Want to replace the church roof? Or pay for your grandad's open heart surgery? Or perhaps you're a band wanting touring funds, or then again you could be starting up a company. If your bank manager is unsympathetic you might choose to bypass him completely, and try the crowdfunding option.
Crowdfunding provides a way to source money from individuals by essentially putting your idea out there and asking people to support it financially. It's a variant of the crowdsourcing concept. In crowdsourcing a piece of work is farmed out to volunteers or paid workers who contribute their expertise in order to solve a problem. If you're the one sourcing it's a bit like commissioning work from a bunch of employees you've never met. It can be a powerful way to distribute pieces of a complex problem to many people, who by doing their bit individually help to create a total solution. Wikipedia is a good example of crowdsourcing. In the case of crowdfunding however, it's all about asking the crowd out there to solve your problem by opening their wallets.
Although the word 'crowdfunding' only came into use in 2006, the concept itself is nothing new. In 1884 the newspaper publisher Joseph Pulitzer asked the American public to donate money towards the completion of the Statue of Liberty when existing funds ran out. In six months he raised $100,000. But what is making crowdfunding so powerful a medium in the late 20th and early 21st centuries is the reach of the internet. One of the first examples of crowdfunding is the British band Marillion, who in 1997 raised $60,000 from their fan base to finance an American tour. The same concept applies to charity fundraising, with JustGiving being launched in 2000. Since then thousand of registered UK charities have benefited from the generosity of the public, raising in excess of £700 million.
Things became more sophisticated with the founding of Kiva in 2005, as a micro financing platform. This allowed people to lend their money to others in developing countries, where people often have no access to traditional bank loans. Since inception Kiva has lent in excess of $573,000,000 in 75 countries, with a repayment rate of 98.84%. A resounding success story. After Kiva the model evolved into what is now known as peer to peer lending, which operates on the same principles, but in developed countries. It's a simple way for individuals to lend money to each other without any bank involvement. An example of P2P lending is LendingClub, which started up in 2007. They've transacted more than $4 billion in loans since then. The beauty of the idea lies in the concept that you as a lender have the opportunity to invest in areas that genuinely interest you, and that you believe in. And you're paid interest too ... LendingClub cements its credibility by being registered with the Securities and Exchange Commission.
Then in 2008 IndieGoGo was born. This variation on the crowdfunding theme is about raising money through donations for creative ventures. Things like movie making, music, and technology ideas are funded by contributors who don't get anything as tangible as interest payments in return. Instead they may get product samples or concert tickets, or simply anything appropriate that's linked to the idea being sold. Kickstarter came along in 2009 and today these two sites are the leaders in this area of crowdfunding.
Only relatively recently, in 2010, the equity based model emerged. GrowVC is an alternative to traditional venture capital, aimed at technology startups who want to raise money. This was followed by CrowdCube in 2011, which offers investors the chance to fund start up companies in all business areas. You can lend to established businesses for a fixed return, or take an equity stake in startups yet to prove themselves.
The two dominant models operating today are the donation based and equity based models. Others may yet emerge. Let's look at some of the benefits and risks associated with crowdfunding.
The benefits for the initiator of a crowdfunding project are multifold. A good project can help to raise the profile of the person starting it, thereby boosting reputation. It's a chance to prove that there is a market for their proposal, and it provides an opportunity to communicate with their audience, who provide feedback. If your idea doesn't fit the criteria of traditional banking finance you can open it up to the 'wisdom of the crowd'. This wisdom is predicated on the concept that the collective commitment and judgement of the crowd is a good predictor of success.
On the flip side, your reputation as a project initiator can be damaged if you generate no interest or fail to reach your stated goal. Appealing to the same bunch of donors again for subsequent projects may produce donor fatigue, which can doom a project to failure. If you're a lender as part of the loan based model you run the risk of losing your money, though in defence of the concept LendingClub has an annual default rate of just 3%, which seems reasonable, depending on your point of view of course.
As far as equity crowdfunding is concerned the risks are obviously higher for investors in start ups. The failure rate for start up businesses is high, and in some cases potential investors let their hearts rule their heads. Although in the UK the Financial Conduct Authority (FCA) regulates loan based and equity based crowdfunding, their outlook on the subject is that the risks are high. They advise potential investors to do their due diligence on the business they're thinking of investing in, and to satisfy themselves that they can handle the level of risk they're taking on.
Crowdfunding as a 21st century phenomenon has been made possible through the rise of social media and the sharing economy that it encourages. In the late 90's people were more reluctant to participate, but as social media networks like Facebook gained popularity the whole 'sharing' concept gained acceptance. This has allowed crowdfunding to grow and prosper. The donation based model has the potential to help individuals realise creative visions that enrich our art and culture, and assists charities in furthering their work. The equity based model allows entrepreneurs and prospective investors the chance to come together and realise business based visions. This comes with a risk warning, but it also opens up a new avenue of financing and communication that your staid bank manager could never contemplate. It is to my mind a refreshing disruption to the status quo, and demonstrates yet another way that the web is changing our lives.
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