Tech Spinout Equity Guide (Part 1): Key Considerations

20 Feb 2023 by Scott Middleton
cap table_800x600_v7

The cap table for a tech joint venture is a little different to a venture capital or private equity backed business. It’s one of the key tools in incentivising and rewarding business partners, investors, employees, founders and leadership.

You need to get the right foundations at the outset and you also need to keep evolving the cap table as the business evolves. It isn’t a case of setting it up then forgetting about it. It might need to change constantly through minor adjustments or major changes.

Setting the cap table up and everyone’s expectations up for what’s ahead can help the venture immensely. Equity – who gets what – can be an emotionally charged discussion.

Having a common frame of reference can help take some of the emotion out, help get everyone fixed on the outcome and help people understand that they will see results.

This guide to equity and cap tables for tech joint ventures will cover:

  1. What’s a Tech Joint Venture?
  2. Key Considerations
  3. Typical VC Cap Table
  4. Typical PE Cap Table 
  5. Typical Tech Joint Venture Cap Table

In Part 1 of the Guide we will look at Key Considerations but first let’s revisit what a Tech Joint Venture is.

What’s a Tech Joint Venture

A tech joint venture is a new business with technology at its core created by at least two existing companies. This could either be formed through:

  • a spinout (transferring a business unit, assets or advantages from one or both businesses to the new venture),
  • a venture build (building a new business that uses the assets, advantages or insights of the partners), or
  • some combination of the two

Key Considerations

When it comes to the cap table, the key considerations you have are:

  • The outcome you want
  • The pathway you want (and makes sense)
  • The stage of the business
  • Enabling options and upside
  • Who you need, what they’re contributing and how to incentivise them

Interestingly, the first four of these start to dictate the shape of your cap table before you even think about who you need, what they’re contributing and how to incentivise them.

Outcome You Want

Ultimately the goal of equity is to provide returns to shareholders.

In tech joint ventures and tech spinouts returns are a little more specific though. Returns from equity will most likely come from the sale of shares (i.e. being acquired). Dividends from cashflow are possible, but less likely in the early years of the business.

You also need to keep in mind that some of the partners and employees might be receiving income or other returns from the joint venture in other forms.

If a sale of the business or some portion of equity is the most likely outcome then you will also need to give thought to what an acquirer will require. The earlier the stage of business, the more they will want and need the team to go with the acquisition.

The Pathway You Want (and Makes Sense)

In order to appropriately structure the cap table you need to take into account the pathway the business is on.

Some ventures are better suited to a venture-capital style approach, others make sense being built primarily through revenue. Some may even make sense as vehicles to create an asset for another to buy.

Some times there might be more than one right answer. You might try to structure the cap table to keep your options open or you might choose based on the preferences of the people and partners involved.

Stage of the Business

The structure of the cap table will depend on the stage of the business.

You need to structure equity appropriately for today but also taking into account what happens in the next stage of the business as well as much further into the future.

Some joint ventures will be formed early others might already but someway along the maturity curve.

You can view the stages of a tech joint venture along the lines of a startup:

  1. Pre-revenue
  2. Seed
  3. Series A
  4. Series B
  5. etc

You can also think of a joint venture through a more traditional model of business:

  1. Existence
  2. Survival
  3. Success
  4. Take-off
  5. Maturity

Each stage of these stages has different considerations for the cap table.

Enabling Options and Upside

Where possible you also want to build in optionality and allow upside to everyone involved.

The two often go hand-in hand. If people see that they will win then you usually have more options available to you. If you have more options available, then it’s easier to help people win.

An easy way to create problems and narrow your options is to over value equity, over allocate to a shareholder or allocate equity in an unusual way.

Who You Need, What They’re Contributing and How to Incentivise Them

Finally, you need to take into account who you need in the business, what they’re contributing and how to incentivise them.

This is a deep topic that we will only briefly cover here. You’ll need to consider:

  1. Venture Partners – what are they contributing? What outcomes do you need them to achieve?
  2. Capital Partners – what contribution do you need for this stage? Do they need to be able to contribute to the next stage? What contributions will you need in the next stage? What type of cap table or investment are they used to making? Does/will your cap table match?
  3. Co-founders and Early Executives – what does your key leadership team need to look like? What sort of incentives do they need? What other options do they have in the market?
  4. Employees – what equity do you need to allocate to your employees?

In Part 2 we will look at the typical VC cap table and how it evolves with the venture. This context is important if your tech joint venture is following a venture capital pathway.

Back to Blog