If a business is looking to crowdfund for a new project, it has two options: equity or reward-based crowdfunding. Here’s what you can expect.
Crowdfunding is when a business brings together a large group of investors to share the risk and cost of an investment. This can be the initial funding to get a business off the ground, an expansion project or a new product.
Businesses sometimes choose crowdfunding as a way of avoiding debt, and it can be done without handing over any equity. It’s also a fairly cheap way of raising funding and can be a good chance to test an idea with the general public.
Typically, crowdfunding works on an “all or nothing” basis, where if a business does not raise the entire amount it gets nothing.
As mentioned before, there are distinct kinds of crowdfunding, reward and equity. Here’s an overview to help you decide which might be right for your business.
With reward-based crowdfunding, the business has to reward each pledge, but the “backer” doesn’t end up owning any of the company.
“Not all creative ideas are going to be profitable ones. And equity investors are inherently going to want a financial return on their investment. That limits the kinds of things that equity crowdfunding is good for,” said David Gallagher from reward-based crowdfunding platform, Kickstarter.
Platforms such as Kickstarter, and fellow market leader Indiegogo, have risen to prominence by helping artists, musicians and film makers fund their projects. Innovative hardware, such as the well-known Pebble smart watch, have raised millions using a rewards-based crowdfunding approach.
Sectors with most £1m+ raises on Kickstarter:
Film and video: 6
“When ideas are judged on their merit rather than the promise of profit, you’ll see big, bold ideas come to life, leading to a more diverse and vibrant culture,” Gallagher added.
“You may be unable to convince investors that your restaurant idea will generate big profits, but if people in the neighbourhood want it to happen, they can give you some money in exchange for the promise of a meal when you open.”
Case study: Reward-based crowdfunding
Mystery UK is a subscription-based secret events company. Customers receive a text with a time and location, and find out what they’re doing upon arrival.
The business has yet to launch in the UK, but the founders needed money for PR, website building, and the cost of setting up the events themselves.
“The idea of shifting equity in a business is an uncomfortable one, and the thought of having shareholders curating the direction of future business is not something you can plan for,” explained co-founder John Hunt.
“Our crowdfunding platform of choice was Kickstarter, which has a number of benefits, but mostly it was the appeal of rewarding those that pledge with products and services, rather than repayment or equity.”
The hard part was working out what to give away in rewards – the founders considered t-shirts and lollipops, but eventually decided on something that would appeal more to their target market.
In reward for a pledge, backers can receive vouchers worth up to 25 per cent more than the amount invested to spend at an events company with locations in London, Edinburgh and York, and a free month’s subscription to Mystery UK – depending on the amount pledged.
To actually launch the Kickstarter campaign, Mystery UK had to pull together a detailed plan outlining what it wanted to do and how it planned to do it.
“When it came to outlining the business, a video was the ultimate priority as apparently only eight per cent of projects without one succeed. So, we set to work with an under a minute video that best outlined our project, marking the current gap in the market, and how we plan to fill it.”
Equity crowdfunded business don’t have to reward pledges, but each have to give up a portion of the business.
“As equity investors are backing your business in return for an equity stake, they truly have a vested interest in seeing the company become a commercial success,” explained Luke Lang, co-founder of equity crowdfunding platform Crowdcube.
Crowdcube – Key stats:
Most investors: JustPark (2,702)
Fastest funded: Mondo (£1m in 96 seconds)
Largest raise: GoHenry (£4m)
Average amount raised: £440,242
Average number of investors: 238
“Of course, they believe in what your company does, they love your products and are an advocate for your brand but essentially, they also want the company to become a financial success so ultimately, it can deliver investors with a return. This key difference between equity and rewards-based crowdfunding means that equity investors are in it for the long-haul, not just for a short-term reward but to share in your company’s future success and as a result, they’ll be your biggest advocates and source of support, knowledge and connections.”
Case study: Equity crowdfunding
POD Point is a provider of electric vehicle charging which has manufactured and sold over 40,000 charging points since forming in 2009. It chose equity funding for a project to expand the charging infrastructure necessary for widespread adoption of electric vehicles in the UK.
“We were attracted to equity crowdfunding as an innovative way to fund POD Point’s growth that also allowed us to invite the electric vehicle community to become part of our journey. Like us, EV drivers are passionate about seeing the mass adoption of zero emissions transport in the UK and globally,” said James McKemmy, head of insights team at POD Point.
“We thought it would be appealing and reflective of the wider community if those passionate about EV were able to help accelerate the growth of the charging infrastructure by investing in POD Point – and they seemed to agree,”
The business chose equity over reward-based crowdfunding because it wanted to give the EV community a chance to own a stake and benefit from its growth.
POD Point has run campaigns on both Crowdcube and Seedrs, finding it straightforward to set up on both platforms. McKemmy had some useful advice for anyone considering the funding route.
“It’s important to do as much preparation as possible, especially in the following areas: defining your round structure and funding target, defining your narrative and value proposition for investors, getting your network and community engaged as early as possible, planning a marketing campaign to build interest in your round.”
Which is right for you?
If a business decides crowdfunding is the right option, the choice between equity and reward will often come down to personal preference – do you want to give away any of your business? It may also depend on what rewards a business has to offer.
At the end of the day, if you don’t reach the target, a crowdfunding campaign can still be great for PR purposes. Just be sure to do the prep work.