Crowdfunding is an alternative method of raising finance for a business project. Unlike traditional angel investment, in which just a few people typically take a larger share in a business, with Crowdfunding an entrepreneur can attract a ‘crowd’ of people, who may not have invested in shares before, each of whom takes a small stake in a business idea, by contributing towards an online funding target.
In the UK there are two main types of crowdfunding:
This is mainly used for funding start-ups and each investor receives an equity stake in the company;
This is not used for start-ups, the company has to be at least two years old and the money is a loan over 6 months,1, 2, 3 or 5 years.
The main benefit of crowdfunding, other than raising much needed capital, is that it creates a strong network of support for your company. The equity model is especially good at creating ambassadors for your brand, promoting it amongst their networks, family and friends and often becoming returning customers themselves.
How does it work?
Although the rules differ from site to site, generally an entrepreneur will pitch his/her idea, set a fundraising goal and set a deadline for raising funds. Potential lenders or investors can review the pitches and decide if there are any they would like to support. Many entrepreneurs will also offer incentives to investors in the form of discounts and special offers. If the total required is not raised then the funding does not go ahead.
The procedure for a lending crowdfunding site is not quite the same. On these sites you have to decide what interest rate you want to receive and then you bid for a portion of the loan. A common mistake is for the loan applicants, when they see that they have achieved 100% funding, to take the money before the auction has actually finished. This results in them paying a higher interest rate than they need to.
It must be remembered that this is an auction and when 100% of the funds have been raised, other potential lenders have to bid a lower interest rate to participate. I have seen loan rates decrease by over 2% in the last hours of an auction. So for the best results wait until the end of the auction before you take the funds raised.
How do I choose which crowdfunding site to use?
There are many sites to choose from and more are appearing all the time so here are six top tips:
- Choose the right site – do you want equity or debt?
- Know your target audience and pitch accordingly;
- Plan ahead – a first class business plan is essential, good special offers for the investors are important and make certain you keep the interest going and have news items ready for each week of the investment cycle;
- Be passionate – include images and think seriously about a video to really get your message across;
- Make certain you explain exactly how the money is going to be spent;
- Do not leave it to the crowdfunding site to find all your investors for you. Leverage all your family and friends and publicise it on all your social networks. No one wants to be first to invest so make certain that a family member invests a small amount right at the beginning and keep the momentum going. It is easy to get investors at the end but difficult to get them at the beginning.
If you are a small start-up with a product that can catch the general public’s imagination then equity crowdfunding may be the simplest and only way you may get your company up and running. If you are an established company but the bank will not lend to you, then debt crowdfunding could be the answer. Crowdfunding is still only a small part of the fundraising scene in the UK, but it is growing fast and if the banks are not careful they will soon start to see a dent in their customer base. If you need funding then it is certainly worth your while looking into crowdfunding.
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