How Does Crowdfunding Work?
It is straightforward and especially interesting for companies who are lacking money. You have an idea, but you have not got the money to fund it. So the entrepreneur urges the community to donate money to his project and offers the prospect of a reward if the project is successful. For example, in Germany, there are now five platforms where creative minds, mainly creative and artistic, can appeal for financial support.
The compensations can range from symbolic gestures. For example, CDs of the band that wants to finance their new album or a share of the profits of the project. If a company has a new product in mind they will ask people for donations for the idea up front and if the crowdfunding hits a certain target the donors will get the item. This is usually at a reduced rate. Some will even have different levels or tiers. The higher the tier the more the donors pay and the more rewards they will receive. This could be multiple items or bonus items all the way up to meeting the creator for a day.
We offer several solutions based on the issues of crowdfunding!
One of the most famous recent examples is the funding of the movie “Stromberg”. The desired target sum of one million euro was raised within seven days; approximately four months were estimated. Musicians also continue to use this type of album funding and promise to send autographed CDs or shares of the profits to their fans. However most are not interested in the “rotten money”, they are part of the project and enjoy being live at the birth of the project. Over 40% of all projects in Germany have been realized with crowdfunding. An encouraging figure for notoriously cash-strapped niche projects. This type is known as reward-based crowdfunding.
Another type of crowdfunding other than bringing out a new album/movie or product is where people are asking for help. This is known as charity or donation-based crowdfunding. Here there is no reward to the person who pays. This variation is often created by people raising money for charity or by the charity itself. There may be a specific target or it could be open-ended. More recently there has been a rise in individuals who are experiencing a certain crisis to use platforms to ask for help. Often these are for medical or legal expenses where a person is asking for personal support.
Notable Crowdfunding Campaigns
In 1885 a campaign was set in motion to crowdfund the pedestal for the Statue of Liberty due to a lack of financing. A publisher of the World newspaper got involved and over a five months raised the needed funds to build the pedestal. In the late 90’s the UK rock band Marillion raised $60,000 so they could tour North America. As of late 2022, the highest-grossing campaign is that of Star Citizen. This is an online space trading/combat video game. The devoted fan base has raised over $500M so far. An unusual campaign on Kickstarter was led by Zack Brown. He had a goal of just $10 to make a bowl of potato salad. It went viral and he raised $55,000 via almost 7000 backers. He ended up throwing a huge potato salad party to celebrate.
Pros and Cons for Creators
As with all types of financing, there are ups and downs. Past the obvious financial gains there are the following advantages:Reputation: When a creator manages to raise funds and offer the backers what they are expecting then their profile and reputation will grow.
Engagement: Campaigns create a way for companies to engage with their audience. A captive audience is always a benefit.
Research: Whether a campaign is successful or not the creators will see what their consumers want and what they don’t want.
Testing: Launching a new product alone can be hard. Using crowdfunding for a beta product will give the creator valuable insight into what works.
Then there is the obvious financial gain. Crowdfunding is an easy way to create capital cheaply. This avoids the need to use personal savings, angel investors or venture capitalists. Online crowdfunding means they can reach people in all different parts of the world from all different backgrounds. Where a product is being sold via a campaign it will also give early feedback for no extra cost keeping expenditure low.
Whilst popular this method of funding isn’t without risks, here are some negatives:Reputation: As before this is a factor but when a campaign doesn’t attract interest or fails then the creator’s reputation can tank with it.
Backer Tiredness: Having backers and donors is wonderful but if a company relies on them too much their will tire of funding.
Abuse Concern: This type of financing doesn’t have strong regulations. Therefore there is concern that people’s donations can be lost.
Plagiarism: When sharing ideas for a new product or service with the public, there is a risk a competetior may steal it.
For some, they can be carried away by a campaign and think before they create it. This can lead to decisions being based on emotion rather than fact leading to a major failure. Not doing their due diligence and merely relying on hope can lead to disaster. When using investors there can be support, advice and some leeway that isn’t there with crowdfunding.
Crowdfunding Pros and Cons for Investors
A few ways in which a backer can benefit from a campaign include:Lower Costs: Often backers can invest a small amount to get a lot in return. Even when backing a product it will be sold at less than retail.
Efficiency: Traditional investing is hard, especially when it comes to finding a company in the early stages of development. Many missed opportunities are therefore found on these platforms.
Participation: Regular investing sees you simply handing over money. However, online funding often sees the backer taking part in the production itself. This gives rise to a feeling that they’re part of the process.
And on the flip side, there are risks for the investor as well:Inexperience: Investing in an idea or product has been made so easy that investors think it’s a failsafe idea. Yet some platforms will let the creator keep the money even if they can’t produce the goods as initially thought. This leaves the investor with less than they hoped for and in some cases nothing at all.
Abuse of Goodwill: In those campaigns where an individual is raising via a donation-based campaign a level of trust is required. Sadly not everyone is trustworthy. Investors may find out that their cash has gone towards a vacation rather than medical bills later on down the line.
Legal Issues: Again, not everyone is honest and some platforms have been used for money laundering. Again, the investor here may lose their money.
Due to the large amount of trust involved, issues can arise where the investor loses out. Doing research is required here, unless they’re happy to never see their invested money again.