Crowdfunding is a way of raising money directly from investors without any intermediaries like banks or venture funds$1Consequently, it is a subset of crowdsourcing$1In fact, you can use crowdfunding to raise equity or debt for your business or donations for a social cause$1Furthermore, in addition to raising money, you can validate your product ideas, rope in distributors and gain market traction. Crowdlending or P2P lending, a subset of crowdfunding, has also registered significant growth. In future, specialized crowdfunding platforms will emerge and become viable alternatives to bank funding and venture financing.
What is crowdfunding?
Crowdfunding refers to raising money from investors without any intermediaries like banks or venture funds.
You can use crowdfunding to finance your MBA or help your aunt get an expensive heart surgery done$1Indeed, this is an example of personal or individual crowdfunding. But the fastest growing segment of crowdfunding is the ‘business crowdfunding’. More importantly, in addition to raising money, you can validate your product ideas and rope in distributors. And even recruit partners and early employees$1Specifically, there are over 1000 crowdfunding platforms all over the world$1Moreover, the market for crowdfunding is over US$ 6 billion and it’s growing at a rapid pace.
Crowdlending or Peer-to-peer lending (P2P lending) is a subset of crowdfunding. And, P2P lending has also grown tremendously in the last decade.
Examples of crowdfunded companies
Crowdfunding platforms have helped innovative product companies, social impact projects and even movies and games. Oculus, a virtual reality equipment manufacturer is a shining example of an innovative crowdfunded company. Pebble and Glowforge are innovative product companies born out of crowdfunding. Exploding Kittens is a game launched with crowdfunding. And Veronica Mars is a crowdfunded movie.
How does it work?
If you are a startup entrepreneur, you can create a presentation on your business and post it on the platform. And also mention the amount of money you want to raise. Often the platform will help you market the venture on social media platforms and help you with legal matters as well$1Moreover, the platform will display the target amount you need and the number of days the offer is open. Interested investors will go through the presentation and invest. And if the platform gets the required investment in the specified period, your campaign is successful and you get funded.
But most platforms have an ‘all-or-none’ rule$1Consequently, if you are unable to raise the required amount of funds within the open period, the platform will return the funds back to the investors. And you get nothing. Of course, you can always do another campaign.
Types of crowdfunding
You can raise crowdfunding in different ways. Depending on your need, you have to choose the method and the crowdfunding platform$1Moreover, the following are the different types of crowdfunding options.
- Donations-based crowdfunding
This form of fund-raising is suitable for meeting medical emergencies or personal needs such as education and funding social projects. - Rewards-based crowdfunding
Here, you can raise money from investors and give them a variety of rewards. Often based on the volume of contribution. And the rewards can be your product, some form of acknowledgment, say credit in the movie you are making or limited-edition merchandise. Since this is not a loan, you don’t have to repay the money raised. Plus, you don’t have to offer any collateral or worry about your credit scores. - Equity-based crowdfunding
As the name indicates, this form of fund-raising requires you to allot equity shares to investors in return for their investment. But the advantage of crowdfunding platforms as against raising money from angel or venture capital investors is that you can decide the valuation of the company.But raising equity capital is subject to regulations in most markets. In some markets, only accredited investors can invest. And there are restrictions on the total amount of money that you can raise. In India, you can’t raise equity on crowdfunding platforms.
What are the advantages of crowdfunding?
- Happy medium between bootstrapping and venture funding
Crowdfunding is a boon for entrepreneurs torn between the slow, bootstrapping option and raising capital from venture firms and accepting the tight supervision and lack of control that comes with it$1Essentially, crowdfunding gives you a happy middle ground!Another advantage is that you can raise small amounts of money from a large number of people. And this avoids concentration of equity in the hands of a few investors. But nothing stops you from going to a bank or a VC, once you have raised the initial capital and validated your product or service. So instead of looking at crowdfunding as a replacement for bank or VC funds, entrepreneurs need to consider it as an option to kickstart their startup.
- Crowdfunding is smart money
When you raise money from a crowdfunding platform, you are not just getting money$1In fact, you get a whole lot of other things: social validation for your business idea, access to business partners and even prospective employees! In short, you can use a crowdfunding platform as a launch pad for your business. - Effective seed-funding option
Crowdfunding can serve as a good seed round of capital for creating a prototype or a minimum viable product (MVP). And to reach product-market fit. Of course, you can always go ahead and raise money from venture investors later. - Verified social cause funding
For donations, crowdfunding platforms are really the best. You see several requests for social causes on social media and you wonder if they are genuine requests or some scamster at work to rip you off. But donation-based crowdfunding platforms do a good job of verifying the facts. And you can be confident that you are donating to deserving beneficiaries. Also, these platforms take precautions such as paying the money directly to the hospital, say in the case of a life-saving surgery, thus ensuring that the proceeds are not misused. - Value-added services
Many platforms offer a whole host of support services like marketing and legal services. And they can also help you get next-level investors.
What are the downsides?
- If you have a stealth startup working on a unique idea that competitors can easily copy, crowdfunding is not a viable option for you.
- Sometimes, the ‘all-or-none law’ of fund raising is not very entrepreneur-friendly.
- Many platforms charge a sizable fund-raising and payment processing fees.
- In many countries, regulations don’t allow you to raise equity funding via crowdfunding platforms$1Primarily, for example, in India, equity funding from these platforms is against the law.
- In several countries, the money that you raise on crowdfunding platforms is taxable.
Top global crowdfunding platforms (also see our detailed guide to top crowdfunding platforms)
There are a wide range of crowdfunding platforms that cater to specific purposes. For example, Kickstarter and Indiegogo are the most prominent general crowdfunding platforms. In these platforms, you can raise money for tech products as well as social impact campaigns and environment-related projects. Seedinvest is a platform that caters to startups. Gofundme is a platform for individual fund-raising. Patreon focusses on creative projects. And Mightycause is for fund-raising for non-profit organizations.
Top crowdfunding platforms in India
Impactguru, Ketto and Milap are donation-based crowdfunding platforms. In these platforms, you can raise money for medical emergencies and social projects. Wishberry caters to creative projects. Fuel-a-dream is a multi-purpose crowdfunding platform where you can raise money for innovative products and services as well as social causes.
What is the future of crowdfunding?
With the exponential growth of Internet access, smart phones and online collaboration tools, increasing number of people will participate in crowdfunding platforms. Not for just investing money, but to collaborate$1Generally, people will contribute ideas and even take part in the ventures as business partners, consultants, product validators, influencers and even early employees. And cross-border transactions will increase. Also, several governments world over are expanding the definition of ‘accredited investors’ to enable more and more people to invest in these platforms.
We will also see the emergence of vertical or industry-specific platforms. And with a host of value-added services, these platforms will become launching pads for startups. In time, crowdfunding platforms will emerge as a viable alternative to banks and early-stage venture funds.