Capital financing: Crowdfunding makes exploratory initiatives

Shah Md Ahsan Habib | Published: January 01, 2019 21:09:32


A relatively recent and interesting development in the area of collaborative finance without the engagement of a financial institution is 'crowdfunding'. Remarkable development and use of technology in the financial arena and progress in social networking by using internet-based platforms have contributed to this financing innovation.

Crowdfunding is commonly defined as a method of raising capital through the collective effort of friends, family, customers, and individual investors. Broadly, crowdfunding might take three shapes: donation-based, reward-based, and equity-based.

There is no financial return to the contributors in donation-based crowdfunding campaigns. Generally donation-based crowdfunding initiatives include fundraising for disaster relief, charities, nonprofits, and medical bills.

Reward-based crowdfunding campaigns commonly involve individuals contributing to businesses in exchange for a reward, typically a form of the product or service that a company offers. Sometimes, reward-based crowdfunding is considered as part of donation-based crowdfunding as there is no financial or equity returns. 

Equity-based crowdfunding allows investors to become part-owners of a company by trading capital for equity shares. Unlike the donation-based and reward-based methods, investors, as equity owners, receive a financial return on their investment and ultimately receive a share of the profits in the form of a dividend or distribution. Though peer-to-peer (P2P) lending is not always considered as crowdfunding, in some literature it is titled as debt-based crowdfunding.

Michael Sullivan has generally been credited with coining the term 'crowdfunding' in the year 2006. It was basically a failed attempt at creating an incubator for some video blog-related projects and events through launching 'fundavlog', a funding scheme. The scheme was based on mutuality and shared interests and, funding from the crowd. Today the attempt is to relate the concept of crowdfunding with the technology-based web and social network.

Since the early years of this century, crowdfunding gave way to a surge of what came to be known as peer-to-peer (P2P) lending. Several platforms were developed to facilitate crowdfunding. As a micro lending platform, Kiva was launched in 2005 which is said to be the first platform to allow entrepreneurs to lend money to developing areas across the world.  'Kiva' became one of the most successful micro-lending platforms that have raised millions through crowdfunding, and with an outstanding repayment rate. This model was developed and expanded into what is popularly called as peer-to-peer lending, an alternative to traditional bank lending.  Initial peer-to-peer lending sites launched include 'Zopa', 'Prosper', 'Lending Club' etc. After initial struggles, these platforms started getting momentum since 2008.

Actually, the term 'crowdfunding' received popularity with the introduction of the platforms like 'IndieGoGo' and 'Kickstarter' in 2008. These crowdfunding platforms came into the scene with the goal of supporting creative entrepreneurs and innovative projects. In addition to that, the P2P model initiated by 'Prosper' and 'Lending Club' started a new life during 2008-2009 when more and more lenders and borrowers started connecting directly via the internet avoiding the banks, and these were  registered with the securities and exchange commissions. Practically, the appearance of 'Kickstarter' and 'Indie GoGo' and the big push of the 'Prosper' and 'LendingClub' came up with the sign that the environment is ready to give crowdfunding its momentum.

Equity-based crowdfunding is a relatively recent development. 'GrowVC'  and 'Crowdcube' are said to be initial platforms, launched in 2010 and 2011 respectively, starting what known as equity-based crowdfunding. GrowVC was launched to support technology startups and help startups companies secure initial funding. Crowdcube, a business finance crowdfunding platform, was launched to help businesses raise equity finance.

Crowdfunding is considered different from mainstream approach to business finance. Ordinarily, for raising capital to start a business or launch a new product, preparation of a business plan, undertaking market research, and shopping the ideas are key steps that are not easy to comply with. The common funding sources include banks, angel investors, and venture capital firms which offer limited options to a few key players.  Crowdfunding platforms, on the other hand, offer the entrepreneur, a single platform to build, showcase, and share resources, and thus streamline the traditional format. With crowdfunding, it seems much easier to get opportunity of getting financing help. This is particularly suitable from the point of view of reach and efficiency. By using a crowdfunding platform it is possible to get access to thousands of accredited investors who can see, interact with, and share. One of the best things about online crowdfunding is its ability to centralise and streamline fundraising efforts by building a single, comprehensive profile in a much more accessible format, offering tremendous efficiency in fundraising.

Despite its slow adoption in developing economies, crowdfunding has been heralded as an opportunity to expand access to capital for entrepreneurs. In 2013, the World Bank published a report, 'Crowdfunding's Potential for the Developing World', which estimated a figure close to US$ 100 billion crowdfunding market in the developing world by 2025. Our neighbouring country India, which is having a booming start-up ecosystem, grabbed the concept of online crowdfunding quickly. Since 2010, several crowdfunding platforms have emerged on the Indian web and are doing noticeably good. We also observe some initiatives of crowdfunding in Bangladesh. BD Venture Limited launched a crowdfunding platform 'Oporajoy' to raise funds. It is a donation-based crowdfunding platform. Again, BD Venture launched 'FundSME.com.bd' to help entrepreneurs to raise the necessary capital from the crowd to accelerate their businesses. FUND SME is an equity-based crowdfunding platform that makes it easy for businesses to raise capital from its network and allows entrepreneurs to share their profiles and business plans with a network of investors, venture capitalists, and business supporters.

Dr. Shah Md Ahsan Habib is  Professor and Director (Training), Bangladesh Institute of Bank Management (BIBM).

ahsan@bibm.org.bd

 

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