What is Crowdfunding?
Chapter 1: How to Raise Funds via Reward-Based Crowdfunding
Crowdfunding is becoming increasingly attractive as an alternative source of funding to foster entrepreneurship.
When the first crowdfunding platforms appeared about ten years ago, they were predominantly aimed at funding art and other creative ideas. Crowdfunding has since emerged as a means for funding all sorts of projects, including micro-lending and raising capital to support entrepreneurial ideas.
Definitions of crowdfunding vary, “but they often include the following key components: (i) raising funds in small amounts, (ii) from many to many, (iii) using digital technology”.
Several keys elements distinguish crowdfunding as an innovative source of funding, namely:
- Crowdfunding bridges the gap in the early financing stage, as there is often very little funding for start-ups
- Crowdfunding mobilizes the influential power of the Internet and social media
- Crowdfunding is a new means for marketing and fosters the testing and realization of new and creative ideas with the public
- Crowdfunding facilitates direct engagement with (potential) customers.
Crowdfunding is seen as a financial innovation, the fastest growing financial industry, and the next big thing in finance. The first crowdfunding tools appeared in Commonwealth countries, with the majority operating in the UK (JustGiving, Kickstarter, Crowdcube, Zopa, Indiegogo, etc), with Europe following soon after. The growth of crowdfunding platforms in developing countries is a more recent occurance, and the initiatives in these countries remain modest, although they are gaining momentum (Afrikwity, Zoomal, Fadev, etc).
In 2015, the total volume of money raised through crowdfunding platforms amounted to more than 145 billion dollars worldwide, and this number is expected to continue to increase!
What are the Different Types of Crowdfunding?
Crowdfunding can be broadly classified into 4 types: donation-based, reward-based, lending-based, and equity-based models. Each type has its own mechanics and operating logic, as they do not meet the same financial needs.
- Donation-based crowdfunding is the simplest model of crowdfunding. Platforms based on this model offer a showcase for mainly non-profit, charitable, or personal initiatives. The amounts collected are usually quite modest (JustGiving, HelloAsso).
- Another model is reward-based crowdfunding, which provides funders with a non-monetary return, such as one of the first manufactured products, or goodies related to the project. Founders never pay interest or a share of their business earnings. This type of crowdfunding is trendy as it is especially adapted to fund cultural or innovative projects (Kickstarter, Indiegogo, Ulule, Finance-Ensemble).
- Equity-based crowdfunding, also referred to as the profit-sharing model, allows funders to become shareholders of a company in a few clicks. This tool makes it possible to strengthen the funded company’s capital by urging people to invest money in order to receive a share of the venture’s future earnings. This model is great for start-ups or SMEs in the growth phase, seeking to raise several hundred thousand euros, up to a few million euros (Crowdcube, Wiseed, Seedrs).
- Lending-based crowdfunding involves peer-to-peer lending. Funders finance the project for a defined period of time with the expectation of receiving a return on their investment. In the case of commercial loans, funders get their money back with interest. In the case of solidarity loans, they only get back the principal amount. In general, projects selected by the lending-based crowdfunding platforms are considered financially viable and have shown their ability to repay their financiers (LendingClub, FundingCircle, Unilend, Kiva, Babyloan).
Chapter 1. Reward-Based Crowdfunding
This first chapter will be about how to raise funds thanks to reward-based crowdfunding. Reward-based crowdfunding is the best-known and most popular type of crowdfunding. It is geared towards early-stage startups, particularly in creative and innovative fields. These startups often don’t qualify for traditional small-business loans, making the rise of rewards-based crowdfunding particularly adept at meeting their funding needs.
The Basics of Reward-Based Crowdfunding
Reward-based crowdfunding is one of the cheapest and least risky ways to raise funds: the process is simple and doesn’t require professional financial or legal help, no credit check or previous experience is needed, you retain all equity and control in your company, and you gain exposure for your enterprise to help you establish a customer base and brand awareness.
- Who can raise funds?
Reward-based crowdfunding is particularly suitable for funding cultural and social enterprises, and innovative ideas. The amounts collected can range from few hundred dollars to a few hundred thousand dollars. The highest funded project on Kickstarter (the most prolific reward-based crowdfunding platform in the world) is Pebble Time, which managed to raise more than 20 million dollars for its smartwatch project!
- The rewards
This is one of the laws of marketing: one must give in order to receive! To involve potential funders, you must also be generous and make them want to support your project. A happy funder will be one of the best ambassadors for your project, so feel free to pamper them with personalized rewards.
- “All or nothing” logic
Reward-base crowdfunding very often works on the logic of “all or nothing”. If you reach (or exceed) your collection goal, you will receive the funds collected. On the other hand, if you fail to reach your goal during the collection period, the funders will be paid back.
- The 3 funding circles
Crowdfunding is based on trust: your project must inspire confidence in potential funders to convince them to support you. To reach your goal, you will have to successively conquer three funding circles.
1) Family and friends. For most projects, they are your first funders. They make your project credible and create the funding dynamics by opening the way for future funders.
2) Friends of friends and other acquaintances. These are the people you know indirectly. They arrive once you have already collected some money and received encouraging messages. The larger your network, the more easily you can reach those potential funders. Many small and medium projects are funded solely by the first two funding circles, if they are well mobilized.
3) All the people you don’t know. If your project requires more funding, you will have to reach this third circle. This is the largest group, but also the most difficult to reach: you must convince them to give money to someone they don’t know! Hence the importance of presenting your project well and to be fully involved in your crowdfunding campaign, continuously posting and engaging new potential funders.
Managing your Reward-Based Crowdfunding Campaign
- Before the campaign…
Before starting your crowdfunding campaign, undertake the following preparations to reach your goal.
The first thing you need to do is define the amount of funding you need for your project in the most accurate way. You’ll have to outline your financing needs to present them to potential funders who will want to know what their contribution will be used for. Don’t forget to take the platform fees and other taxes into account!
To encourage potential funders and thank those who contributed, you’ll need to think about the rewards you plan to offer. Rewards should depend on the amount the funder will give to your project, and should be linked to your project: the product itself, goodies, pictures, etc.
You then must define the duration of your campaign. Based on Ulule campaigns statistics, the success rate of campaigns that lasted more than 70 days is lower than shorter campaigns. On average, most fundraisers choose a duration of 45 days. The most important phases are the beginning and the end: therefore, shorter campaigns are more dynamic and successful!
Don’t botch the presentation of your project: you’ll have to make the most of your presentation page to attract potential funders. You’ll have to answer all the questions posed by potential funders: What? When? Where? Who? Why? Be clear and concise, explain your motivations, introduce your team, and explain what the money collected will be used for. Add pictures and a presentation video to make your project more concrete and attractive!
Finally, advertise your campaign before kicking it off! It is important to raise awareness among your first funding circle and on social media to secure your first ambassadors who will help your campaign get off to a good start. Talk about your project with your friends, your family, during events, forums, or conferences to spread the word!
- During the campaign…
You should announce the launch of your campaign in a proper way, for example e-emails, social media posts, and phone call. Try to make the most of any means of communication that is at your disposal.
Once the first funders start to contribute to your project, don’t forget to thank them! Keep your community updated on the progress of your campaign, such as sharing announcements about: level reached, new objective, rewards unlocked, etc. Involving your community will trigger interest and attract more funders.
If you reach your target before the end of the campaign, you can keep going! You can set new targets for your crowdfunding campaign, as well as offer new rewards. Whatever levels of funding you reach, give it your all during the last days of your campaign. Funders must understand that is now or never!
- After the campaign…
If you achieve your goal, you will receive your funds and prepare for the next steps of your campaign. Again, don’t forget to thank your funders: the campaign cannot succeed without them! Keep them updated about when you will deliver their rewards, as well as on the next stages of your adventure. They want to know what happens beyond the culmination of the crowdfunding campaign!
Choose the Crowdfunding Platform that Best Suits your Objectives
It is important to choose the right crowdfunding platform according to your project and your objectives. Who do you want to reach? What type of project do you want to fund? How much do you want to fundraise? Tools such as AlliedCrowds can help you navigate the sea of crowdfunding platforms.
Many websites and especially crowdfunding associations can provide you with resources on crowdfunding and help you prepare your campaign.
Here are some examples of reward-based crowdfunding platforms around the world:
Take a look at campaign statistics compiled by the crowdfunding platform GoGetFunding to have an idea of what makes a campaign successful. Finally, do not hesitate to browse crowdfunding websites to learn the best practices from successful campaigns!
The next chapter of this series will be about equity-based crowdfunding, a great model to strengthen your company’s capital when you’re in the growth phase!
Photo Credit: Kailash Mittal, 2015 CGAP Photo Contest
This article was written by Marion Sangouard. Marion is an intern at Child & Youth Finance International with an interest in economics, business, crowdfunding, microfinance, and entrepreneurship. She studied at the University of Paris, Dauphine where she holds a Master's Degree in International Affairs, Development and Peace Studies.