In the early days of the Internet, who would have dreamed of funding a new business by inviting people to donate money online? Yet, over the last decade, crowdfunding has become a popular and successful method for raising the money to start a business or fund a project. In 2013 alone, crowdfunding raised more than $5.1 billion worldwide.
It seems simple enough. Find a reputable crowdfunding platform, sign up, and click a few buttons. Next thing you know, you’ve raised money that might have taken months or even years to acquire.
Before leaping in headfirst, however, you should know there are two types of crowdfunding, each with their own advantages and disadvantages.
With this approach to crowdfunding, people contribute small amounts of capital to fund your new business, product or concept in return for specified rewards.
The main advantage is that you can raise money without giving away equity in your business. The contributions can also be used to pre-fund your next product, thereby reducing the risk of financing or building a new product. And it’s a great way to get tens, hundreds, or even thousands of people supporting the success of your campaign.
On the downside, rewards-based crowdfunding carries a lot of pressure to succeed. Once you’ve raised the money, donors expect to be rewarded for their contributions. It can also involve a lot of work for potentially little payoff. If you fail to hit your target, chances are you will end up with nothing.
Equity crowdfunding allows investors to fund startup companies and small businesses in return for equity. Investors give you money; you give them an ownership stake in your business based on how much they contribute.
The primary advantage of this approach is that it gives you easier access to savvy angel investors who, in addition to funding, can also offer experience and expertise that greatly increase your chances of success. Equity crowdfunding also tends to attract more serious investors, making it easier to raise larger sums of money.
On the downside, equity crowdfunding brings increased financial regulation because it involves the offering of private company securities. And with the increased regulation comes increased transparency. If you’re not comfortable posting your financials and business plans online for investors to see, this option may not be for you.
Finally, equity crowdfunding requires answering the million-dollar question every entrepreneur must face at one time or another: “Do I really want to give away part of my company?” If giving away equity gets you experienced investors who can contribute more than money to your success, it may be worth it. If not, think twice before using this fundraising approach.
Pros and Cons of Crowdfunding Platforms
With the growing popularity of crowdfunding has come an increasing number of online technology platforms to serve the market. These, too, have their share of advantages and disadvantages.
On the upside, crowdfunding platforms enable you to:
- Use your contributors’ social media clout to help spread the word about your new business, making it faster and easier to reach new customers.
- Tap into the platforms’ backer community to support your business or project.
- Engage in dialog on the community comments section to get early-stage feedback on your business development process.
- Gain support from the backers and pledges to validate your business idea and target market. This can provide needed credibility when seeking angel investors or venture capitalists for future investment.
- Crowdfunding platforms require a significant investment of time and money to create an attractive project page, brainstorm rewards, and make a compelling video.
- You have to pay taxes on pledges that don’t qualify as donations and are not used in the creation of the backer rewards.
- It takes time to market your project. Many who manage a crowdfunding page consider it equivalent to a part-time or even a full-time job.
Finally, when you fail, you fail publicly. But remember that Thomas Edison failed 1,000 times before he succeeded with the light bulb. And many entrepreneurs have failed in their first attempt at raising money on a crowdfunding platform only to succeed the second time around. In today’s world, crowdfunding presents an option that every budding entrepreneur should consider.