Editor’s note: At Lantern, we strive to help you make financial decisions with confidence. To do this, we occasionally feature content that includes information about our partners and their products or services. We do not provide, endorse, or guarantee any third-party product, service, information or recommendations—and our opinions are our own.
Crowdfunding for small businesses is a relatively new way to raise capital. Whether you’re interested in crowdfunding for your small business or startup, this alternative method can be a viable way to pump some life and energy into whatever project you’re working on. Crowdfunding allows you to generate capital while simultaneously building excitement about your business. Here’s some helpful info to know about crowdfunding before you jump in.
What Can Crowdfunding be Used for?Crowdfunding offers a way for users to raise money online for their business, startup, or personal cause. Simply put, crowdfunding can be one possible alternative to small business loans from banks and credit unions (and in some cases, family members). Of course, there are many types of crowdfunding, but generally the process allows users to raise money without going into debt, which is why it’s so appealing to so many small business owners who need to save every dollar they can.
Popular Crowdfunding Sites for Small BusinessesThere are multiple websites out there where you can raise money online for your business, but some of the more popular ones include:Crowdfunder: The Crowdfunder has a community of 200,000, plus 15,000 accredited investors, giving you potentially major exposure. To date, startups have raised over $150 million through the platform. IndieGoGo: With over $1 billion raised, IndieGoGo is chock full of resources to help your campaign succeed. You can even tap into support to help make the most of your marketing efforts.Kickstarter: Kickstarter can make creative projects come to life. The funding is all or nothing, meaning you don’t receive any money if you don’t reach your campaign goal. GoFundMe: This fundraising site has a 0% platform fee and is easy to use. Plus, you don’t have to reach your campaign goal to access your raised funds. JustGiving: Focused on charitable giving, companies with a focus on social justice causes can raise money on JustGiving.GoFundMe and JustGiving are donation-based platforms, whereas Crowdfunder, IndieGoGo, and Kickstarter are rewards-based. Rewards-based campaigns are one of the most popular for businesses and entrepreneurs.
How Crowdfunding for Small Business WorksNo matter which site you choose, building a crowdfunding campaign generally involves three steps. They are:
- Creating the campaign
- Marketing the campaign
- Raising money with the intention of reaching the target goal. Some platforms require crowdfunders to reach their goal in order to keep any of the money raised, others do not.
Creating the CampaignThe campaign phase is where you state what you’re trying to fund and why. It could be an idea for a new business, product, or even service. Many successful campaigns spend a lot of time making compelling, easy to understand videos about why financial assistance is needed (and why crowdfunding is their best option). They clearly state what the money will be used for and why they need the amount that they do. Generally, telling a compelling story can be an important step in creating the overall crowdfunding campaign. Frequently, crowdfunding campaigns convey the business owner’s personal story and their reason for doing what they do. This process is very similar to writing a business plan.
Marketing the CampaignCreating a crowdfunding campaign is just the first step. You’ll also likely need a plan for marketing it to reach people who may be interested in supporting your business. Your “investor” is anyone who chooses to donate money to your campaign (and who is also probably your company’s target audience). Crowdfunding “investors” or “donors” choose to fund a business or project because they want early access to a particular product, but many simply do it because they want to help.As you may expect, this part of crowdfunding can take some work. Generally, people who donate to crowdfunding campaigns don’t spend time looking for someone or something to give their money to. They must be found and convinced of your business’s unique value. Depending on the type of business you run, some ideas to market and promote your campaign may include:
- Spreading the word on your company’s website and social media channels.
- Using promoted posts on social media.
- Doing interviews for online blogs, podcasts, or other media.
- Attending conventions, business fairs, or local community events.
- Distributing flyers, pamphlets, or other promotional materials in your community.
Reaching the Target GoalReaching your target money goal (or getting as close to it as you can) is the last phase to crowdfunding. Depending on which crowdfunding platform you choose, you may or may not get to keep the money if you don’t actually reach your goal. Be sure to pay attention to these details before you choose a final option.However, some companies use crowdfunding not just as a source of money, but also as a way to test the market and get valuable feedback. You may be able to find out if there’s a demand for your business and what people like and don’t like about it.
Different Types of CrowdfundingAs a business owner you usually have access to four basic types of crowdfunding: equity crowdfunding, donation crowdfunding, reward crowdfunding, and loan crowdfunding.
Equity CrowdfundingWith equity crowdfunding, you’re usually selling a portion of your company in exchange for money at a later date. This means that whenever your company is profitable, a portion of your profits must go to your investors. This type of crowdfunding does come with some legal tight ropes to walk across, but it can be done. Here are a few examples of equity crowdfunding companies: AngelList: You can create a startup profile to raise money and connect with venture capital funds on AngelList. CircleUp: This platform focuses on companies that sell directly to consumers. You could be partnered with investors and get help with distribution and operations.Fundable: You can opt for equity fundraising on this platform, although rewards-based crowdfunding is also available. Fundable recommends the equity option for campaigns raising between $50,000 and $10 million.
Donation Crowdfunding Donation crowdfunding is exactly what it sounds like. It’s when a person donates money to your crowdfunding campaign without expecting anything in return. They do so because they respect your business or cause and want it to succeed. Though donation crowdfunding sounds like the best, it may be the hardest to do well in. Generally speaking, people who are successful with this type of crowdfunding are usually with a charity or tackling a social issue head on.
Reward-Based CrowdfundingWith reward-based crowdfunding, contributors receive a sort of reward for contributing money. This type of crowdfunding is also called exchange crowdfunding and the reward often varies based on the amount of money that is given to the campaign. Businesses may send contributors the new product for which they’re raising funds. One of the more famous examples of this is when the Japanese game maker Yu Suzuki started a Kickstarter campaign to raise money to develop a video game, Shenmue 3. As part of the campaign, certain contributors received a copy of Shenmue 3. He originally asked for $2,000,000, but he instead raised $6,333,295. Kickstarter, Indiegogo, and Crowdfunder are three of the top exchange crowdfunding platforms.
Loan Crowdfunding Loan crowdfunding, also known as peer-to-peer lending or marketplace lending, is when a person or company seeks financial assistance from a group of people as opposed to a bank or credit union. The money is to be paid back by agreed upon dates and interest levels. Crowdfunding business loans may offer lower interest levels than traditional loans, and there is not as much red tape to work through. Prosper: Prosper allows you to take out a personal loan to use for your small business. It can be beneficial for new businesses because your application relies on your personal credit rather than your business credit.StreetShares: This platform offers a wide range of business financing options, and provides potential investors with the ability to invest in veteran business bonds.
Do You Pay Back Crowdfunding Money?Depending on which type of crowdfunding for small business you choose, the rules are different for what you are expected to do for your investors:Equity Crowdfunding: With this type of crowdfunding, investors aren’t repaid for their specific contribution. Instead, they become shareholders in the company, earning a proportionate slice of equity in the business venture. So as the company grows, you’ll be required to share a portion of your profits in dividend payments with your shareholders as long as your business is in operation.Donation Crowdfunding: You do not have to pay any money back received in a donation crowdfunding campaign. In this type of campaign, money is typically given without any expectation of a return.Reward-Based Crowdfunding: No, you are not required to pay back any money in an exchange crowdfunding campaign, but you are expected to send your funders an agreed upon reward once it is ready.Loan Crowdfunding: With loan crowdfunding you are expected to pay back any money you receive. Payback dates and interest levels are agreed upon beforehand.
Pros and Cons of Crowdfunding for Small BusinessesCrowdfunding, as with anything related to money, comes with its pros and cons.
Pros of Crowdfunding for Small Businesses
Here are some advantages of crowdfunding:
It can be a great way to test the market: If you have a business idea but you’re not sure if the market will respond to it or not, crowdfunding allows you the opportunity to turn it into a proven concept. However, if your campaign doesn’t reach a lot of investors or supporters, then that may be a sign you need to pivot your business strategy and idea.
The market finances your business or product: You’re not typically taking unnecessary risks with your finances. Instead, the market is taking most of the financial responsibility.It can create buzz and excitement about your product: A successful campaign will generate awareness and excitement over your business and product, which is time and effort well spent for many reasons. It can accelerate you past competition and years of struggle.
It can help you create a powerful network: Though this doesn’t happen automatically (and of course takes a lot of work), crowdfunding may introduce you to people who could help your business for years to come. It could help you raise a lot of money you would never have had access to without it: Obviously, the purpose of crowdfunding for small business is to raise money, but it’s possible to raise more money than you originally requested. It’s rare, but it does happen for some businesses. This is why it is so important to put everything you have into your campaign.
Cons of Crowdfunding for Small Businesses
Here are some of the disadvantages of crowdfunding:
It’s not as easy as it sounds: It’s a lot of work to launch a successful crowdfunding campaign. It’s not as simple as signing up and telling people how much you need. For example, many successful campaigns usually end up spending money on marketing and getting a professional to shoot their video.
YOU have to find a way to reach contributors: Whatever company you use to crowdfund isn’t usually going to advertise your campaign or make sure it reaches the right investors.
It can create unrealistic goals and expectations: With crowdfunding, you typically have to raise money by a certain date, so you need to set your own realistic goal. Remember that even the best of businesses need time to grow and mature.
You may have competition: Depending on your industry and niche, you may have thousands of campaigns to compete against.
Alternatives to CrowdfundingDespite the diversity in the types of crowdfunding available for businesses, there are several other options to explore. More established businesses can apply for small business loans through banks and other lenders. SBA loans may also be available if you have trouble qualifying for traditional financing. If you sell directly to consumers, you may be able to qualify for a merchant cash advance, which lets you borrow a lump sum and repay it as a percentage of your cash register sales. Similarly, invoice financing gives you an advance on unpaid invoices from your clients. Both of these options can have heavy fees and risks.
Successful crowdfunding for startups and businesses is done on a routine basis. Just make sure you lay the appropriate groundwork and have a solid game plan in place before you launch.
The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.The information and analysis provided through hyperlinks to third party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.No brands or products mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third party trademarks referenced herein are property of their respective owners.SOLC20020
About the Author
Lauren Ward is a personal finance expert with nearly a decade of experience writing online content. Her work has appeared on websites such as MSN, Time, and Bankrate. Lauren writes on a variety of personal finance topics for SoFi, including credit and banking.