Crowdfunding

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Crowdfunding is the practice of funding a project or a venture by raising small amounts of money from a large number of people.  It is relatively new in the UK but growing rapidly with some £217m being invested in UK companies via these platforms in 2017. 

It is therefore a realistic option for entrepreneurs and new businesses to consider when they are seeking to raise funds for growth and development.

 

There are 4 types of Crowdfunding:

 

1. Donation Based Crowdfunding

2. Rewards Based Crowdfunding

3. Debt Based Crowdfunding

4. Equity Based Crowdfunding

 

Donation Based Crowdfunding

This is where people ("the crowd") donate money because they wish to support an idea or a cause.  

As a result this type of fundraising is typically used for social causes, community projects and charities.

 

Rewards Based Crowdfunding

People contribute to a fundraising campaign and receive a "reward" or "perk" based on their contribution.  Typically the reward is a product or service that the company seeking the fundraising provides and often it is the product that funds are being sought for the development of.  The reward could also be completely unrelated to the funding purpose. 

For example a company is seeking funding to take Item X from prototype to full production and it will sell for £140 each.  The crowdfunding offer may be that those that contribute £100 will be sent one Item X by a given date and those that contribute £250 will receive 3 of Item X with perhaps a £1,000 contribution being eligible for 15 of Item X.

The rewards basis is therefore particularly suited to those seeking funding for consumer goods or services.

 

Debt Based Crowdfunding 

In this format the company running the crowdfunding campaign is in essence seeking to borrow money from a large number of people - perhaps as an alternative to a more traditional source such as a bank.

The company, or sometimes the individual, gives a binding commitment to repay the loan at a given date or dates with a set rate of interest paid.

Such schemes are popular where an entrepreneur is unable to borrow money from more traditional sources - and there could be many different reasons for this being the case.   A Debt crowdfunding campaign is also an alternative option for an entrepreneur who doesn't wish to dilute his shareholding in his company at such an early stage of its development.

 

Equity Based Crowdfunding

In this variation investors contribute money to the crowdfunding campaign in return for a share of the equity or ownership of the company.  If the company succeeds in its mission then those that contributed at the outset have the potential to receive a very high level of return but there is also a real risk of losing the investment.  As a consequence, from an investor's perspective, this is classed as a high risk activity.

Equity based crowdfunding can be seen to be an alternative to seeking venture capital and the investments of angel investors - think Dragon's Den !

 

UK Regulation

Debt based and Equity based crowdfunding are regulated in the UK by the Financial Conduct Authority (FCA) under the Financial Services and Markets Act 2000.   

Donation based and Rewards Based Crowdfunding are not regulated in the UK. 

The costs of regulated forms of crowdfunding will be correspondingly higher than the unregulated alternatives.

In addition to the legislation there is also self-regulation through the UK Crowdfunding Association (UKCFA).  This is a membership organisation that was created in 2013 to promote the interests of crowdfunding platforms, their investors, and clients. Members of the UKCFA are required to agree to a code of conduct which, among other things, promotes and implements transparency, security, appropriate safeguards and compliance with applicable laws and regulations.

 

Crowdfunding Platforms

There are many different online platforms and each will have its own area of specialism or focus.   Some will concentrate on regulated activities whereas others will avoid these versions of the activity.  A simple internet search will reveal names such as (in no particular order of significance)

Indiegogo, Kickstarter, Funding Circle, Crowdcube and Seedrs.  There are many more.

 

In all cases a company or entrepreneur seeking to raise funds will have to prepare and publish a "prospectus" or sales pitch in order to "sell" their idea to potential investors, donors or subscribers.  The prospectus is uploaded to the platform site and displayed alongside others seeking funding. The prospectus for the regulated variants need to be more detailed and prescriptive than for the unregulated activities.  There is an increasing level of sophistication in these on line presentations as entrepreneurs seek to stand out and attract investors, donors and subscribers. 

 

 

If you would like to talk to us about launching your business or developing it further through the use of crowdfunding please do get in touch.  Thank you for reading this article.

Ian Jarvis