Carpenter Ayers posted an update 7 months ago
A VC cap table (cap table) creates a simplified framework from venture capital investors’ view in order to give a basic overview of an angel investor and employee partnership ownership within a venture or budding startup . In that post, we discussed VC Term Sheets and why they are relevant to the investment decision making process. Specifically, we explored what a venture capital firm or VC is, what it does, and what they look for when evaluating investments. In this post, we’ll take the focus slightly away from that discussion and explore a different focus: how you can use the table to facilitate your investment decision making process. We will discuss in this article how a cap table can be used to:
* Finance seed investments. If you are working with an angel investor or venture capital firm, often times they will provide you with a complete cap table, listing not just the dollar amount and line of credit associated with the financing, but also the percentage ownership stake that the company has as part of its equity structure. This allows you to make better sense of a funding situation. In addition to providing you with a more accurate look at potential funding options and business plans, it can help you prioritize, since you have a better sense of ownership within the company. You can then work to match an appropriate funding scenario to the best business opportunity, rather than jumping through a number of hoops as in the case of small/growing companies without a substantial amount of capital.
* Use the cap table math to obtain convertible notes. Another common use of a cap table is to obtain convertible notes, or notes that allow you to convert a note into cash. This is helpful if you are working with an angel investor who is interested in providing you with funding. This is also useful for the entrepreneur to whom the notes are issued. As with most financing options, you can use the pre-money valuation to determine the maximum amount that you can raise using convertible notes.
* Work with private placements. Sometimes entrepreneurs apply for a series of convertible note holders; they often sell their ownership stake in the business when they are ready to move on. Using a cap table can be useful here to calculate potential ownership limits. This is especially true for small/growing companies where the ownership stake may only be a few individuals.
* Use the post-money cap table for balloon payment rounds. One of the primary reasons that entrepreneurs choose to raise money with convertible notes or an investment vehicle is to give themselves time to build their business. In this sense, it makes sense to do your math with a post-money cap table to determine your liquidity position at each point in the funding process. As the value of the note grows through the sales of notes and issuance of additional securities, the amount of your net cash increases.
* Combine the post-money cap table management with other metrics. Other metrics might include gross sales, years of experience, number of employees, net sales growth, reinvestment of earnings into the business and/or other expected revenue sources. Together, these metrics can provide you with a picture of your actual return on investment.
* Don’t play the numbers. It’s usually unrealistic to expect to have a full round of capital raising events before your business is off the ground. It’s also unrealistic to think that you can have proceeds of all of your capital raises within five years. If you’re counting on getting one or more of your capital raises within that time period, don’t even think about it. It’s called a ludicrous investment. If you want to raise money, it’s much more practical to focus on growth, future earning potential and making an investment in your business that will grow over time rather than expecting profits right away.
The point of Cap Table Math is not to scare you. The goal is to help you focus on the present and maximize your potential through early stage funding and convertible notes. It’s also to help you avoid a bad financial decision in the future. By following this advice, you should be able to raise money without having to sell all of your shares, or worse, taking a loss on every share that you sell. Cap Table Math is meant to help you get organized and minimize your risk.