Crowd-Funded Investment: The Future Of Us Venture Capitalism?

Crowd-funded investment firms are becoming increasingly popular in the US. The concept of crowdfunding involves raising small amounts of money from a large number of individuals to finance a new business venture. This method of funding leverages the wide reach of social media and dedicated crowdfunding websites to connect investors with entrepreneurs, thereby increasing access to entrepreneurship by expanding the pool of investors beyond the traditional circle of owners, relatives, and venture capitalists.

Crowdfunding has become particularly attractive to entrepreneurs and investors following the 2008 financial crisis, which saw banks enforce stricter lending policies, making it harder for small businesses to secure credit. This shift prompted many to seek alternative funding methods, and the global crowdfunding market volume was estimated at $1.17 billion in 2023.

Some of the most popular crowdfunding platforms in the US include GoFundMe, Kickstarter, and Indiegogo. These platforms allow individuals to raise funds for personal causes, business ventures, or creative projects.

Crowdfunding provides several benefits to both creators and investors. For creators, it offers a way to raise substantial amounts of capital, gain marketing insights, and build an engaged audience. Investors, on the other hand, can access a diverse range of investment opportunities, often with low minimum investments, and potentially earn equity in the companies they invest in.

However, there are also risks and barriers associated with crowdfunding. Creators face the risk of reputation damage if they fail to meet campaign goals or deliver on their promises. Both creators and investors need to navigate intellectual property protection concerns and the potential for information asymmetry, where investors may not have access to all the information they need to make informed decisions.

Despite these challenges, the popularity of crowdfunding continues to grow, and it has become an important alternative source of funding for many entrepreneurs and individuals.

The two main types of crowdfunding: rewards and equity

Crowdfunding is a way of raising money to finance projects and businesses through the collective effort of friends, family, customers, individual investors, and others. There are several types of crowdfunding, but the two most common are rewards-based and equity-based.

Rewards-Based Crowdfunding

Rewards-based crowdfunding involves individuals contributing to a business in exchange for a "reward", typically a form of the product or service the company offers. This approach is generally considered a subset of donation-based crowdfunding since there is no financial or equity return. It is a popular option for many small businesses and creative projects as it allows business owners to incentivize contributors without incurring much extra expense or selling ownership stakes.

Pros of Rewards-Based Crowdfunding

• No equity sacrificed: This type of crowdfunding doesn't involve giving up ownership in your company.
• Market validation: It allows you to assess market interest in your product or service.
• Pre-sales and marketing: Crowdfunding campaigns can also act as a pre-sale of the product, generating publicity and providing an initial customer base.
• Community building: Crowdfunding platforms provide a way to communicate and engage with backers, helping to build a community of supporters.

Cons of Rewards-Based Crowdfunding

• All-or-nothing funding: Many crowdfunding platforms operate on an all-or-nothing basis, meaning that if you don't hit your funding goal, you don't receive any money.
• Fulfilling rewards: It can be time-consuming or costly to deliver on promised rewards, and not doing so can lead to reputation damage.
• Unpredictable success: Not all campaigns succeed, even if your idea is good. Success depends on many factors, including the quality of the campaign, timing, and luck.
• Public exposure: Your idea is shared publicly, which could lead to someone else copying it.
• Fees: Crowdfunding platforms typically charge a percentage of the funds raised as a fee, and there could be additional processing fees.

Equity-Based Crowdfunding

Equity-based crowdfunding allows contributors to become part-owners of a company by trading capital for equity shares. As equity owners, they receive a financial return on their investment and ultimately receive a share of the profits in the form of a dividend or distribution.

Pros of Equity-Based Crowdfunding

• Larger amounts of capital: Since investors are purchasing a stake in the future success of the company, they may be willing to contribute larger amounts.
• Long-term investor relationships: Equity crowdfunding can result in long-term relationships with investors who have a vested interest in the company's ongoing success.
• Access to expertise and networks: Investors often bring their own expertise, experience, and networks, which can be valuable resources for early-stage companies.

Cons of Equity-Based Crowdfunding

• Loss of ownership: By offering equity in your company, you are giving away a portion of your ownership, which may mean sharing control and decision-making.
• Regulatory complexity: Equity-based crowdfunding is subject to more complex laws and regulations, which may require legal counsel and result in substantial legal costs.
• Increased reporting requirements: Companies with many shareholders often have to provide regular updates and financial reports to investors, which can be time-consuming and require additional administrative resources.
• Pressure for returns: Equity investors seek a financial return on their investment, increasing the pressure on the company to perform.
• Potential for dilution: If you raise more equity funding in the future, the percentage of the company owned by earlier investors may be diluted, leading to potential dissatisfaction among investors.

The history of crowdfunding

Although crowdfunding may seem like a modern idea, the concept has a long history with roots in different countries and sectors. While the current understanding of crowdfunding—using an online platform to raise money for specific projects—is a recent development, the idea of mobilising a crowd to finance ventures is not new.

The early days of crowdfunding

Historians have traced practices similar to crowdfunding as far back as the 13th century. For example, groups of private citizens would pool funds to sponsor risky shipping ventures, and authors have for centuries funded their works through subscription models. War bonds are also a form of crowdfunding.

One of the first widely recognised examples of crowdfunding came from 18th-century Ireland, when Jonathan Swift set up the Irish Loan Fund. The fund provided loans to low-income families in Dublin, with the money coming from large groups of wealthy individuals.

From patronage to crowdfunding

In the past, it was common for nobles and rich individuals to pay for the expenses of artists, a practice known as patronage. Sometimes, however, the patron was a larger group of ordinary people who would sponsor artistic endeavours, much like modern crowdfunding.

The most famous cases from this time are those of Alexander Pope and Wolfgang Amadeus Mozart. Alexander Pope used a subscription-like model to fund the translation of The Iliad, promising to publish a volume each year in exchange for advance payment. Mozart, meanwhile, reached out to his fans to raise money for a tour in the early 1780s, receiving a concert manuscript with their names and his personal thanks in return for their support.

Modern communication paves the way for crowdfunding

The Statue of Liberty is one of the most iconic examples of crowdfunding. In 1885, France intended to send the statue to New York, but they couldn't raise enough money to assemble it. Joseph Pulitzer then intervened, starting a fundraising campaign in his newspaper, The New York World. They offered a 6" and 12" version of the statue as a reward for those who donated more than $1 or $5, respectively. This led to the support of thousands of people, and in less than five months, they had collected enough money to reach their goal.

The first crowdfunded movie

In the 20th century, it became apparent that a variety of different projects could benefit from crowdfunding, especially in the entertainment industry. "Manthan", directed by the Indian film director Shyam Benegal, was the first movie entirely produced thanks to crowdfunding. Thanks to the collective donations of 500,000 Indian farmers, it premiered in 1976.

The birth of online crowdfunding platforms

Today, digital devices and the internet are an integral part of our lives, but this wasn't the case 24 years ago. In spite of this, the British band Marillion managed to save their 1997 US tour through digital donations, collecting $60,000. Inspired by the success of the campaign, the American producer Brian Camelio created ArtistShare in 2001, the first platform in the history of crowdfunding focused solely on musicians.

The beginning of loan-based crowdfunding platforms

The first crowdlending platform, Zopa, was launched in London in 2005. For centuries, banks were the only ones with the technology and information required to lend money, but with the evolution of technology and improved accessibility to information, it became possible to introduce a new system.

The term crowdfunding is coined

The practice of crowdfunding has roots that go way back in history, but the term "crowdfunding" itself is much more recent. The first use of the word on the internet is reported to have been on 12 August 2006, when the American writer Michael Sullivan needed a short way to describe collective donations from people.

Crowdfunding quickly evolved into an investment option. In 2007, the Australian Small Scale Offerings Board (ASSOB) introduced an equity-based crowdfunding platform, making it possible to pool funds from different investors and place them within small businesses. In exchange, the businesses offered ownership shares in their company.

Equity crowdfunding soon arrived in Europe and the USA as well. CrowdCube, an equity crowdfunding platform based in the UK, was founded in 2011, and it's now one of the biggest crowdfunding platforms in the world. The USA had to wait a bit longer, as equity crowdfunding was illegal until the introduction of the JOBS Act in 2012.

Crowdfunding goes mainstream

Until 2008, crowdfunding was a niche phenomenon. But when the global financial crisis hit, public trust in traditional financial institutions decreased, and alternative finance became increasingly popular. With the creation of reward platforms like IndieGoGo and Kickstarter, crowdfunding grew exponentially, as did the capital it moved. Backers could soon support startups and entrepreneurs within other fields who were struggling to get funding, and investing in new businesses and innovative projects quickly became more publicly accessible.

Crowdfunding today

Today, crowdfunding is a booming industry. The market size of crowdfunding worldwide reached more than 12 billion US dollars in 2020 and is expected to increase in the coming years. More and more crowdfunding platforms are appearing, and more and more people and businesses are making use of them. With the COVID pandemic in 2020, many small and medium-sized companies struggled to stay afloat, but some were saved thanks to the people who supported them through crowdfunding campaigns.

The pros and cons of crowdfunding

The Pros

Crowdfunding has become an increasingly popular way for individuals and businesses to raise capital. The low cost of entry and the accessibility of popular crowdfunding platforms have fuelled this revolution in funding. Here are some advantages of crowdfunding:

• It can be a fast way to raise finance with no upfront fees.
• Pitching a project or business through an online platform can be a valuable form of marketing and can result in media attention.
• It is a good way to test the public's reaction to your product/idea.
• It is a great way to test the market without building out a full website and company.
• It can raise significant capital that can kick-start growth and business.
• It can validate your offer—you don't need to be a big player to compete with the big boys and become one yourself!
• It is a low-risk way to source funds for your business.
• It lets you get support and guidance from seasoned investors.
• It enables you to reach a wider audience of interested investors.
• It offers an opportunity to further develop business goals.
• It promotes growth for future funding opportunities.
• It has limited restrictions on how to use the raised funds.
• It allows you to campaign across multiple platforms.

The Cons

However, while it might look easy—and seem like a no-brainer—to launch a crowdfunding campaign, there are some strong cons to consider:

• It will not necessarily be an easier process to go through compared to the more traditional ways of raising finance.
• When you are on your chosen platform, you need to do a lot of work to build up interest before the project launches—significant resources (money and/or time) may be required.
• If you don't reach your funding target, any finance that has been pledged will usually be returned to your investors and you will receive nothing.
• Failed projects risk damage to the reputation of your business and people who have pledged money to you.
• If you haven't protected your business idea with a patent or copyright, someone may see it on a crowdfunding site and steal your concept.
• Getting the rewards or returns wrong can mean giving away too much of the business to investors.
• It can be a saturated market, with similar and like products.
• It can be a lot of work and expensive.
• You can get false positives that can be disastrous for startup companies.
• It comes with high-pressure expectations for a return on investments.
• It can be unfruitful if you miss the funding target.
• It can be difficult to gain the attention of potential investors.
• It increases competition when imitations of your product are released.
• It has a limited campaign timeline.
• It may charge a percentage fee from your raised funds, depending on the platform.
• It may have strict and varying regulations, depending on the platform.

The biggest crowdfunding platforms in the US

Crowdfunding is a way of raising capital by collecting small amounts of money from a large number of people, typically via the internet. In 2023, crowdfunding added $1.1 billion to the US economy, with the average crowdfunding campaign raising nearly $8,000.

GoFundMe

GoFundMe is the largest crowdfunding platform with more than 100 million global users. It was founded in 2010 and its campaigns have raised more than $25 billion collectively. GoFundMe is best for personal fundraising and charities. There is no fee to launch a fundraiser on the platform, but GoFundMe charges a per-donation fee of 2.9% plus 30 cents.

Kickstarter

Kickstarter is one of the most well-known online fundraising platforms. It was founded in 2009 and has since helped fund more than 250,000 projects. Kickstarter's community includes more than 22 million investors and donors who have collectively pledged more than $7.6 billion. Kickstarter collects a 5% fee for successful projects but collects no fee for projects that don't reach their funding goals.

Indiegogo

Indiegogo is a leading crowdfunding platform that has helped fund more than 800,000 projects since 2008. The platform has grown to more than 9 million users, and about 19,000 new campaigns are launched each month. Indiegogo charges a 5% platform fee on all funds raised by its campaigns, as well as a transaction fee of 3% plus 20 cents.

StartEngine

StartEngine, which launched in 2015, is one of the largest equity crowdfunding platforms. The company is led by Activision co-founder Howard Marks and has raised more than $700 million from more than 1 million users. StartEngine is best for high-growth startups.

Patreon

Patreon is a popular crowdfunding platform launched in 2013, geared towards artists and other online content creators. Patreon has more than 8 million monthly active members and more than 250,000 creators who have collectively earned $3.5 billion. Patreon is best for content creators and allows them to monetise their audiences via a recurring revenue model.

CrowdStreet

CrowdStreet is a Texas-based company founded in 2013 that specialises in real estate crowdfunding. CrowdStreet has funded more than 798 real estate deals worth a combined $4.2 billion. CrowdStreet is only available to accredited investors who meet specific requirements related to wealth and investing experience, and most deals have a $25,000 investment minimum.

How to choose the best crowdfunding platform

Crowdfunding is a great way to raise money for a project or venture by collecting funds from a large number of people, usually via the internet. When choosing a crowdfunding platform, there are several factors to consider to ensure that you select the best one for your needs. Here are some key considerations to help you make an informed decision:

Site Features and Usability

Choose a platform that is easy to navigate and use. The best crowdfunding sites should be user-friendly and intuitive, making you want to spend time on their pages and learn more. Avoid sites that have a complex sign-up or donation process, as this may deter potential donors.

Community and Social Tools

Look for a platform that offers social networking tools to help you spread awareness about your fundraiser. The best platforms will provide easy-to-use features that allow you to share your campaign on social media platforms such as Facebook, Instagram, and email. This is crucial as your social network will play a vital role in reaching your fundraising goal.

Fee Structures

Crowdfunding platforms typically charge a percentage of the total amount raised as a platform fee. These fees can range from 5% to 12% or more. Be cautious of punitive fee structures, such as increased fees for not meeting your goal or "all-or-nothing" models where you only receive the funds if you reach your target. Carefully review the fee structure to avoid unexpected charges.

Brand Recognition and Trust

Consider the reputation and trustworthiness of the crowdfunding platform. A well-known and established company is more likely to inspire trust and loyalty from users. Look for a platform with a positive brand image and a track record of honest and responsible business practices.

Customer Support

Choose a platform that offers robust customer support. This may include email, live chat, or phone assistance. Remember that your donors may also need help, so ensure the platform provides timely and responsive support to all users.

Investment Selection and Flexibility

Different crowdfunding platforms cater to different types of projects and investors. Some platforms are geared towards individuals and personal causes, while others focus on startups, small businesses, or creative projects. Consider your specific needs and goals when selecting a platform. Additionally, look for flexibility in funding options, such as the ability to choose between fixed and flexible funding goals.

Transparency and Security

When dealing with financial transactions, transparency and security are crucial. Look for a platform that is transparent about its fees, processes, and past investments. Ensure that the platform has measures in place to protect your personal and financial information.

Investor Accreditation

Some crowdfunding platforms may require investors to be accredited, meeting certain income or net worth thresholds. If you are an accredited investor, this expands your options, but if you are not, you will need to choose a platform that is open to all investors.

Regulatory Compliance

Crowdfunding platforms are subject to regulations, particularly when dealing with investments. Ensure that the platform you choose is registered with the relevant regulatory bodies and complies with applicable laws and guidelines. This helps protect you and your investors from potential fraud or misconduct.

User Reviews and Testimonials

Don't underestimate the power of user feedback. Read reviews and testimonials from people who have used the platform to get a sense of their experience. This can provide valuable insights into the platform's ease of use, customer support, and overall satisfaction.

By carefully considering these factors and conducting thorough research, you can choose the best crowdfunding platform to support your unique needs and goals. Each platform has its own strengths and features, so take the time to evaluate multiple options before making your decision.

Frequently asked questions