Cap Table Basics: Understanding Ownership Structures

Cap Table Basics: Understanding Ownership Structures

If you’re a startup founder or have invested in a company recently, you’ve likely heard of a cap table. A cap table is a crucial document that outlines the ownership structure of a company. It’s important to have a good understanding of what a cap table is, how it works, and how it can affect your ownership.

What is a Cap Table?

A cap table is a spreadsheet or a document that lists out all the securities issued by a company. Securities can be anything from common shares, preferred shares, stock options, warrants, convertible notes, or any other equity instrument that gives an investor the right to buy or sell a percentage of ownership in the company. The cap table shows who owns what, how much shares they own, and at what price. It tracks the dilution of ownership over time and is central to the governance of a company.

Why Do Companies Need a Cap Table?

A cap table provides a clear picture of the ownership structure of a company which helps in raising capital, mergers and acquisitions, valuations, and exits. Investors use it to evaluate the company’s future potential and risks. Employees use it to understand their equity compensation and value. It helps prevent any disputes or misunderstandings regarding ownership. A cap table is essential for investors and founders as it determines how the equity value is shared among shareholders and the returns they can expect.

How Does a Cap Table Work?

A cap table shows, in an organized manner, how ownership is distributed among the different securities holders. Starting from the founders, who typically own 100% of the company at the beginning, investors come in and purchase a percentage of ownership in exchange for capital. Eventually, the company may issue more securities such as employee stock options or convertibles to fundraise and expand the business. As the company evolves, the ownership structures change. A cap table shows how much each stakeholder owns, what percentage of the company they hold, and what rights they have.

Understanding Ownership Structures

Ownership structures can vary depending on the nature of a company’s fundraising history. Before understanding the ownership structure, it’s important to differentiate between common and preferred shares.

Common Shares: Common shares are the most basic type of equity issued by a company. They represent the ownership of the company and the right to vote on company decisions at the annual general meeting. Common shares have the lowest priority in terms of payout during a liquidity event such as a merger or acquisition.

Preferred Shares: Preferred shares are equity instruments that give priority over common shares in terms of payout during a liquidity event. Preferred shares typically have additional rights such as voting rights, conversion rights, and dividend rights.

The ownership structure is determined based on the percentage of ownership that each shareholder holds in the company. The most common ownership structures are:

Founder-Owned: At the beginning of a company’s inception, typically the founders retain 100% ownership of the company.

Seed Round Ownership: After raising the first round of funding, founders will start to lose some percentage of their ownership to seed investors.

Series A Ownership: Series A is typically the first venture round of funding for a company. At this stage, founders will sell a larger percentage of ownership to venture capitalists who will purchase preferred shares.

Series B and Beyond Ownership: As companies mature, they may continue to raise funding rounds such as series B, C, or D. Ownership structures may vary at these rounds depending on the investors and the amount of funds raised.

Conclusion

A cap table is essential for any company to understand and manage its ownership structure. It’s important for founders, investors, and employees to understand the basics of cap tables, how they work, and how they can impact the value of their equity. Understanding ownership structures is crucial to ensure a fair and transparent system in any company. By keeping a well-maintained cap table, companies can keep track of the ownership structure and make informed decisions in terms of fundraising, mergers and acquisitions, and valuations.