CAP Tables – What Are They? Sheltowee Business Network Alex Day Oct 18 2019 CAP Tables – What Are They? By J.R. Rose For entrepreneurs planning to take on individual or group investors, a capitalization table approach makes life much simpler for tracking and organization. A capitalization table is a table providing an analysis of a company's percentages of ownership, equity dilution, and value of equity in each round of investment by founders, investors, and other owners. In investor or entrepreneur circles, a CAP Table is the short version of a Capitalization (or Capital) Table. Some people refer to capital as equity, and it is the ownership of a company by 1 or more individuals or other entities. It shows the number of shares/units each owner owns and what percent of the company they own. In other words, it is a record of ownership and as such must always total to 100%. A single proprietor of a business is shown in one line on a CAP Table as owning 100% of it. Two equal partners are shown as owning 50% each and so on. Common things included on a CAP Table are: Name of owner Number of shares/units owned Percent of ownership Purchase price per share/unit and in total (if applicable – there is typically not a purchase price associated with founder shares) Class of ownership (common shares, preferred shares, other classes of shares) Round they were obtained in (typically subtotaled by round) Participating or nonparticipating shares “Non-ownership” items generally included in a cap table in order to allow full transparency as to the ownership or potential ownership: Options & warrants Convertible Notes & SAFEs Any other quasi-ownership instruments May contain calculations showing fully diluted ownership percentages in addition to current Any “pools” of shares/units held in escrow for employees, future executive hires, etc. Probably the most important and misunderstood items listed above are “class” of ownership, “participating vs. nonparticipating”, and the term “fully-diluted” ownership. We’ll go through those in more detail below: Class of Ownership Typical classes of stock include common and one or more preferred classes. Common stock is what is usually allocated to founders and sometimes to friends and family. These shares don’t get any payout on an exit event until the preferred shares get their invested money returned, dividends paid or converted, and any other “preferences” included in the preferred stock agreement. Dividends are typically included with preferred shares and these are accumulated until an exit event and converted to shares at that point before the payout to all classes is figured (preferred shares as noted above getting paid out first). Participating vs. Nonparticipating Participating vs. nonparticipating is another “preference” enjoyed by preferred shareholders. Participating shares get their investment back first upon an exit event PLUS their percentage share of the leftover proceeds. Non-participating preferred shares only get their investment money back plus dividends and DON’T share in the leftovers. One might ask, “Why would they do this?” Well that comes down to yet another term: multiples. Some classes of preferred stock negotiate a “multiple” on their shares. A 1x multiple for example means they get one times their money back before the leftovers from the exit event are shared, a 2x multiple means they get two times their money back before the leftovers from the exit event are shared, and so on. So instead of throwing the dice on a huge payout from a large exit event, they lock in their return by negotiating a multiple and/or high dividend rate and get this return even if the exit is just a small winner and forgo the low probability of a gigantic return. Fully Diluted vs. Current Ownership As mentioned above, certain other financing arrangements which don’t immediately result in shares issued should be listed on your CAP Table for full disclosure. If you were to buy a 10% interest in a company expecting to get 10% of the exit proceeds, you’d sure want to know in advance if there was a convertible note outstanding which would convert to approximately 50% ownership immediately before the exit event. Why? Because if the proceeds from the exit were $1 million you might mistakenly think you were going to get a life-changing $100,000 from the exit. Truth is you’d actually get much less than $50,000 because your ownership was diluted by the convertible note becoming ownership rather than debt AND the 1x preference return on the convertible note would be paid back first too. Ouch! You’d want to make the investment knowing you’d only own 5% NOT 10% of the company upon exit. It still may be a great deal, but you’d sure want to know up front – thus the CAP Table disclosure. “Multiples” also play a roll in fully diluted calculations as they syphon off more of the exit proceeds prior to the allocation of the leftovers. So, if any of your preferred classes have a multiple other than 1x this must be included in the fully diluted calculations on your CAP Table. Finally, the “fully diluted” information is typically shown on the CAP Table as a separate column to the right so that an investor can see what it looks like today AND what it will look like at the time of exit. Some people even put a couple of extra columns (what if) in showing how much all the payouts would be under various exit projections scenarios. In summary, a CAP Table is a record of the financing and ownership of your company which you must keep in order to disclose to potential investors what the ownership of the company looks like should they make an investment. Should they make an investment, remember to update your CAP Table immediately (AND make sure the total ownership always remains at 100%!). Want to learn more about CAP Tables? Join the Sheltowee Business Network (www.sheltowee.com) , check out the curriculum or talk with a mentor. We’ve also got a CAP Table template for members’ top access. We look forward to seeing you at our next Sheltowee Business Network event!