As a founder of a startup, one of the most important things you need to understand is how the startup’s cap table works– both at the start of the enterprise and as it evolves. The cap table reflects, among other things, your equity in the company and,therefore, controls your personal financial outcome in the startup. What is the point of going against all odds, working your ass off and creating a successful startup, and even then not being able to get any financial upside because of your failure to pay attention to your equity-and ownership rights- in the company.
It is very easy to structure the initial capitalization of the startup and yet many founders screw it up by either trying to be creative or taking advice from “friends” who may have other startup companies. While creativity and networking with fellow founders is hugely valuable for the startup, when it comes to structuring the equity-and for that matter any other legal issue- you need to keep it simple and follow the lead of experienced counsel (and any other advisor who has a demonstrated record of building successful companies).
At an early stage of the startup, you must sit down with your counsel and your co-founders and put together a detailed and futuristic capitalization plan, keeping into account the company’s hiring and capital needs, both present and in the future. The capitalization plan should also take into account any expected and unexpected turn of events in the startup’s growth, like the need to raise more capital than anticipated, any dip in valuations or funding environment, and/or the need to hire high caliber talent at very competitive equity incentive terms. Owning stock in a company is a fluid process – in that, your respective percentage ownership in the company will get diluted over a period of time [unless the startup is not growing at all, or in the one-off unique case where it is bootstrapped through a successful exit]. In any event, understanding how the cap table affects your personal financial outcome, and is important in your ability to retain control in, and be relevant for, the company you start. Even the brilliant Steve Jobs got bitten once because he failed to keep track of such a critical element of starting up.
Contributed by Anil Advani, Founder and Managing Partner of Inventus Law. You can follow Anil on Twitter @advani_anil
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