

A cap table is an excellent way to calculate how much money to put into the employee option pool. Without understanding how to read a capital table, you might end up issuing too many stock options to employees, which can dilute the value of the company’s stock.

 

 6. Make sure that any audits or checks for compliance can go smoothly

 A well-kept cap table can be fundamental for audits and future funding rounds.

 

 

Conclusion

This article discussed How To Read A capitalization table (A Cap Table). Suppose you look for a straightforward way to evaluate your business, manage your cap table, or create a pitch deck. In that case, you can try our intuitive ai based business valuation software or our business valuation calculator, or you can contact us for free advice or schedule a demo.