Established companies as well as small start-ups have started using crowdfunding as a means of accruing capital for their projects. The core idea behind crowdfunding is that if a large number of individual people make a small financial contribution, a substantial sum of money can be collected to help realise or develop projects or products. Let’s start with the basics.
What Does Crowdfunding Mean?
Just as the name stipulates, crowdfunding is all about individual people playing the role of financier or receiving funding for an innovative project idea from our fellow man. During the start phase of any crowdfunded project, the necessary means to achieve the project’s goals are defined, the idea is plotted out in detail and is uploaded, along with any related images and videos, to the chosen crowdfunding platform.
Once enough fans and feedback on the project have been collected, the funding phase can begin. At this point, it is highly important to make full use of the available communications channels to help spread the word and reach the funding goal. The best case scenario would see a contribution chain started whereby the individual contributors act as unofficial spokespeople of the project and convince their friends and followers on social media to invest in the project and so on. This provides the opportunity to finance the project through a collective sum of small contributions.
A crowdfunding campaign can bring with it more than financial support: the project’s initiators can glean feedback, volunteers and the opportunity to profit from public recommendations about how to directly improve the project.
Turning An Idea into Reality
One of the first known crowdfunding projects took place in 1885 when a public call for donations was made to cover financing gaps in the construction of the Statue of Liberty.
Fast forward a few decades and the internet brought with it a boom in opportunities: in 2000, British-born Brian Camelio established the platform Artist Share to support music projects through so-called “fan-funding”. The Dutch company SellaBand5 followed in 2006 based on the same idea and successfully established itself within the area of music crowdfunding. In the same year, the platform Betterplace was set up in Berlin under the banner of “crowd donation services” with the goal of offering a funding portal to non-profit organisations and grassroots initiatives. In 2007, RESET came on the scene with its pool of select donation projects. 2011 saw the debut of Kickstarter which has helped everything from creative projects such as art and music to technological developments get off the ground.
The first big Kickstarter success story came courtesy of four talented programmers from NYU’s Courant Institute who used the platform to collect money for a decentralised social network that allows users full control of their own data. Within six weeks, their project, Diaspora, received 200,000 USD from 6,400 supporters as well as an enormous amount of publicity. The campaign also indirectly helped Kickstarter become the global leader in the crowdfunding arena.
According to Massolution’s 2013 report on the phenomenon, titled “2013 CF The Crowdfunding Industry Report“, approximately 2.7 billion USD has been raised worldwide via crowdfunding platforms: 1.6 billion USD in North America; 945 million USD in Europe and 110 million throughout the rest of the world. Europe and the US have recorded the biggest growth in crowdfunding since 2009.
Crowdfunding As A Financing Concept
Crowdfunding’s unique selling point (as opposed to classic models of funding) is that the investors are also potential customers and ambassadors of the project or business model and are able to promote the idea among their own network. The willingness to take part in a crowdfunding campaign is not based on any inevitable return on investment. Rather, the motivation lies primarily in helping others. Additionally, the financial weight falls upon multiple shoulders, minimising the potential for high individual loss.
Within the crowdfunding model lie various sub-models. The distinction of which to use is usually made depending on the motivaton of the investors:
Donation-based Crowdfunding is based upon a philanthropic model and enables supporters to get behind a project with good intentions without expectation of financial return. Among these types of projects are those which tackle areas such as climate change or natural disasters as well as social projects run by individuals, NGOs or non-profit foundations and are able to connect via platforms such as JustGiving, Crowdrise and Betterplace.
Reward-based Crowdfunding is about bringing cultural or artistic projects to life, much of the time via Kickstarter or Indiegogo. The donors receive recognition in the form of a product or service such as having investors in film projects play an extra in the film itself or, in the case of music crowdfunding, sending a signed CD from the artist to financial supporters.
Lending-based Crowdfunding, also called social lending, comprises private microcredit and is often used to help fund social entrepreneurs. As a return, the private money giver expects the original sum to be paid back in full with a small interest rate within a specified period of time. Kiva and Somolend such platforms that enable this type of crowdfunding.
Equity-based Crowdfunding, also called Crowd Investing, has developed into a form of borrowing for start ups. Under this model, shares can be purchased from companies that offer a share in company profits. Crowdfunder is one platform that operates within this crowdfunding model.
The number of examples of successfully-financed projects demonstrates that it is possible to achieve big things through many small donations. In order to maintain this momentum and build upon it, project initiators need to ensure that the offline component of their project follows through on its promise and that investors are kept up-to-date with news and developments every step of the way.
Crowdfunding’s Future Potential
Crowdfunding has the potential to usher in a transition throughout the global financial world by evening out hierarchies and connects willing investors directly to real projects. The number of middlemen drops, helping to reduce transaction costs and increase the productivity of the resources used. What all of the above models have in common is the combination of modern web technology with commerce however, the different growth rates among them highlight the varying degrees of potential each model represents.
With a growth rate of more than 100 percent per year, Equity Crowdfunding appears especially sustainable given that this particular model isn’t just concerned with donations for projects but also with investment in start-ups or small-medium businesses.
The disadvantage of course is that, especially in the case of start-ups, early exposure of the idea can lead to imitators popping up with similar projects while having a lack of traditional investors can also mean bypassing the opportunity to receive professional feedback on a proposed business model. Long-term financing via crowdfunding is also tricky.
There are large opportunities for crowdfunding projects that deal with development, climate change and environmental protection. In this arena, private engagement comes to the fore, circumventing the need to rely on government and industry to act. For example, jewellery company Half United which donates half of its profits to fighting global hunger has been able to establish itself thanks to a crowdfunding campaign via social good platform, 33Needs.
Not so long ago, it was difficult for innovative, green tech projects to source funding with many financial investors often wary of backing such initiatives. Crowdfunding is helping to build a tech-driven grassroots movement through which entrepreneurs and researchers are able to bring their projects to life as can be seen with solar energy crowdfunding platform SunFunder, which connects small solar projects with individual investors and claims to have raised more than 380,000 USD for all its partner projects.
The question about how critically the crowd analyses the projects where their money goes to remains open as evidenced by this example: three biohackers from California loaded a crowdfunding project online that aimed to up a city’s green quota by replacing energy-guzzling street lamps with genetically modified plants. They were able to garner the support of 8,000 supporters via the Kickstarter campaign and took in about 500,000 USD. Upon first glance, a so-called green project wouldn’t necessarily raise questions about spreading uncontrolled genetically modified seeds. However, if all goes according to plan, it would be the largest distribution of genetically modified organisms outside of the science world.
Another restriction of crowdfunding: longterm funding via this process is difficult to achieve. In this sense, crowdfunding works best when used as a building block alongside other financing options. When used to financially support the start-up or development phase of a project, crowdfunding can offer great potential in helping get a project off the ground and spreading the message about a new initiative. In other words, crowdfunding is a successful example of how the internet can be used to support NGOs, projects and initiatives, while simultaneously activating and strengthening civil society.
Author: Dania Schumann/ RESET guest author (2014) & Anna Rees/ RESET editorial