3 Types of CapTable Mistakes That Startups Founders Should Avoid
As a founder, when it comes to the ownership of your company, you cannot afford to have ambiguity.
A capitalisation table (CapTable) is a record of all your company's ownership securities - including but not limited to common stock, preferred shares, convertible notes, warrants and options - as well as who owns them, and how much.
Besides the business plan, this would be the most important documentation in any company. Currently most companies in this part of the world manage this through spreadsheets, which would suffice if the company is nascent with a dozen stakeholders and a simple ownership structure consisting mostly of ordinary shares. However, in most private companies, even in young start-ups ownership securities extend beyond common stock. Furthermore, in the fortunate case when a company grows in leaps and bounds, managing its cap table not only becomes time-consuming and expensive, but also may slow down or jeopardize important strategic activity.
Team Qapita has outlined some likely scenarios that necessitate digital management of equity ownership in fast-growing companies - and why a software solution would avoid all the pitfalls while saving time and money.
Single Source of Truth
Whilst the prima facie record of ownership is the regulatory filings (ACRA or Registrar of Companies), those records do not capture information pertaining to more complex instruments of ownership (options, warrants, convertible notes etc.).
When a company grows out of the founders’ garage, many more hands get involved in “managing” its cap table, such as investors, legal counsel, corporate secretaries, and employees in the finance team. Despite diligent communication among the different stakeholders, the existence of multiple versions of the cap tables almost inevitably leads to discrepancies and miscommunication.
Some discrepancies are easier to rectify than others, but since a spreadsheet is a static snapshot (where we are now), complications get escalated when
Furthermore, as the number of users increases across stakeholder organisations, it is almost impossible to update everyone whenever there is a change in the details. This backlog of inconsistency accumulates across multiple versions and eventually, at the time of transaction due diligence, lawyers and bankers may have to be involved for an expensive and painful clean-up prior to the next transaction which would have been easily avoidable.
Things need not be this way. A software dedicated for cap table management would easily allow for automatic updates and synchronisation while keeping track of every single transaction or changes in a dynamic manner - no information is ever lost and there is a single source of truth accessible and transparent to all stakeholders.
Qapita ProTip: In this case, a stitch in time saves nineteen. Digitise and organize your cap table early.
Equity Awards as part of payroll
Most early-stage businesses (should) use equity incentives to retain and motivate talent. These schemes are only as useful as perceived by the recipients. Since these awards are “illiquid”, their value proposition remains a black box except when a new round is being raised. Employee engagement around the value proposition of their ESOPs is quite broken.
Exercise prices, exercise conditions, vesting schedules, cliff - and all the accompanying jargon, not to mention the tax implications of actions taken creates a web of complexity that clouds the central value proposition that the employee wants to know is “What does this equity award mean? How much value does this create for me in each scenario?”. It is almost impossible to systematically communicate this value proposition when the cap table lives on a spreadsheet (think of scores of employee owners' different securities and vesting schedules). Founders are unable to communicate this value effectively despite best intentions.
With a software based approach, the ESOP value proposition can be succinctly, accurately, continuously and systematically be distilled and communicated to each employee. Furthermore, with the cap table and ESOP digitized, it paves way for significant liquidity solutions in the future - what’s better than knowing the value? The ability to convert some of it into cash.
Qapita ProTip: Think of more frequent vesting schedules for ESOPs. Why should ESOP communication be quarterly or annual when pay slip communication is monthly?
Ongoing Investor Management
Founder(s) already spend a substantial amount of time and effort in fund raising - courting investors takes a toll. However, investor management does not end with fundraising - that is just the start. Many investors, especially institutional investors, need regular updates including about ownership for reporting and compliance purposes. With large private financing being available, companies that scale are also staying private for much longer before they undertake a liquidity event or an exit.
Investor management around ownership can be much easier if access to information is made available 24/7/365 - and companies ensure information is accurate and available in a user-friendly format. Cost and time savings aside, this allows for both the founders and investors to focus on the business aspects.
Qapita ProTip: Digital records are much safer than excel sheets flying around on email. Worried about confidentiality? Most cap tables are publicly available today for a small cost.
Being Transaction Ready
Companies are bound to undergo major strategic maneuvers such as a merger, acquisition or simply raising a new round of capital. These are all incredibly complex processes that traditionally require working with advisors, bankers, legal counsel, tax consultants and such subject matter experts. Digitising equity management can spare the founders and company management considerable time on due diligence and financial modelling.
Scenario modelling would not only be an order-of-magnitude quicker and arguably more accurate, but also allow for non-financially savvy stakeholders to perform complex financial analysis (waterfall analysis, returns calculations) with a few simple clicks. By demystifying the seemingly complex financial analysis, digitized cap tables and ESOPs allow for better and quicker decision making while saving time and money.
Qapita ProTip: Run scores of scenarios at the click of a button. Simplify and understand complexities like liquidation preferences, multipliers and conversions in your term sheets.
Say Yes to the Digital Revolution
We hope by now you are convinced of the undesirable consequences of continue letting your cap table live on spreadsheets, here’s a quick recap:
Pitfalls and hassles should no longer exist for lack of digital adoption in 2020 - where everything is getting digitized, even money!
Talk to team Qapita to make your equity management completely hassle free. Psst...for companies with less than 20 stakeholders - it’s free of charge!
Reach us at email@example.com