How does cap table financial modeling work?

A cap table financial modeling is used by startup companies or early-stage ventures that is used to list all the company’s securities such as common sarees, warrants, who owns them, and the prices paid for each individual investor for their stake in the business.

Why cap table is crucial for startups to understand

In the early phases of a startup or endeavor, cap tables are settled in the starting phase of the business before other company documentation. The cap tables, which identify prospective funding sources, initial public offerings, mergers and acquisitions, and other activities, get more complicated after a few rounds of financing.

What does the cap table consist of

Proper financing management plays a critical role in understanding how the business works in the initial phase. They come in the form of legal documents in addition to transactions. Let’s take a look at what the cap table consists of -

1. Stock issuances
2. Transfer
3. Cancellations
4. Debt conversions to equity
5. Other forms of financing documents

Having this documentation is a good gauge of how the company was founded, it helps to demonstrate to future investors how the company is managing its finances. A list of the shareholders and their specific shareholdings comes first in the most basic cap table.

To analyze the company’s true value, venture capitalists, business owners, and financial analysts use cab tables to examine significant events including ownership dilution, ESOP (Employee stock ownership plan), and the issuance of new securities.

Having a properly made cap table would not only help startups understand their business better, but also allows room to grow their business by selling shares of the company to a potential investor who may have ideas on how to better develop the business.

Now that we understand the importance of a cap table, we will take a look at how a cap table is created.

How to make a cap table?

Most startups or early-stage ventures establish a cap table at the beginning of the firm by using a well-detailed spreadsheet. The cap table should have a clean, straightforward layout that makes it apparent who owns what shares and how many are still outstanding.

The most typical structure lists the type of securities on the X-axis and the names of investors or owners of securities on the Y-axis. Along the X and Y axis, the cap table may also provide information on how the names of investors or owners of securities helped contribute to the business growth.

As an alternative, a firm can use a spreadsheet template that enables the inclusion of data and figures pertinent to their industry. The number of shares outstanding for the corporation should be shown in the first row. The next rows need to include the following:

• Authorized shares — Number of shares the company is allowed to issue either through private or public sales
• Outstanding shares — Number of shares held by all shareholders in the business
• Unissued Shares — The number of shares that have not been issued; this can be in a form of employee stock-based compensation once an employee has worked for a period of years or performance
• Shares reserved for stock option plan — Unissued shares reserved for future hires.

Another slide of the cap table which includes the capitalization is as follows:

• Shares owned by shareholders — Number of shares owned by each shareholder
• Names of shareholders — Name of the shareholder who has bought x amount of shares
• Stock options — stock options owned by the shareholder

The table lists the company’s founders first, then executives and other equity-holding employees, investors like angel investors and venture capitalists, and finally other employees.

Benefits of setting up a cap table

With a cap table set up, this creates transparency in the business which would allow investors to better understand the finances of the company. With that, here are the benefits of setting up a cap table -

Raising funds

When investing in a company, investors will want to know how the company’s ownership is set up and what modifications have been made in past financing rounds when negotiating with them for additional capital. The cap table can provide answers to any queries that investors may have.

For instance, novice investors may be curious about how their investments may affect other investors. They want to stay away from any potential legal disputes that would put them at odds with other investors.

Additionally, investors want to know where they rank in terms of liquidity. In the event of a liquidity event, they want to get paid back before other investors, therefore they want to sit at the top.

Builds Trust

By creating a cap table, investors and employees will have a better understanding of the business performance and who may be losing conviction or selling their shares. For example, if the CEO of the company is selling shares before their earnings or after the earnings call, it is a sign that the business may be shaky or the CEO have less conviction in the short term.

Hiring employee

Despite how the cap table is usually being invested by investors and executives, the majority of businesses are opening up about cap tables to their staff. This aids in retaining top performers and keeping them inspired to continue working for the business.

The compensation CEOs will receive from their ownership stakes should the company be sold or liquidated are something they are interested in knowing. Companies that are organized and open are more likely to keep their personnel, even when they are having financial difficulties.

Tax and regulations compliances

Cap tables are employed in the majority of nations, including the United States, as an official legal record of stock ownership. Cap tables are used by the tax authorities to determine if the business, its workers, and its investors are paying the required amount of taxes.

Businesses may end up paying more taxes than necessary if the cap tables are not updated on a regular basis. The business might have to pay hefty fines for errors that it could have prevented if it submitted fewer taxes than necessary.

Selling the company

The proceeds from the sale are distributed among shareholders when the company decides to sell the business to another company. The cap table specifies the amounts and the order in which each shareholder will receive the proceeds. A revised cap table aids in preventing disputes and lawsuits that might result from the distribution of proceeds.

End Note

Having a properly structured cap table will significantly attract investors and crowd funders into the business as the business aims to be as transparent about how they are managing their money and provides a hint of information on how the future prospect of the business is going to be. Use Eqvista to streamline your company’s equity management. Send us a message if you’re interested in finding out more about the cap table services we offer. Come aboard with the rest of the 8000+ businesses already utilizing Eqvista!