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What is Crowdfunding?

crowdfunding Crowdfunding offers companies an alternative to traditional funding channels. / Credit: Shutterstock

Crowdfunding is a way for businesses, organizations and individuals to interact with other individuals, communities and organizations to raise a fixed amount of money as a loan, donation or investment. Some companies may turn to crowdfunding to obtain the necessary support for a new project or idea. Most often, crowdfunding requires that funding be raised during a set timeframe via a digital social network.

Participants, or “backers” as they’re often called, pledge a minimum amount to the fund and may receive a reward for their contribution. These rewards oftentimes scale based on the size of a donation to incentivize higher donations. While what a backer does could be considered buying ownership of a company, crowdfunding does not give away ownership or equity from the project’s owner.

The challenges of crowdfunding

Many individuals associate crowdfunding as an easy or free way of making money. It requires a lot of effort to establish a project that backers will perceive as a valuable service. Success isn’t always guaranteed, and as crowdfunding becomes more and more common, backers have become shrewder with what projects they choose to support.

Crowdfunding backers don’t always know when a crowdfunding activity is trustworthy or legitimate. Many crowdfunded projects have disappeared either because it was a scam or the entity behind bringing the project to fruition ran out of money and the project failed. Regulations do not fully protect backers from being scammed or protect against projects that end up failing, which means crowdfunding must remain transparent and informative to the community.

Examples of crowdfunding

Not all projects are able to succeed, and few of them really obtain any significant levels of funding.

The prospect of pursuing crowdfunding as a fundraising opportunity originates with a business or individual who has an idea or product that needs money to become available to consumers. Many projects with excellent ideas end up failing, whereas others with simple premises flourish beyond all expectations. Crowdfunding projects tend to follow more of a viral method of growth, and as such are quite unpredictable without the proper marketing.

One instance of a successful crowdfunder revolves around the success of the Ouya, a gaming console based on the Android mobile operating system. Created by a team of individuals who formerly worked for the companies behind the XBox 360 and PlayStation 3, they sought to break the monopoly of console gaming by introducing a new machine to the market. Their target goal was a modest $950,000 needed to fund research and development of the console and distribution. When the project concluded after a period of 31 days, the crowdfund netted more than $8.5 million from 63,000 interested backers.

After a video of a bus monitor being bullied by students went viral, a man who had never met the monitor decided to launch a crowdfund with the goal of sending her on a well-deserved vacation. The resulting support from the media and public at large helped generate more than $700,000, which not only succeeded in giving her enough for a vacation, but also a good retirement.

Concluding a crowdfund

Upon the conclusion of a crowdfunding fundraiser, one of three things happens. If the fundraiser was unsuccessful in reaching its target goal amount, funds are returned to backers. If the fundraiser was unsuccessful, some crowdfunding websites still allow companies to collect all money raised despite the failure of reaching the goal—oftentimes available for an additional expense.

If the fundraiser was successful, the company, organization or individual receives the total amount of money raised, minus any processing fees. For example, a popular crowdfunding source called Kickstarter charges a 5 percent fee for hosting the fundraiser in addition to a 3- to 5-percent fee through Amazon for payment processing. These payments are only required for successful crowdfunding projects and will not be charged to any that do not reach their target goal amount.

Examples of crowdfunding websites

Many websites exist that enable crowdfunding. Of these numerous resources, only a few stand out in popularity and in terms of success levels. Kickstarter is the most noteworthy crowdfunding resource with a proven history of raising more than half a billion dollars since 2009 on projects of varying sizes. Other popular crowdfunding platforms include StartSomeGood, Indiegogo and RocketHub.

Crowdfunding succeeds in integrating the traditional funding model with a more modern way of driving business and welfare. While crowdfunding does not necessarily guarantee the longevity of a company, project or idea, it helps many individuals gain experience, mobilize communities and create relationships for other opportunities.