A valuation cap effectively puts a floor on the minimum percentage of the company that the note holders will own after conversion. This is favorable for investors who participate in an unpriced round, but not always for the entrepreneur.
This minimum is calculated as:
We've also built an interactive model to show how valuation caps will impact the effective discount and the resulting equity of a convertible note. Once you add convertible notes to your cap table in Gust Equity Management, you'll be able to run the model on each note in the modeling section.