Notes

How to Calculate a Cap Table
"One of the unwritten rules of venture capital is there are just 100 shareholders on the cap table." This is a classic mantra of venture capital. It is a zero-sum equation. Each firm has a unique set of minority and majority holders on its cap table; each firm wants to maintain a small but sizeable minority share of this valuable asset.

A venture capital manager's job is to determine if a company has the appropriate amount of equity or debt to raise capital through equity or debt. The math is relatively simple: the higher the numbers, the better. startups is why a large part of cap table math is taken out of the funding round by the founders.

The math of cap tables is an important part of financing rounds. Most of the time, however, vcs do not have the time to devote to this tedious and laborious work. This is where vcs hire outside companies to perform this labor for them. Private investors typically hire an accounting firm to perform vcs' calculations, since the vcs do not usually have the time or expertise to perform the task independently.

There are two common types of vcs that perform cap table math for their clients: institutional investors and venture capitalists. Many firms use the pricing of their own funds, as well as those of their clients to determine their share size. In addition, some firms use a multiple-family pool of money that it issues to various groups of owners. The pricing of a company's cap table is determined at this point, along with other factors, such as trading price, dividends, ownership structure, and potential liquidation value.

Incorporating an institution into the pricing of a company's cap table is fairly straightforward. The investors that make up the pool buy shares in the business at a pre-determined price, regardless of whether or not the business is making profit. In startups , these shares are then sold to the institutional investors.

Venture capitalists are not only interested in determining the value of an ownership stake. startups want to know what kind of risk they will be taking by investing in a given company. If they see that the company is unknown, they may choose not to invest in it. To adjust for this risk, vcs use methods such as multiple-period fixed earnings, or MPE, which are used to estimate what a company would earn if its value were adjusted for the time period it is open for. The resulting numbers then allow new investors to estimate how much they could stand to gain or lose if they were to buy an unallocated options position in the business.

Often, the founders of a company are compensated in stock or in some other way. However, if there is startups of all the stock or if the company goes public, the owners of the company will often sell their stock to dilute their ownership. Dilation is an act of selling some of the ownership in the business to an additional set of investors. A cap table can be calculated to see how much the dilution will affect a particular holding. For instance, if the founders sell all of their shares, they will become one of hundreds of thousands of owners, and their cap table will be adjusted accordingly.

Dilation can have two negative effects on potential investors. One is the loss of control over the business. When the majority of shares are owned by just a few investors, control is lost. However, even in the best cases, there will be a minority of shareholders that own a substantial amount of shares that can dilute the overall value. The other effect of dilution is to create an opportunity for investors to control the outcome of the business.
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