Crowdfunding – what is it and how does it work?
Crowdfunding has been a buzz word for a while now, but what exactly is it?
The traditional method for raising finance involves dealing with banks or using private investment to inject large sums of cash into the business to help it grow. Crowdfunding is an alternative approach that uses the power of the internet to reach out to perfect strangers to give them the opportunity to provide small amounts of investment in return for a benefit.
There are a number of websites dedicated to crowdfunding and each sees investment being provided in different ways:
- Some crowdfunding involves investment in return for incentives that are intangible and socially motivated. They give no return other than a feel good factor and maybe exclusive access to the first product.
- Debt crowdfunding provides investment with a financial return as some interest may be charged. This allows for the business to avoid the traditional financial institutions and still look to move forward. Investors will get a financial return and will have contributed to the success of a venture.
- Equity crowdfunding is when the business requests small amounts of funding in exchange for shares. This is more complicated. If the venture is not successful then the value of the shares may decrease.
One of the main benefits of crowdfunding is that it creates a powerful platform to promote and obtain support for a new project. In particular, projects that ask for equity investment will more likely create a strong support network because there is a vested interest in the business. There may also be tax advantages in investing through crowdfunding, but you will need to seek professional guidance on each investment scenario as required.
Crowdfunding is mainly developed and supported through the internet and this together with the power of social media can help raise awareness of a start-up that would have previously struggled to get off the ground. Using a website that specialises in crowdfunding can help deliver a clear message to attract potential investors, clients and suppliers.
Most crowdfunding platforms will assist with the formalities and legal process involved. There are a number of regulatory and legal requirements to be considered when looking to raise investment via an online platform that connects a business with potential investors. The platform itself should be reputable and compliant with the appropriate regulatory bodies such as the Crowdfunding Association and the Financial Conduct Authority to avoid any potential pitfalls and mitigate the risk of breaching the terms and conditions provided by the appropriate regulations.
Crowdfunding can be a fantastic opportunity for small businesses to raise finance but it should be taken seriously with the knowledge that there will be a responsibility to use funds received appropriately and in line with the considered strategy of the business.