From humble beginnings in the USA, crowdfunding is enjoying a meteoric rise in growth and popularity. Projections are that, whilst still relatively small in overall funding terms, the sector is set to enjoy hockey stick growth in the future. But what is it, and what are the different types of crowdfunding?
Crowdfunding is an alternative source of finance for your business. It is a concept whereby individuals (the crowd) collectively pool their resources - usually via the Internet - to support businesses or social enterprises. Crowdfunding is used in support of a wide variety of activities, including: business growth, start-ups, support of musicians by fans, disaster relief, scientific research etc.
It is basically a way of raising finance by asking a large number of people each for a small amount of money. Traditionally, financing a business, project or venture involved asking a small number of people for large sums of money. Crowdfunding switches this idea around, using the internet to talk to thousands - if not millions - of potential funders.
Typically, those seeking funds will set up a profile of their project on a crowdfunding website, of which there are an increasing number many specialising in various sectors, and the crowd will then decide whether to back the idea or not.
There are three different types of crowdfunding: donation, debt and equity.
Debt crowdfunding occurs when investors effectively provide loans to a business, and will receive their money back with interest. Also called peer-to-peer lending, it allows for the lending of money while bypassing traditional lenders such as banks.
Interestingly, the government has recently provided a significant amount of money to one well known provider of debt crowdfunding to pass on to their customers.
At the present time, it tends to be only available for established businesses although there are now a large number of specialist funders specialising in different parts of the market eg asset-backed lending, invoice discounting, bridging finance, personal lending etc.
You might also want to consider a business angel, if crowdfunding isn't for you.
Equity based crowdfunding
Equity based crowdfunding occurs when money is exchanged by individuals for a small stake in a business (including start-up), project or venture. As with other types of shares, apart from community shares, if it is successful the value goes up. If not, the value goes down. There have been issues and concerns over FCA compliance, but this is gradually being addressed.
As with debt crowdfunding, there are several equity based crowdfunding specialists which concentrate on different parts of the market including start-ups, established and growth businesses.
Donation crowdfunding occurs when people invest simply because they believe in the cause. Rewards can be offered such as acknowledgements on an album cover, tickets to an event, free gifts etc. Donors typically have a social or personal motivation for putting their money in and expect nothing back, except perhaps to feel good about helping the project.
Crowdfunding and the different types of crowdfunding is a fascinating concept which has essentially been created by the need to fill the funding gap following the credit crunch. Alternative finance business lending, of which crowdfunding is a big part, though still less than 3% of gross lending grew by 75% to £1.26bn in 2015 and this trend is forecast to continue. Watch this space!