Accurate capitalization tables are critical for keeping track of who has what stakes in your company.
At the start, when it’s just you and a couple of co-founders, it’s easy to keep track of who’s got what. But as the company hires a team and takes on external investments, the situation can get murky.
Cap table mistakes startups make can be both challenging and costly to sort out.
What is a Capitalization Table and Why Do You Need It?
The capitalization table lets startups and their founders keep track of who owns which portion of the company. But ownership isn’t the only concern – shareholders also have control over the company and are entitled to be involved in any significant decision.
For a dynamic, growing company with constant changes, the cap table becomes a living document.
Sometimes companies promise shares as a way of offsetting the lower salaries sometimes offered by cash-strapped startups. Whenever you hire and if (or when) those people leave, it can have an impact on your cap table.
Further, the cap table is critical when courting investors, who are essentially affected by two sides of the same coin. The potential investors want an equity stake in the company. But they also need the record-keeping in the cap table to accurately reflect the current situation, illustrating what that equity stake means for them.
Why an Accurate Capitalization Table is Important
Through these constant changes, it’s essential to keep your capitalization table up to date. It’s affected by funding rounds and involves tax compliance, both for founders and the business itself.
It also impacts the exit strategies of your owners (employees included). If one of the founders or shareholders decides to exit the business, you’ll need accurate records of what they are owed to make the transition simple.
Common Capitalization Table Mistakes
There are a few cap table issues that arise frequently. Later on, we’ll look at how you can avoid them.
This issue can manifest itself in several different ways. For example, it could be multiple names for the same person throughout numerous transactions.
- Imagine that when an early employee, Nicholas Walters, was hired, he received 100 shares (10% ownership stake).
- Later, he purchased another 50 shares made available by a departing founder who liquidated his shares.
- However, this 2nd transaction was recorded under Nick Walters.
This incorrect name spelling and other inconsistencies can make it difficult to maintain a clear cap table.
Improper Tracking of Complex Transactions
Issuing options is a common way of rewarding employees, especially in early-stage companies tight on cash.
But options can be complex to track and manage. Incorrect information related to issue dates, turnover, and exercise dates can cause issues for the company and the employees when tax time comes around.
Not Updating Regularly
As with most financial record keeping, gaps between the event and the record update often lead to inaccuracies.
But because cap tables are used so infrequently, it’s easy to neglect until it’s too late.
Manual Record Keeping
A modern company should be doing very little financial work by hand (i.e., in a simple spreadsheet). This includes maintaining your cap table.
Manual work increases the likelihood of human error, no matter how capable your finance team is.
Misinterpreting Laws and Regulations
Let’s face it; the stakes are high when it comes to the cap table.
Inaccuracies can put both your startup, potential investors, and you personally at risk through:
- Trouble with the IRS
- Lawsuits from current or former stakeholders
Any of those can be complicated and costly issues to deal with.
How to Avoid Capitalization Table Mistakes
Fortunately, with the help of a capable accounting team and the proper software tools, many of these mistakes can be avoided.
Your lawyer and accounting firm can help you set the terms and conditions for when and how you want to issue shares. Also, align in advance what percentage of shares you’d like to make available to key stakeholders.
A software solution like Carta is perfect for automating and centralizing your cap table data. This way, your cap table will never be out of date.
How does Carta Work?
Carta is a software solution that will allow you to stop manually managing your data in a spreadsheet.
Carta can handle many types of transactions, including issuing options and collecting digital signatures. Carta can also cover all kinds of securities, including:
- Preferred Stock
- Restricted stock units and awards
- Profits interests
- Convertibles notes
- And more
Eliminate the need for extensive clean-up rounds before a big event (IPOs, fundraising, or M&As). With Carta, your cap tables are updated in real time, giving you up-to-the-minute info on who owns what.
Ready to Manage Your Cap Tables With Carta?
Properly maintaining your cap tables can be a full-time job. The stakes are high, and mistakes can be costly and time-consuming to rectify.
If you’re past the early stages, your cap table likely needs to be cleaned up before you can put it in a tool. Fed up with trying to manage your capitalization tables manually? Let us help you get Carta set up properly. Schedule a free consultation with the startup accounting experts at Founder’s CPA to learn more about how Carta can help you manage your cap table.