Dead Space on the Cap Table: Lessons Startups Can Learn from the NFL
In the NFL, "dead cap space" refers to the salary cap hit teams take for players who no longer contribute but whose contracts still burden the budget. Players like Deshaun Watson (Browns) or Kirk Cousins (traded from the Vikings to the Falcons and recently benched) highlight this challenge: despite injuries or underperformance, their financial impact limits the team’s ability to sign new talent or remain competitive.
Startups face a similar issue with "dead space" on the cap table. This occurs when equity is tied up with former founders who’ve left the company or early investors who no longer contribute to its growth. Whether in the form of vested options, common or preferred stock, this equity creates inefficiencies, hampering the company’s ability to reward current contributors, attract new talent, or raise capital.
Like NFL teams constrained by inflexible caps, startups with clogged cap tables risk stagnation. Equity held by non-contributing parties can breed resentment among active team members and complicate efforts to retain or incentivize key contributors.
Proactive Solutions: Drawing Parallels to the NFL
NFL teams often negotiate buyouts or restructure contracts to regain flexibility. Startups can take a similar approach by negotiating with departing founders to sell back their stock or options. This frees up equity to incentivize current employees, attract new hires, or secure funding. Such actions aren’t merely equitable—they’re vital to the company’s success and culture.
Equity buyback negotiations can be challenging but are often crucial for a company's long-term success. Startups must address "dead equity" to avoid a "busted" cap table. Sensible advisors encourage efforts to repurchase or rationalize the ownership of departing founders, executives, or early contributors, as excessive dead equity harms the company and its active, on-going team.
In fact, it can be argued that minimizing dead equity on cap tables ensures a startups’ agility to grow and thrive. Founders who prioritize the company’s health over clinging to static equity leave a legacy of growth rather than stagnation. Conversely, holding onto equity long after leaving can harm the company and its employees, particularly those who contributed through its toughest times.
Refusing to negotiate a fair buyback almost always leads to undermining morale, triggering legal disputes, and damaging both the company and the individual’s reputation. Freeing up equity isn’t just about fairness; it safeguards the company’s future and acknowledges the contributions of current employees.
Aligning the Cap Table: Strategic Options
The most effective approach is for departing founders to agree to a buyback at discounted terms that avoid draining the company’s cash reserves while realigning the cap table to appropriately reward current contributors.
Alternatively, startups can raise a down round, offering new investors significant equity while severely diluting the existing cap table. While this can inject needed resources, it disproportionately affects early-stage investors and risks morale among existing employees.
Another option is issuing additional options to active team members to restore their equity stakes. While less punitive for early investors than a down round, this still leaves dead equity holders with an outsized share relative to their contributions.
Navigating Tough Conversations
These negotiations can be challenging, as holders of dead equity have no legal obligation to relinquish their stake. While their belief in having earned their equity is legally accurate, it may be morally flawed when their contributions ceased before the company’s era of growth and value creation.
Ultimately, the company must weigh the long-term cost of inequitable equity distribution against the immediate challenge of negotiating a buyback. Dead equity poses a real threat to growth and success and resolving it fairly and strategically ensures the company’s future remains bright.
By prioritizing collaboration and fairness, startups can transform dead cap table space into an opportunity for growth, ensuring everyone is rewarded for their contributions—both past and future.
Brilliant. I just had this very conversation with some folks facing this very problem. I’m of the opinion that founder equity should not be immediately granted, but earned over time, which helps ease (but doesn’t completely eliminate) the problem you address.
Love this!
Very interesting