Crowdfunding for Startups: Exploring the Pros and Cons

April 23, 2021

Crowdfunding

Crowdfunding has become a valuable way for startups to raise capital. The low cost of entry and virtually unlimited access to crowdfunding platforms has facilitated this, with entrepreneurs aiming to fund ideas and nurture them into a reality. However, there are still many pros and cons for entrepreneurs to assess when it comes to placing trust in the kindness of strangers. 

As a relatively low-risk approach to raising capital, crowdfunding has enjoyed a rise in popularity in recent years.

Crowdfunding

(Image: Score)

The revenue generated from crowdfunding has climbed steadily over the past five years, and the convenience it provides for entrepreneurs indicates that it will continue to emerge as a popular choice for funding.

It may seem straightforward to simply sign up to a platform, list your needs and raise money, but crowdfunding requires a competent strategy and meticulous planning in order to be a success. It’s vital to evaluate the positives and negatives associated with crowdfunding before diving into the world of crowdfunding – but first, let’s take a deeper look at the various types of crowdfunding out there: 

The Various Forms of Crowdfunding

There are many different forms of crowdfunding that startups can benefit the development of a startup. Although there can be many different interpretations of inspiring individuals to donate or invest their money into your company, let’s take a look at four of the most prominent approaches to crowdfunding: 

Donation-Based Crowdfunding

Donation-based crowdfunding is one of the most popular forms of fundraising for startups. This approach is simply based on appealing to a large number of people to raise money for something that they may feel a close connection to, or something they believe they can benefit from having close by. 

This form of crowdfunding is most commonly used to raise money for personal needs as well as more community-focused projects. It’s possible to share your fundraiser with your own network and on social media as a method of boosting awareness and encouraging more donations to be made. An example of an approach can be found in raising money to cover emergency expenses or an unanticipated financial crisis – or by generating funds for local projects such as a community garden or new park. 

Although it’s going to be difficult for startups to encourage people to part with their money for the sake of a donation with no gratification, this path may be viable if your business is a non-profit or carries a significant interest in helping local communities as part of its business plan. 

Reward-Based Crowdfunding

Reward-based crowdfunding is another common form of crowdfunding that’s often used as a means of raising funds for a new startup or organisation that offers a particular product or service to consumers. 

With rewards-based crowdfunding, donors can earn rewards based on the sums they donate to the startup or endeavour. Common rewards can include branded items, prizes donated by company partners, or freebies and services offered by the fundraising startup itself. For instance, authors commonly use reward-based crowdfunding to self-publish books that have generated interest online. To do this, they can offer a version of the book in a digital or physical format based on donations while offering larger donors to have their names published on credits pages within the book or signed pages. 

This approach can be particularly useful if your startup has generated something of a buzz in online communities, or if it’s offering a product that appears to be in demand from some fans. 

Equity Crowdfunding

Also known as crowd-investing, investment crowdfunding, and crowd equity, this approach is ideal for small to medium-sized businesses that are looking for a large volume of capital to launch or grow their business. 

In exchange for donations, donors receive a percentage of ownership in the startup. This percentage of ownership will heavily depend on the business model, and can be a solid way for companies to generate funds at a swift pace without the headache of a traditional business loan. Typically, equity fundraising requires large fundraising minimums that can range into the thousands of pounds. 

Again, this can be a strong opportunity for startups that are perhaps community focused to invite consumers to cement their loyalty by committing to the brand by buying equity. 

Debt Crowdfunding

Also known as peer-to-peer lending and crowdlending, debt crowdfunding is a quick and straightforward way for both individuals and businesses to raise the money they need, as and when they need it. 

Debt crowdfunding works by collecting donations with the promise to pay them back at a later date. Debt crowdfunding is generally used by businesses that are in need of capital, and that prefer to pay back the funds rather than give out equity. Individuals also use debt crowdfunding when they need to pay off a loan or other financial obligation. With a debt fundraiser, be sure to clearly state what the money is needed for and when donors can expect repayment. 

The Pros of Using Crowdfunding For Your Startup

In this age of rapid communication and interconnectivity, it can be easier than ever to crowdfund a good idea or a fledgeling business. There are many advantages associated with enlisting the help of the public and smaller investors to combine to generate revenue for your startup, and let’s take a look at some of the key pros of utilising crowdfunding: 

Little to No Financial Risk

The great thing about crowdfunding is that there’s little jeopardy for the business in launching crowdfunding. It’s possible to test the market and gauge reactions before spending money on costly inventory, materials and development. This approach certainly beats funding an unproven business idea through bootstrapping, for instance. 

In this way, crowdfunding can act as a strong litmus test for the profitability of your business idea. If you successfully crowdfund the development of a project, it shows that there’s likely to be sufficient interest to make your startup a profitable venture. Whereas, if you fail to gauge sufficient interest, it may be that you should revise your offering or marketing strategy – otherwise you may fail to reach your target audience in the way you had hoped. 

Access to Cheap Money

Using rewards-based crowdfunding can help you to generate money for your business without costing you equity in your company like in the case with venture capital investments. Essentially, these are donations, and depending on the popularity of your project it may be possible to win the interest of thousands of investors. 

As the rewards you list for rewards-based crowdfunding can be largely cost-effective to deliver – whether it’s a printed accreditation, a shoutout on a public platform, signed merchandise, branded products or extra content – it means you can generate greater sums of investment from crowdfunders who are willing to spend more for the types of rewards that they find desirable. 

Centralising Communications

One of the biggest advantages to hosting your own fundraising event on a crowdfunding portal is that you have the ability to focus all of your investor discussion into a single place. Prior to funding portals, you had to continually update a bunch of potential investors through emails, meetings and phone calls which can be a highly difficult responsibility to keep on top of. 

Centralising your communications in this way helps you to not only regularly update your stakeholders but to also continually update your fundraising profile so that every new detail can be shared by your prospective investors to better inform their decision and bring more confidence in your startup. 

In this way, crowdfunding can be looked upon as a form of proactive marketing, which, in turn, is a critical facet of the fundraising process. 

Finding Your Target Market

One of the biggest existing challenges with more traditional ways of raising startup capital stems from finding and connecting with your investors. If you don’t already have a strong database and great relationships built up, this process can take a lot of time. 

To leverage this, you could go back to business school for a couple of years and establish a network, or you can go out to every event you can find to develop a network over time. You could even attempt to apply for a startup accelerator program. You may be able to tap up your friends and family, or access the help of a fundraising consultant who already has the connections and relationships that you need. 

The final option is similar to crowdfunding, where you can leverage an existing online platform that already has a database of investor users. Put up your campaign and get straight under the noses of active investors who are looking for opportunities to fund. 

However, crowdfunding means that you access the funding of investors who will naturally believe in your product and who will likely purchase your product for themselves in the near future. When you pitch an idea to investors, you may gain funding but there’s still no indication that your product will take off in the same way. If you can win the backing of thousands of crowdfunders, you can gain a strong idea of the market that you’re selling to. 

Choose From a Selection of Platforms

With their increasing levels of popularity and accessibility online, more and more users are signing up for crowdfunding platforms. 

As with many things in life, the higher the demand there is for something, the higher the subsequent supply. This means that many crowdfunding platforms have branched out to specialise in specific niches. 

This means that you may be able to utilise these niches to list your crowdfunder online in a place that’s more likely to feature users who are more inclined to part with their cash to fund the growth of a business they care about. 

Be sure to do your homework on the many platforms out there that support crowdfunding and the various niche-oriented off-shoots that they support. In reaching your target audience faster, you can fast track your fundraising process. 

Your Crowdfunding Campaign Could Create a Buzz

Crowdfunding campaigns can be excellent for generating a buzz around your business. It can give you something newsworthy to publish to media outlets like Techcrunch or possibly The Wall Street Journal. They offer other platforms something newsworthy to write about and share online. 

This can all be excellent publicity for your startup. Even if you don’t raise the money you were hoping for from your first campaign, the marketing behind it may generate enough interest to send your products or brand viral – leading to enough levels of subsequent interest that you’ll have the potential to source a crowdfunding campaign at a later date with newfound participants. 

You May Raise Significant Sums of Money

Today, OurCrowd is one of the most active equity crowdfunding platforms online, raising over $1.7 billion in committed funds to date. Other platforms like AngelList, CircleUp and FundersClub have been known to generate healthy sums of money among investors who believe in certain projects. 

With this in mind, if one of your ideas really resonates with a crowd, it’s possible to see funding rise to significant amounts. Statistically, the average successful crowdfunding campaign generates around $7,000, but this figure can run much higher for good ideas with the potential to go viral. 

Crowdfunding Could be Used to Generate Urgency

One of the key problems of cold pitching to prospective venture capital investors is the lack of urgency and fear of missing out that can be generated. Pitching means that you hold the desperation and that they are doing you a favour in choosing whether to invest or not. 

However, crowdfunding campaigns can flip this all around. Providing you keep up the momentum of adding funds, and set up clear end dates for the round, it can change the dynamics entirely. Now, investors are lucky to be able to participate, and may find themselves competing to get in at the right time and give you their money. 

There can also be a clever way of extending rounds to make sure that they’re oversubscribed and that you have the advantage of negotiating and setting the terms. When you’re considering the pros and cons of crowdfunding, it’s vital to remember that establishing urgency and FOMO will help to push people over the edge to part with their money to help crowdfund your startup. 

The Cons of Crowdfunding For Your Startup

Despite the cost-effectiveness and the potential of setting up your own crowdfunding campaigns, there are still some noteworthy downsides to consider before you start spending the revenue you generate in your head. Let’s take a look at some of the biggest cons of utilising crowdfunding for your startup: 

The Prospect of Public Failure

If your crowdfunding campaign completely falls apart all the evidence will be available online forever. It will be there on Google for all to see when a search for you and your company is made and this may not be an appealing look as your startup moves forward. 

If you get close to achieving your goal it may not be a bad thing, and if you make it over the 50% market this can still be grounds to extend and pick up the momentum you need to finish the round. 

However, this means that you’ll need to avoid the temptation of rushing through your crowdfunding campaign and carefully commit time towards launching a product or service that will be well received by your target market. Ultimately, if your startup is capable of creating a buzz, it can help to make your idea more visible – just make sure it’s good enough to entice your audience into parting with their money to fund your campaign. 

You May Get False Positives

Crowdfunding can actually be disastrous for startups because it may generate various false positives. For instance, idea validation could take place where a poorly marketed crowdfunder fails – not through the fault of the product itself but because of the way it was promoted. 

This places businesses in danger of believing that there isn’t a market or that the product isn’t good enough to work. Likewise, a really well-marketed crowdfunder may lead to the production of a product that doesn’t generate the level of sales that appeared to be ensured. 

You Might Never Get Your Payoff

Because of the binary nature of some crowdfunding campaigns, you may find yourself raising 90% of your goal only for time to run out and you fail to meet your goal – leaving all of your hard work amounting to nothing. 

Average Success Rate

(Image: The Hustle)

Data shows that sadly, the majority of crowdfunding projects on Kickstarter fail – particularly when it comes to tech, food and fashion projects. However, art-based projects like theatre, comics and music tend to be relatively successful – so it’s important to understand the very real prospect of your business plan falling short of its goal. 

Crowdfunding Isn’t as Cheap as You Might Think

Despite appearing to be extremely straightforward to set up, to give your startup the best chance of reaching its funding goals, it’s vital to invest in a comprehensive marketing campaign to generate awareness, create working prototypes, record persuasive content.

The act of getting a crowdfunder up and running could run your startup into thousands, or tens of thousands of pounds before you even see a penny donated to your cause. However, this cost can be mitigated depending on the type of business you have and the sort of audience you’re engaging with. Some crowdfunders are successful because the business has generated a more organic buzz on social media – leaving little in the way of marketing budgets required. 

Copycats Are Lurking

Beware, if you haven’t protected your USP with a patent or copyright, there’s nothing stopping someone with bad intentions from seeing your product or idea on a crowdfunding site and stealing your concept for themselves. 

The first thing you should do is to find some form of security for your idea before launching a crowdfunder. You may feel like your idea and approach to marketing it is special, but when you’re finding yourself up against competition that’s essentially mimicking your USP it can leave you facing an impossible task. 

You May Have to Wait Longer For Your Funding to Arrive

Another significant drawback to crowdfunding campaigns is that you’ll likely have to wait until the allotted time is up before receiving your funds. This can be particularly frustrating if you’ve reached your goal and are eager to act fast while you’ve naturally generated a buzz surrounding your idea. 

If you create a great campaign you could hit your target in a matter of days, but if the specified duration is set for something like 90-days you’ll need to wait three months before you can begin to use the money that’s been raised. It’s important to keep this in mind when it comes to your campaign and how long you’re intending on waiting before your timeframe concludes. 

It Can be Difficult to Stand Out From a Congested Crowd

Crowdfunding isn’t as easy as just launching a campaign and waiting for the money to come flying in. Crowdfunding platforms can experience huge volumes of campaigns at any given time, all of which are vying for attention. If your product is overshadowed by a similar competitor with a bigger marketing budget, you may find yourself struggling through no fault of your own despite possessing a good idea. 

Although crowdfunding can be a great way of helping startups to release their products and services where other forms of investment hasn’t been as forthcoming, the problem is that it can be a congested platform in which to appeal to prospective investors. 

Is Crowdfunding Right For my Startup?

There are vast and varied pros and cons for crowdfunding, but hopefully, the implications of this approach to fundraising has helped you to develop a clearer idea as to whether crowdfunding will suit your startup.

Here, it’s vital to consider the amount of capital you need, the time frames that may be involved between you launching your campaign and accessing your funding, whether you have a USP that can help to get your crowdfunder noticed and if you have the time and resources needed to launch a successful campaign whilst generating an appropriate level of awareness. 

In understanding these considerations, you’ll likely understand whether your startup is in a position to seek funding from the crowds of prospective investors out there. In a sea of businesses vying for attention, be sure to capture the imagination and win the attention of your target audience – then your project will be well on its way to success.

Written by Daglar Cizmeci
Investor, Founder and CEO with over 20 years’ industry experience in aviation, logistics, finance and tech. Chairman at ACT Airlines, myTechnic and Mesmerise VR. CEO at Red Carpet Capital and Eastern Harmony. Co-Founder of Marsfields, ARQ and Repeat App.

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