Reading a US cap table in plain terms, from SAFE to 409A

What to take away

What a cap table is actually recording

A cap table is a list of who owns what, and under which contract. That is the whole idea. Each row is a person or entity, a number of shares, and a legal document that says how those shares were issued or will be issued.

The trap for first-time founders is treating the spreadsheet as arithmetic. It is not. Two companies with identical share counts can have completely different economics because of conversion terms, vesting schedules and liquidation preferences buried in the documents.

Start with four categories. Founders hold common stock, usually restricted and subject to vesting. Employees hold options, which are the right to buy common stock later at a fixed price. Investors hold preferred stock from a priced round, which carries extra rights. And pending instruments, SAFEs and convertible notes, sit off to the side until they convert.

The San Francisco Bay Area coinvented most of this vocabulary, so local investors assume you know it. If you need a refresher on the shorthand, the business acronyms every entrepreneur piece covers the terms that show up in a first term sheet.

One more distinction matters early. Ownership percentage is not the same as economic outcome. A founder with 30 percent of the shares can receive less at an exit than an investor with 15 percent, depending on preference stacks.

SAFEs: the instrument Bay Area investors sign before a round

A SAFE is a Simple Agreement for Future Equity. Y Combinator published the standard forms, and Bay Area angel investors sign them because they are short, cheap and unnegotiated.

A SAFE is not a loan and not stock. It is a contract that converts into stock when a triggering event happens, usually a priced round. Until then it sits on the cap table as a placeholder with a conversion formula attached.

The two variables that matter are the valuation cap and the discount. The cap sets the maximum price at which the SAFE converts. The discount gives the SAFE holder a percentage off the price paid by new investors in the next round. Founders usually negotiate one or the other, not both.

Here is a worked example. An angel invests 250,000 dollars on a SAFE with a 5 million dollar valuation cap and a 20 percent discount. The next round prices the company at one dollar per share on 10 million fully diluted shares.

The 5 million dollar cap divides by the 10 million shares to give a conversion price of 50 cents. The 20 percent discount gives 80 cents. The holder converts at the better price, 50 cents a share, and receives 500,000 shares.

Sign four SAFEs of that size on the same terms and the four holders together convert into 2 million shares. Added to the 10 million share base, that is about 17 percent of the expanded count. The founders and early holders absorb it, not the new investors.

The post-money SAFE changed the math. Under the older pre-money form, founders could not know how much dilution all their SAFEs would cause until the round closed, because each SAFE diluted the others. Under the post-money form, each SAFE's ownership is fixed at signing, so the founder's dilution is knowable in advance.

That clarity is why post-money SAFEs became the default in San Francisco and Palo Alto. It also means founders give up more of the company than they expect if they sign many small SAFEs. Model the stack before you sign the fifth one.

SAFEs are exempt offerings under federal securities law, and the SEC's capital-raising building blocks page explains the exemptions that let startups raise without a full registration.

Convertible notes and how they differ from a SAFE

A convertible note is debt that converts into equity later. It has an interest rate, a maturity date and a repayment obligation if no qualified financing happens first.

That maturity date is the real difference. A SAFE has no maturity and no interest. A note does. If the startup does not raise a priced round before the note matures, the founder must repay it or negotiate an extension, and that negotiation usually costs equity or warrants.

A note also has a senior position. Note holders are creditors. If the company winds down before conversion, they stand ahead of SAFE holders and common shareholders. SAFEs are not debt, so they rank behind notes but ahead of common stock in most outcomes.

Interest accrues on a note, which quietly increases the conversion amount. A note that converts after 18 months carries more principal than the founder borrowed, and that extra converts too.

Say a founder borrows 500,000 dollars on a note at 6 percent simple interest with an 18 month maturity. At conversion the interest that has accrued is 45,000 dollars. The conversion principal is 545,000 dollars, about 9 percent more than the amount borrowed, and the whole 545,000 dollars converts.

In the San Francisco Bay Area, notes were standard before 2013 and SAFEs took over after. Some seed investors still prefer notes because the maturity date gives them room to force a priced round or a payback conversation. Founders prefer SAFEs because there is no clock.

Both instruments are usually paired with a valuation cap and sometimes a discount, and both convert at the next priced round. The choice between them is a choice about who carries the timing risk.

Priced rounds, pre-money and post-money, in plain terms

A priced round is a financing where the company sells preferred stock at a fixed price per share. The price comes from a negotiated valuation, and the round produces a real share count, not a conversion formula.

The vocabulary to keep straight is pre-money and post-money. Pre-money valuation is what the company is worth before the new money arrives. Post-money valuation is pre-money plus the amount raised. A startup in the San Francisco Bay Area raising on a 12 million dollar pre-money that takes 3 million dollars closes at a 15 million dollar post-money.

Price per share comes from the pre-money, not the post-money. Divide the pre-money valuation by the fully diluted share count before the round, including the option pool and all converting SAFEs. That quotient is the price new investors pay.

Suppose the founders hold 8 million shares and the option pool holds 2 million, for 10 million fully diluted. A 12 million dollar pre-money gives a price of 1.20 dollars per share.

A 3 million dollar investment buys 2.5 million new shares, so the post-money count is 12.5 million and the new investors own 20 percent.

Notice what the table shows. The founders did not sell shares. Their percentage fell from 80 to 64 because new shares were issued. That is dilution, and it is the normal result of a priced round, not a mistake.

A term sheet sets the pre-money, the option pool size, the liquidation preference and the board composition. The liquidation preference is the part founders underestimate. A 1x non-participating preference is standard, but a 2x preference changes the payout math at a modest exit.

Example: a 2x preference on a 5 million dollar investment takes 10 million dollars off a 20 million dollar exit before common holders are paid.

For the accounting side of what these numbers become after the round, the three statements guide connects the balance sheet to the cash flow statement, which is where a priced round actually shows up.

The option pool and the dilution word nobody says out loud

The option pool is a block of shares reserved for future employees. It exists before those employees are hired, which means it dilutes existing holders immediately even though nobody has been granted anything yet.

Investors usually require the pool to be created or topped up before the priced round closes. That requirement is why the pool is called a pre-money pool: it is counted in the fully diluted share count used to set the price, so the founders absorb the dilution rather than the new investors.

A typical Bay Area seed round sets the pool at 10 to 15 percent of the post-money capitalization. Treat 10 to 15 percent as a typical range rather than a fixed rule. The right size depends on the hiring plan.

If the pool is too small, the company has to return for a pool expansion later, which dilutes everyone again and signals poor planning.

Option pool dilution is the number founders notice last and investors notice first. Ask what the pool is as a percentage of the post-money, not as a share count. Percentages travel between rounds; share counts do not.

Grants from the pool usually vest over four years with a one-year cliff. That structure is typical, and it means an employee who leaves after 11 months gets nothing. The unvested shares return to the pool and can be granted again.

When you read a cap table, add the pool to the fully diluted total before you compute anyone's percentage. Founders who forget this step think they own more than they do, and the error compounds with every round.

409A valuation: why the number exists and who signs it

A 409A valuation is an independent appraisal of the fair market value of a company's common stock. It is named after the section of the Internal Revenue Code that governs deferred compensation, and it exists for tax reasons, not fundraising reasons.

The problem it solves is simple. When a company grants stock options, the exercise price must be at least the fair market value of the common stock on the grant date. If it is lower, the option is discounted and the employee owes tax on the difference immediately.

A 409A valuation gives the board a defensible number to use as the exercise price. The board adopts it, and the company can then grant options without triggering immediate tax for employees.

Who signs it? An independent third-party appraiser produces the report, and the board of directors adopts the valuation. The IRS does not approve it. The valuation is the company's position, and it can be challenged on audit.

A 409A valuation is usually good for 12 months, or until a material event such as a priced round, a large SAFE, or a significant change in the business. A new priced round almost always invalidates the old 409A because the preferred price is evidence of a higher common value.

Common stock is usually valued below preferred stock because preferred carries rights that common does not. The difference is a marketability and preference discount, and it is why the 409A number is lower than the price per share in the last round.

Founders sometimes confuse the 409A with the valuation cap on their SAFEs. They are unrelated. The cap is a contract term. The 409A is a tax number. Do not use one to justify the other.

Reading a Form D filing against the cap table you were handed

Form D is a notice filing that companies file with the SEC within 15 days of the first sale of securities in an exempt offering. It is short, it is public, and it is not an approval of anything.

Investors and journalists read Form D filings to see who raised, how much they intended to raise, and who the related persons are. The form lists the issuer, the offering amount, the exemption claimed, and the executives and promoters involved.

The form is filed under Regulation D, which covers the private placements most startups use. You can find the form itself in the SEC's forms index, which lists every form the agency maintains.

Here is how to read a Form D against the cap table you were handed. Numbered steps, in order:

Form D does not disclose the valuation, the share price or the liquidation preference. For those, you need the term sheet and the charter. The SEC's filings search lets you pull the documents a public company files, and private companies sometimes file related disclosures there too.

A cap table handed to you by a founder is a summary. A Form D is a filing with legal consequences if it is wrong. When the two disagree, trust the filing and ask why the summary differs.

Before you wire anything, check the broker or platform. FINRA's investor education covers the basics of verifying who you are dealing with, and the same discipline applies to private placements.

Keep your own record of every instrument you sign. The best communication skills tools 2027 checklist covers the clauses that appear in the documents behind the cap table.

One last habit. Track the difference between business vocabulary examples separately from ownership, because a company can be profitable on paper and still run out of money before the next round closes.

Common questions