Typically, common concepts associated with having good “corporate governance” include keeping all business documents organized, approving actions with appropriate consents or resolutions, and keeping accurate minutes of all meetings held. One thing that is typically overlooked with respect to achieving proper corporate governance is the maintenance of a company’s capitalization table (or cap table). Cap tables are an extremely important tool in helping an organization keep track of all of the individuals who own an equity interest in such an organization.
At a minimum, a cap table should at least keep track of all equity owners, the type of equity interest they own, the number of units/shares/or interest each equity owner has, and their overall ownership percentage relative to one another. Keep in mind, founders of an organization are typically issued shares at the beginning for very little money, so it wouldn’t be uncommon to see founders holding 50% – 60% (or more) of issued shares during the early stages of an organization. A cap table may be as simple as the following:
The above table is an example of a cap table of an organization with a simple equity ownership structure. However, the process can become more complex when the company begins issuing different types/classes of stock or certain shareholders begin receiving restricted stock subject to vesting schedules under any company equity incentive plan. For example, cap table with common shares and two classes of preferred shares may look like the following:
While this second cap table may have more classes of shares and appears more complex, it accomplishes the same goals as the first table: organizing the equity owners of the organization and keeping track of their equity interests. Remember, there are a lot of factors that can impact a cap table, so a cap table may have multiple different tabs keeping track of different things such as stock incentive grants to employees or conversions regarding convertible debt instruments. All that being said, what exactly are some best practices to adequately maintain a cap table?
KEEP RECORDS UP TO DATE
The cap table should accurately reflect all of the issued and outstanding interests held by all of the investors of your organization at any given moment. As soon as a new investor executes a subscription agreement that is signed by the Company or a current investor is granted additional shares, such new shares or new investors (if applicable) should be included in the cap table. By immediately updating the cap table as new shares are issued, the Company will always have a current and accurate record of all equity owners’ interest. You never know why and when you may need a current cap table, so it is important to continuously update one and keep it readily available.
CREATION OF ADDITIONAL TABS FOR DIFFERENT VESTING SCHEDULES
Perhaps a company issues options or other types of restricted shares under an equity incentive plan or some other similar plan. Cap tables can be updated to include additional information depending on certain vesting schedules of such options or grants. For example, a cap table could include additional tabs such as “grant date”, “exercise price” and a “vesting schedule” to be able to keep track of different terms for options of different shareholders. To address this, a capitalization table could include a separate tab with the following information:
TRANSFERS OF SHARES
While the transfer of shares in privately held companies are typically subject to transfer restrictions, shares still may be transferred between shareholders or to other third parties upon meeting certain conditions. It is important that the cap table accurately reflects these transfers of shares to avoid leaving individuals on the cap table who are no longer shareholders or counting certain shares twice (and therefore inaccurately diluting all the other shareholders).
VOTING RIGHTS
It is common for organizations to have different types or classes of stock that have different voting preferences. For example, common shares may have the ability to vote while preferred shares do not. Tabs on the cap table on whether certain shares are voting or not may provide management with benefits in determining what shareholders can vote on certain matters. This can be especially helpful in determining the number of shareholders needed to approve certain corporate matters that require shareholder approval.
CONVERTIBLE INSTRUMENTS
Another common tool used by organizations is convertible notes or other similar documents such as “SAFES”, “KISS’s” or “SEALS”. These are instruments that grant an investor the right to equity in the future. While these do not give the holder of such instrument equity at the present time, it may be beneficial for organizations to keep track of them to see how the cap table will be affected when such instruments do convert to equity. For example, a capitalization table could include a separate tab with the following information:
BOTTOM LINE
Maintaining cap tables is a more tedious process that one may anticipate, however, proper upkeep of a cap table can provide multiple benefits for an organization. If you need help in creating or maintaining a cap table for your organization, please contact an attorney a Doida Crow Legal for a free consultation.