Crowd-funding - money from the many backing the ideas of the few
5th October 2012
Idea generation and innovation is thriving, but providing a suitable environment for these big ideas to be transformed into successful business has been challenging. As always, one of the major obstacles is money.
If you have ever felt that access to more capital would allow you to expand your business or get a new idea off the ground, crowd-funding could be worth a look. Crowd-funding is changing the field of investment while extending the scope of support for novel and interesting ideas. So what does crowd-funding have to offer the entrepreneur?
Conventional avenues for funding your start-up
Most businesses are started with owner financing or personal debt. When considering external investors for seed funding then the conventional sources would be:
- Venture Capital
- Angel investors
- Debt finance
- Friends and family
Venture Capitalists are seldom interested in smaller projects, so when you are seeking funding below £100k this is tricky terrain. Furthermore, Angel Investors can be limited to a specific number of projects in a given period and therefore cannot necessarily meet the demand for incubating new projects. Getting money out of banks has been a difficult exercise for many and the current climate is not making that option any easier. Grants are also not straightforward to access. Although the friends and family option frequently comes into play, obtaining buy-in and securing the trust of these investors is quite an undertaking. In a sense, crowd-funding has taken friends and family to a whole new level.
What exactly is crowd-funding?
Crowd-funding is the logical extension of the crowd-sourcing phenomenon that has taken hold thanks to the rise of Social Media.
Crowd-funding harnesses the power of numbers by pooling funds from numerous people to provide the seed funding required for your project. The internet lies at the core of the crowd-funding principle and provides the platform to showcase a project to potential investors. Friends and family is thereby extended to friends, family and fans.
These investors can contribute to your project from as little as £10 and do not have to be inordinately wealthy to participate.
To start along the path of crowd-funding, you will need to:
- Have a business plan
- Do some financial forecasting
- Prepare a pitch
- Set a funding target
You will need to know your niche and be passionate about your project so that it is both interesting and remarkable enough to attract the investors that will support it.
Theconcept of crowd-funding has caught on like wild fire and the number of crowd-funding platforms has grown exponentially. Choosing a suitable platform will depend on the type of project or business that you envisage as well as the platform’s reputation. There are fees associated with using these facilities and the timing of the fees in the process needs to be considered also.
Crowd-funding directories exist to allow a potential user to source the most appropriate platform for their needs.
One sign of credibility is the ribbon of accreditation offered by the Crowdsourcing.org which promotes operating best practice for crowd-funding platforms globally. They have also released a crowdfunding industry report providing information on the global industry. The UK’s Crowdcube is one of the latest recipients of the ribbon.
Kickstarter, based in the US, is currently one of the most successful platforms and recently opened its doors to UK projects. Kickstarter specialises in creative projects involving endeavours such as photography, filmmaking, publishing, music, technology and the arts. Since its launch in 2009, it claims $359 million has been pledged to projects, 2.7 million people have backed a project and 29,000 projects have been successfully funded.
What do investors get in return?
Depending on the type of crowd funding model being applied, contributors can either be donors, sponsors, lenders or investors and this will be dependent on whether the project is for profit or not. Business start-ups usually offer equity in exchange for the investment. Entrepreneurs decide how much equity to give away in their business e.g. 10% for £55 000 investment.
Other contributors may provide their funds on a time-dependent basis so that eventually their contribution is repaid and they can choose whether to keep it or contribute towards something else.
In the case of a philanthropic project, contributors may donate their funds without expecting a tangible return, but gain the satisfaction of supporting a worthy cause.
Another type of return involves contributors receiving a reward or service in return for their funds.
Although crowd-funding has eliminated standard gatekeepers in the funding process, it does not come without its risks – both to those investing as well as to the idea generators.
Certain experts believe that it is more suited to one-off use rather than a repeated source of funding, although some projects have managed to secure funding for a second round.
Does the support one obtains on a crowd-funding site reflect the potential success of the business? Probably not in all cases, but it certainly does provide an idea of the marketability of the project.
Legal experts have indicated that crowd-funding is a grey area in terms of regulations and that investors should carefully check conditions to see that the project delivers what they want it to. There are also no guarantees that the idea you chose will be a money-spinner, but this is often the case with early stage investments.
Entrepreneurs themselves when opening up their ideas to the world may find it difficult to protect their intellectual property and also run the risk of being sued by unhappy investors. Terms, conditions and disclaimers need careful forethought to avoid unpleasant fallout.
So what does the future hold for crowd-funding?
The facts speak for themselves in the successful ventures that have already benefited from this route of funding. However, it does not appear to be making other funding options obsolete and will probably continue to operate alongside and in conjunction with conventional funding options. It seems likely that it will stand the test of time and continue to evolve with the social media revolution. What is more intriguing is the influence that the masses have on the kinds of projects and businesses that flourish and how it will push the boundaries of human imagination and endeavour.
In our next post, we will look at another growing alternative source of funding – peer-peer lending.