Crowdfunding

Overview

Crowdfunding is the practice of funding a project or venture by raising money from a large number of people, typically via the internet. Crowdfunding is a form of crowdsourcing and alternative finance, to fund projects "without standard financial intermediaries". In 2015, over US$34 billion was raised worldwide by crowdfunding. One of the companies that obtained money through crowdfunding is Bonaverde in Berlin. Although similar concepts can also be executed through mail-order subscriptions, benefit events, and other methods, the term crowdfunding refers to internet-mediated registries. This modern crowdfunding model is generally based on three types of actors – the project initiator who proposes the idea or project to be funded, individuals or groups who support the idea, and a moderating organization (the "platform") that brings the parties together to launch the idea. The term crowdfunding was coined in 2006 by entrepreneur and technologist, Michael Sullivan, to differentiate traditional fundraising from the trends of native Internet projects, companies and community efforts to support various kinds of creators. Crowdfunding has been used to fund a wide range of for-profit entrepreneurial ventures such as artistic and creative projects, medical expenses, travel, and community-oriented social entrepreneurship projects. Although crowdfunding has been suggested to be highly linked to sustainability, empirical validation has shown that sustainability plays only a fractional role in crowdfunding. Its use has also been criticized for funding quackery, especially costly and fraudulent cancer treatments.

History

Funding by collecting small donations from many people has a long history with many roots. Books have been funded in this way in the past; authors and publishers would advertise book projects in praenumeration or subscription schemes. The book would be written and published if enough subscribers signaled their readiness to buy the book once it was out. The subscription business model is not exactly crowdfunding, since the actual flow of money only begins with the arrival of the product. However, the list of subscribers has the power to create the necessary confidence among investors that is needed to risk the publication. War bonds are theoretically a form of crowdfunding for military conflicts. London's mercantile community saved the Bank of England in the 1730s when customers demanded their pounds to be converted into gold – they supported the currency until confidence in the pound was restored, thus crowdfunding their own money. A clearer case of modern crowdfunding is Auguste Comte's scheme to issue notes for the public support of his further work as a philosopher. The "Première Circulaire Annuelle adressée par l'auteur du Système de Philosophie Positive" was published on March 14, 1850, and several of these notes, blank and with sums, have survived. The cooperative movement of the 19th and 20th centuries is a broader precursor. It generated collective groups, such as community or interest-based groups, pooling subscribed funds to develop new concepts, products, and means of distribution and production, particularly in rural areas of Western Europe and North America. In 1885, when government sources failed to provide funding to build a monumental base for the Statue of Liberty, a newspaper-led campaign attracted small donations from 160,000 donors. Crowdfunding on the internet first gained popularity and mainstream use in the arts and music communities. One of the earlier instances of online crowdfunding in the music industry was in 1997, when fans of the British rock band Marillion raised US$60,000 in donations through an Internet campaign to underwrite an entire U.S. tour however this was not crowdfunding in its true sense as it wasn't asked for by the band and only reluctantly taken. The band subsequently used this method to fund their studio albums. This built on the success of crowdfunding via magazines, such as the 1992 campaign by the Vegan Society that crowdfunded the production of the Truth or Dairy video documentary. In the film industry, writer/director Mark Tapio Kines designed a website in 1997 for his then-unfinished first feature film, the independent drama Foreign Correspondents. By early 1999, he had raised more than US$125,000 through the site from various fans and investors, providing him with the funds to complete his film. In 2002, the "Free Blender" campaign was an early software crowdfunding precursor. The campaign aimed for open-sourcing the Blender 3D computer graphics software by collecting €100,000 from the community, while offering additional benefits for donating members. The first online crowdfunding platform, ArtistShare launched in 2001, was innovative in providing an opportunity to mix various rewards. As the model matured, more crowdfunding sites started to appear on the web such as Kiva (2005), The Point (2008, precursor to Groupon), Indiegogo (2008), Kickstarter (2009), GoFundMe (2010), Microventures (2010), YouCaring (2011), Crowdfunder (2012), and Redshine Publication (2012) for book publication. The phenomenon of crowdfunding is older than the term "crowdfunding". The earliest recorded use of the word was in August 2006. Crowdfunding is a part of crowdsourcing, which is a much wider phenomenon itself. The use of crowdfunding in the US has gained an increased presence since the JOBS Act and has a significant social media presence. "Approximately 25 percent of real-world relationships start online, with people of all ages migrating online to find a partner. Crowdfunding is doing for small businesses and entrepreneurs what dating sites have done for singles." Those unable to procure funding from traditional methods may be interested in pursuing crowdfunding as an option; however, the success rate may be a deterrent. E. Mollick examined Kickstarter projects from 2009 through 2012 and found that many projects were not successful as only "3% raise 50% of their goal," and he stated that successful projects succeed "by relatively small margins."

Types

The Crowdfunding Centre's May 2014 report identified two primary types of crowdfunding:

Rewards crowdfunding, in which entrepreneurs pre-sell a product or service to launch a business concept without incurring debt or sacrificing equity/shares. Equity crowdfunding, in which the backer receives shares of a company, usually in its early stages, in exchange for the money pledged.

Reward-based

Reward-based crowdfunding has been used for a wide range of purposes, including album recording and motion-picture promotion, free software development, inventions development, scientific research, and civic projects. Many characteristics of rewards-based crowdfunding, also called non-equity crowdfunding, have been identified by research studies. In rewards-based crowdfunding, funding does not rely on location. The distance between creators and investors on Sellaband was about 3,000 miles when the platform introduced royalty sharing. The funding for these projects is distributed unevenly, with a few projects accounting for the majority of overall funding. Additionally, funding increases as a project nears its goal, encouraging what is called "herding behavior". Research also shows that friends and family account for a large or even majority portion of early fundraising. This capital may encourage subsequent funders to invest in the project. While funding does not depend on location, observation shows that funding is largely tied to the locations of traditional financing options. In reward-based crowdfunding, funders are often too hopeful about project returns and must revise expectations when returns are not met. In the United Kingdom, rewards-based crowdfunding has been adopted by public institutions as a mechanism for distributing grant funding. Crowdfunder, a British platform founded in 2011, pioneered a "matched crowdfunding" model in which public bodies pledge additional funds to projects that successfully raise a threshold amount from the public. A pilot delivered in partnership with Nesta, Arts Council England, and the Heritage Lottery Fund between 2016 and 2017 demonstrated that match funding could leverage significantly greater public contributions: £251,500 in institutional funding supported 59 arts and heritage projects, which collectively raised an additional £405,941 from 4,970 individual backers. The findings were published as Matching the Crowd, a research report produced jointly by Nesta and the Department for Digital, Culture, Media and Sport.

Prize draw crowdfunding

A variant of rewards-based crowdfunding involves prize draws, in which participants donate to a campaign in exchange for entries into a draw for a prize, rather than a guaranteed reward. This model has been used primarily for charitable fundraising, combining the incentive of a high-value prize with the goal of raising funds for a cause. In the United Kingdom, Crowdfunder has hosted several significant prize draw campaigns. Glastonbury Festival ran prize draws on the platform in 2024 and 2025, offering tickets to the sold-out festival in exchange for £10.

Equity

Equity crowdfunding is the collective effort of individuals to support efforts initiated by other people or organizations through the provision of finance in the form of equity. In the United States, legislation that is mentioned in the 2012 JOBS Act will allow for a wider pool of small investors with fewer restrictions following the implementation of the act. Unlike non-equity crowdfunding, equity crowdfunding contains heightened "information asymmetries." The creator must not only produce the product for which they are raising capital, but also create equity through the construction of a company. Equity crowdfunding, unlike donation and rewards-based crowdfunding, involves the offer of securities which include the potential for a return on investment. Syndicates, which involve many investors following the strategy of a single lead investor, can be effective in reducing information asymmetry and in avoiding the outcome of market failure associated with equity crowdfunding. Contributors may act as investors and receive shares directly, or the crowdfunding service may act as a nominated agent. Equity crowdfunding helps "the 90 percent of businesses that were left out in the cold" by traditional funding methods, which is why it has become such a viable option for business startups. Equity-based funding is illegal in many countries, such as India. In the United States the JOBS Act of 2012 regulated the trend. This "legislation was intended to increase access to capital for the innovative companies" in need of investment capital and allows a pool of small investors to come together. The Regulation was updated in 2021 by the SEC allowing companies to raise to $5 million per year from unaccredited investors and allowing investors to invest more.

Digital security

Another kind of crowdfunding is to raise funds for a project where a digital security is offered as a reward to funders which is known as Initial coin offering (abbreviated to ICO). Some value tokens are endogenously created by particular open decentralized networks that are used to incentivize client computers of the network to expend scarce computer resources on maintaining the protocol network. These value tokens may or may not exist at the time of the crowdsale, and may require substantial development effort and eventual software release before the token is live and establishes a market value. Although funds may be raised simply for the value token itself, funds raised on blockchain-based crowdfunding can also represent equity, bonds, or even "market-maker seats of governance" for the entity being funded. Examples of such crowd sales are Augur decentralized, distributed prediction market software which raised US$4 million from more than 3500 participants; Ethereum blockchain; and "the Decentralized Autonomous Organization".

Debt-based

Debt-based crowdfunding (also known as "peer-to-peer", "P2P", "marketplace lending", or "crowdlending") arose with the founding of Zopa in the UK in 2005 and in the US in 2006, with the launches of Lending Club and Prosper.com. Borrowers apply online, generally for free, and their application is reviewed and verified by an automated system, which also determines the borrower's credit risk and interest rate. Investors buy securities in a fund that makes loans to individual borrowers or bundles of borrowers. Investors make money from interest on the unsecured loans; the system operators make money by taking a percentage of the loan and a loan servicing fee. In 2009, institutional investors entered the P2P lending arena; for example in 2013, Google invested $125 million in Lending Club. In 2014, in the US, P2P lending totaled about $5 billion. In 2014, in the UK, P2P platforms lent businesses £749 million, a growth of 250% from 2012 to 2014, and lent retail customers £547 million, a growth of 108% from 2012 to 2014. In both countries in 2014, about 75% of all the money transferred through crowdfunding went through P2P platforms. Lending Club went public in December 2014 at a valuation around $9 billion.

Litigation

Litigation crowdfunding allows plaintiffs or defendants to reach out to hundreds of their peers simultaneously in a semi-private and confidential manner to obtain funding, either seeking donations or providing a reward in return for funding. It also allows investors to purchase a stake in a claim they have funded, which may allow them to get back more than their investment if the case succeeds (the reward is based on the compensation received by the litigant at the end of his or her case, known as a contingent fee in the United States, a success fee in the United Kingdom, or a pactum de quota litis in many civil law systems). LexShares is a platform that allows accredited investors to invest in lawsuits. If the claimant wins, investors may get more than their initial investment.

Donation-based

Donation-based crowdfunding is the collective effort of individuals to help charitable causes. In donation-based crowdfunding, funds are raised for religious, social environmental, or other purposes. Donors come together to create an online community around a common cause to help fund services and programs to combat a variety of issues including healthcare and community development. The major aspect of donor-based crowdfunding is that there is no reward for donating; rather, it is based on the donor's altruistic reasoning. Ethical concerns have been raised about the increasing popularity of donation-based crowdfunding, which can be affected by fraudulent campaigns and privacy issues.

Role

The inputs of the individuals in the crowd trigger the crowdfunding process and influence the ultimate value of the offerings or outcomes of the process. Individuals act as agents of the offering, selecting, and promoting the projects in which they believe. They sometimes play a donor role oriented towards providing help on social projects. In some cases, they become shareholders and contribute to the development and growth of the offering. Individuals disseminate information about projects they support in their online communities, generating further support (promoters). The motivation for consumer participation stems from the feeling of being at least partly responsible for the success of other people's initiatives (desire for patronage), striving to be a part of a communal social initiative (desire for social participation), and seeking a payoff from monetary contributions (desire for investment). Additionally, individuals participate in crowdfunding to see new products before the public. Early access often allows funders to participate more directly in the development of the product. Crowdfunding is also particularly attractive to funders who are family and friends of a creator. It helps to mediate the terms of their financial agreement and manage each group's expectations for the project. An individual who takes part in crowdfunding initiatives tends to have several distinct traits – innovative orientation, which stimulates the desire to try new modes of interacting with firms and other consumers; social identification with the content, cause, or project selected for funding, which sparks the desire to be a part of the initiative; and (monetary) exploitation, which motivates the individual to participate by expecting a payoff. Crowdfunding platforms are motivated to generate income by drawing worthwhile projects and generous funders. These sites also seek widespread public attention for their projects and platforms. Crowdfunding websites helped companies and individuals worldwide raise US$89 million from members of the public in 2010, $1.47 billion in 2011, and $2.66 billion in 2012 — $1.6 billion of the 2012 amount was raised in North America. Crowdfunding is expected to reach US$1 trillion in 2025. A May 2014 report, released by the United Kingdom-based The Crowdfunding Centre and titled "The State of the Crowdfunding Nation", presented data showing that during March 2014, more than US$60,000 were raised on an hourly basis via global crowdfunding initiatives. Also during this period, 442 crowdfunding campaigns were launched globally on a daily basis. The future growth potential of crowdfunding platforms also depends on their financing volume with venture capital. Between January 2017 and April 2020 globally 99 venture capital financing rounds for crowdfunding platforms took place with more than half a billion USD of total money raised. The median amount per venture capital financing rounds for crowdfunding was $5 million in the U.S. and $1.5 million in Europe between January 2017 and April 2020.

Platforms

In 2015, it was predicted that over 2,000 crowdfunding sites would be available to choose from in 2016. As of 2021, there are 1,478 crowdfunding organizations in the US (Crunchbase, 2021). As of January 2021, Kickstarter has raised more than $5.6 billion spread over 197,425 projects. Crowdfunding platforms have differences in the services they provide and the type of projects they support. Curated crowdfunding platforms serve as "network orchestrators" by curating the offerings that are allowed on the platform. They create the necessary organizational systems and conditions for resource integration among other players to take place. Relational mediators act as an intermediary between supply and demand. They replace traditional intermediaries (such as traditional record companies and venture capitalists). These platforms link new artists, designers, and project initiators with committed supporters who believe in the people behind the projects strongly enough to provide monetary support. In response to arbitrary crowdfunding curation on existing platforms, an open source alternative called Selfstarter emerged in late 2012 from the project Lockitron after it was rejected from Kickstarter. While Selfstarter required the creators of the project to set up hosting and payment processing, it proved that projects could successfully crowdfund without middlemen taking a significant percentage of the money raised. Online crowdfunding donors differ from traditional fundraising donors in that donors give anonymously, do not have a connection to the recipient, and may seek out a cause or recipient to give to. Another important factor is that online donors are not limited by their geographic location and can give to individuals or organizations anywhere in the world. Once a fundraiser is created, individuals can share the details anywhere to attract donors and gather funds for their cause. When it comes to motives, donations are made to individuals to help them reach a goal and typically drop off once that is met; however, donations to organizations are made for a greater societal good. The demographics of online donors vary from traditional donors as "online donors tend to be younger and give larger gifts than traditional donors." This is important for online campaign organizers to note as they determine their target audience; however, those over 50 have increased their social media usage and have a presence on Facebook. More research is needed in regard to the topic of crowdfunding in general. There are benefits to online crowdfunding as it has the ability to tap into audiences that are not close in geographic proximity to an individual or organization and to increase awareness about a campaign. However, with relatively low funding success rates reported, "social networking and traditional approaches to fundraising may be complements" to help individuals and organizations raise funds but not a replacement."