Cap Tables & Stock Options 101

By October 27, 2020Uncategorized

Welcome to the final post of Tandem Innovation Group’s first blog series: Startup Financial Management 101!  In this four part series, we provided the basics on managing your startup’s finances.  From breaking down key concepts, to providing tips, and illustrating through examples; this series is the go-to resource for entrepreneurs.  Curated with the expertise of Tandem network professionals, we want to make it simple for you to understand your startup’s finances.  

 

Today we are looking at cap tables and stock options.  We will be explaining what these are, why they are important, and how you can use them to propel your startup to the next level. 

What Are Cap Tables?

Capitalization tables, otherwise known as “cap” tables, are a breakdown of a company’s shareholders’ equity.  Cap tables show all of equity ownership capital, including common shares, preferred shares, options, and convertible equity.  They list out each type of equity ownership, the individual investor, and the share prices/investments. 

What Are the Different Fundraising Rounds?

There are five key fundraising rounds, each of which involves a different type of investor and stage of company development.

The Seed round generally involves a raise between $500k- $2M. With a valuation of approximately $3-6M.  Anything before that is a pre-seed.  Anything more than that can sometimes be considered a Series A where you are raising between $2-$15M,  where the valuation is between $10-$30M.  Your valuation will likely depend on how much you need and how much you are willing to give up.

Round

Stage of Company

Investors

Pre-Seed Selling the founder’s idea. Family & Friends, small Angels
Seed Have a concept / business plan you want to prove. Angels, Accelerators /  Incubators, small VCs
Series A Proof of concept exists, need funding to ramp up. VCs, large Angels
Series B Scaling, geographic / product line extension, team expansion. VCs, small PE
Series C Growth, build market position, strategic acquisitions, maybe starting to plan exit. PE

What Are Employee Stock Options?

Employee stock options are a type of equity compensation for employees.  Instead of granting shares of stock directly, the company gives derivative options on the stock.  

 

There are pros and cons to this compensation structure;

Benefits

  • Recruit top talent
  • Align employee incentives
  • No loss of control (typically no voting rights)
  • Employees share in company upside
  • Arguably no cash cost to company
  • Advantageous tax treatment for CCPCs

 

Implications

  • Dilutive to existing shareholders
  • Forego opportunity to issue shares for additional cash
  • Expense for accounting purposes
  • Program administration

There are six key characteristics that define each stock option;

 

Grant price/exercise price/strike price – the specified price at which your employee stock option plan says you can purchase the stock

 

Issue date – the date the option is given to you

 

Market price – the current price of the stock

 

Vesting date – the date you can exercise your options according to the terms of your employee stock option plan

 

Exercise date – the date you do exercise your options

 

Expiration date – the date by which you must exercise your options or they will expire

What Are Preferred Shares and Convertible Debt?

Common shares are more suitable for long-term growth investors.  Preferred shares and convertible debt are better for more risk-averse, yield seeking investors who still want some upside potential.  

 

The follow compares common shares, preferred shares, and convertible debt on seven key dimensions;

Common Shares Preferred Shares

Convertible Debt

Redemption Value None Yes Yes (face value)
Dividends Only paid when declared Fixed, regular dividends

Can be deferred

Mandatory interest payments
Tax Treatment After-tax dividends After-tax dividends Pre-tax interest
Voting Rights Pro-rata to number of shares None None
Redeemable / Retractable No Sometimes

Can also be convertible

Sometimes
Liquidation Preference Last Ahead of Common Shares Ahead of all Equity
Upside Potential Unlimited Limited to redemption value (unless convertible) Limited to face value (unless convertible)

That Concludes Our Series!

Our goal at Tandem is to make it easy for you to establish a sound financial platform to build your business on.  This is the end of our series, but feel free to check out our previous posts on Cash Flow, Financial Modelling & how to make sure your startup is making money

Our Contributors

Jacinthe Koddo – Contract CFO/COO, Tandem Co-Founder & Director of Client Experience

Tania Lo – Contract CFO/COO, Tandem Co-Founder & Managing Director

Matthew Stevens – Contract CFO

Teresa Pang – Contract CFO

Resources

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