Getting your startup funding is an essential skill for most tech startup founding teams. Where your product has mainstream appeal then crowdfunding could well be a viable option.
Crowdfunding – raising retail funds from the community
What do you do if you’ve got a great idea for a business or product but can’t find some wealthy investors who are willing to back it? Well, how about you instead look for a large number of people who are each prepared to invest a small amount of money? That’s the basic concept behind crowdfunding, an investment model that empowers entrepreneurs, innovators, and artists to raise money using websites like GoFundMe, Indiegogo, Pozible, and Kickstarter.
Crowdfunding is far from being an obscure alternative to traditional investment methods such as venture capitalism or a stock market initial public offering. For example, the world’s largest online crowdfunding platform, Kickstarter, has raised more than $2 billion since its inception in 2009. So how can you get involved, and what should you know before you do?
Crowdfunding versus crowd-sourced funding
It’s important to make a distinction between crowdfunding and crowd-sourced funding: they may sound similar, but they describe very different funding models, each of which must abide by specific regulations.
As mentioned above, crowdfunding is a process whereby artists, entrepreneurs, and innovators raise money by soliciting affordable ‘pledges’ or ‘donations’ from a large number of people through websites like Pozible or Indiegogo.
Crowdfunding projects usually have relatively small budgets. In most cases, the individuals running a crowdfunding campaign are only allowed to keep the funds pledged to them if they hit a predetermined target (or ‘reserve’). Otherwise, the website will automatically refund pledges.
To generate enthusiasm for new projects, most crowdfunding campaign organisers will offer potential investors a non-monetary reward in return for their financial support. For example, investors may be eligible for early access to a new product, receive limited edition merchandise (like tee-shirts and caps), or be able to purchase the new product at a discounted price.
Crowd-sourced funding (CSF), also known as equity crowdfunding or crowd-sourced funding of shares, is a fundraising model employed by startups and small- to medium-sized enterprises. Previously prohibited, crowd-sourced funding is now legal under the Corporations Amendment (Crowd-sourced Funding) Act 2017.
CSF allows members of the public to invest in businesses, in exchange for which they receive securities in the form of shares. To receive CSF, businesses must register with an intermediary that possesses an Australian financial services licence. They must also commit to providing a five-day cooling off period, during which investors are entitled to change their mind and receive a full refund of their investment.
CSF investors, for their part, must also abide by strict rules. For example, they are only allowed to invest up to $10,000 per company in a 12-month period.
I’m interested in supporting a crowdfunding campaign. What should I know?
Crowdfunding can be a great way to support the artists you love or bring to the market products that appeal to your enthusiasm. However, it’s important to be aware that there are risks involved in supporting a crowdfunding campaign. Often, the individuals raising funds can face delays when they reach the manufacturing or distribution stages: this can be frustrating for backers, for whom receipt of the product, whether it’s an innovative backpack or a new studio album, represents a return on their investment. Other times, a project can turn out to be… well, a flop.
- So, before you sponsor a project, you should try to find out as much as possible about its owner and the product for which they’re raising money. Ask the following questions:
- Have they used crowdfunding before?
- Have they been involved in successful projects in the past?
- Did they deliver the gift, if one was promised?
- Is the product for which they are raising money feasible? Have they providing any evidence that the prototype (if there is one) can be produced at scale?
- Who will manufacture and distribute the product?
Note that, as a general rule, crowdfunding websites do not have Deductible Gift Recipient (DGR) status, which means that your contributions are not tax deductible.
Remember also that crowdfunding is largely a trust-based exercise: you should only invest in projects that you have a desire to see succeed, but bear in mind that, by doing so, you’re not entitled to equity or remuneration and some projects do fail. Having said that, just as many, if not more, succeed, and this can be a hugely rewarding experience for early backers.
If you need expertise around the accounting or capital raising aspects for crowdfunding please reach out to us at Fullstack.