What Is Crowdfunding: Meaning, Types & How Does It Work?

Funding a project, or business venture involves investing in its ideation, product development, sales and expansion. There are various project funding sources, like angel investors and loans from government schemes or financial institutions. Entrepreneurs can also cultivate a community through the process of crowdfunding, meaning that they can obtain funds from the crowd.

This article introduces the concept of Crowdfunding and its relevance among startups and small businesses alike.

Crowdfunding is a campaign whereby a crowd funds a business venture instead of investors. In short, the definition of crowdfunding entails any form of investment that does not follow traditional means and focuses on donation. Many new projects designed to develop new inventions or products are organised through crowdfunding programs. Unlike regular investment, crowdfunding projects utilise small amounts from many people to meet the demands.

Crowdfunding involves a constant cash flow to boost or initiate a new project. There are four different types of crowdfunding that you can take advantage of. They are as follows:

• Donation: Sometimes, a particular campaign, project or company can cultivate funds from the public. It is crucial to note that when concerned people offer donations for funding your project, they expect nothing in return. Donations are means to support a company or a cause.
• Debt: Unlike donations, sometimes companies accept peer-to-peer lending to fund a project. However, debts and loans are repayable with interest within a deadline.
• Rewards: Sometimes, companies accepting donations may reward donors. Although the amount and type of donations differ, donors may receive gifts as a token of appreciation.
• Equity: Equity-based campaigns offer donors a share of their business in exchange for funding. Depending on the number of donations, companies may offer shares corresponding to their donated amounts.

Other fundraising programs include profit-sharing funding, debt-securities funding and hybrid models.

Numerous online crowdfunding platforms enable donors to explore crowdfunding possibilities. Pledges for crowdfunding are possible through the platform in exchange for a platform usage fee, transaction fee and various other types of levy.  

Three major stakeholders involved in the campaign are the beneficiary, the donors  and the crowdfunding platform. Crowdfunding involves the following steps:

• During a crowdfunding campaign, individuals form a group to raise a particular amount. Donors take part in this campaign and contribute towards meeting the end goal.
• The beneficiary ensures that their fundraising campaign reaches a minimum amount within a stipulated time frame.
• Some crowdfunding platforms allow the beneficiaries to withdraw funds they have raised before the campaign ends. On the other hand, some crowdfunding platforms allow withdrawal only after the end of their stipulated campaign.

Investors and fundraisers prefer crowdfunding projects because they involve mass participation. Some expected benefits of organising a crowdfunding project include

• Low-risk and hassle-free: Obtaining funds from investors and financial institutions require a lot of paperwork and excellent pitching. In sharp contrast, crowdfunding presents a hassle-free and low-risk venture that does not involve the intricacies of financial markets. Thus, crowdfunding negates the effects of a dwindling economy or adverse stock market situations.
• No direct interaction required: Most crowdfunding projects can be initiated and proceeded online. Entrepreneurs should put forward their business or campaign ideas and set targets while starting a fundraiser. Please note that the success of a fundraising project depends on the pitching, target donors, etc.
• Funding multiple campaigns: Through the online platform, entrepreneurs can use equity funding to fund multiple projects simultaneously. This also helps them diversify their portfolio and reach out to maximum donors.

Obtaining a donation via crowdfunding requires patience and a clear idea of utilising the funds gathered. Specific tips for pitching the best crowdfunding project include:

• Communication: The perfect crowdfunding project succeeds solely because of symmetric communication between entrepreneurs and donors. Transparency is the key to obtaining the donor’s trust and clarifying the campaign or business plan. Constantly updating the community is essential since it assists in understanding the donor's willingness in a project. Experts believe updating donors on the project or business's position post-funding is crucial.
• Sharing relevant and engaging materials: Fundraisers should have enough documents to materials to support the underlying cause. It helps create an emotional bond that helps donors relate well to the product or campaign. This increases the chances of a successful campaign and highlights the entrepreneurs’ passion.
• Campaign preparation: Before launching a fundraising campaign, entrepreneurs must prepare to educate potential donors about their project. Thus business enterprises willing to launch a funding campaign must create campaigns to provide valuable knowledge about the product in question. Additionally, they must prepare marketing materials and develop plans for attracting potential donors.

A fraction of all crowdfunding campaigns succeed in obtaining funds to initiate the project or business. Many crowdfunding platforms charge a small fee to release funds obtained from donors. However, not everyone can benefit from crowdfunding, meaning that it does not always guarantee the success of a project; hence, it is also crucial to keep other funding avenues open.