Features

Crowdfunding: The Alternative Microfinance for Small Entrepeneurs

Introduction

Crowdfunding is a funding method where common people pool their resources to support efforts initiated by certain group people or organizations. Generally it is done via the Internet which is accessible to walks of life. The projects and business are financed with small contributions from a large number of individuals allowing entrepreneurs to utilise their social networks to raise capitals.

The common use of crowdfunding includes all major kinds of creative projects such as for personal, business, political or simply charitable in nature. Initially, crowdfunding started as a fund-raiser which focused heavily on causes rather than profitable projects. The wholly dedicated section for non-profit fundraising projects systematically developed into other categories namely individuals, corporations, and foundations and they each have their own benefits.

Crowdfunding came into the limelight with further advancement of information and communication technology that unleash the sharing power of widgets and space with social media integration which help to spread the message to every possible corner of the internet with greater success.For instance Barack Obama in 2008 raised $137 million during his presidency run for the United States through an online campaign that showed significant similarities to crowdfunding. That being said it is obviously the technological advantage that helps to spread the word about crowdfunding multitude of projects effectively. The crowdfunding is further enhanced psychologically with the participation of the group of more often than not passionate investors.

According to 2015CF – Crowdfunding Industry Report, global crowdfunding experienced accelerated growth in 2014, expanding by 167 percent to reach $16.2 billion raised, up from $6.1 billion in 2013. In 2015, the crowdfunding industry is set to more than double once again, targeting to raise $34.4 billion.

The rapid growth in 2014 was due in part to the rise of Asia regionas a major crowdfundingplatforms. Asian crowdfunding volumes grew by 320 percent, to $3.4 billion raised. On the other hand, it shows the region slightly ahead of Europe ($3.26 billion) as the second-biggest region by crowdfunding volume. North America continued to lead the world in crowdfunding volumes, growing by 145 percent and raising a total of $9.46 billion.

Models of Crowdfunding

Donation Model

The donation model of crowdfunding is simply for charities purpose and without existential rewards. The participants could raise money for charitable projects and pool community online in order to achieve certain amount of donation for a certain projects. In general, crowdfunding is popular in small number of participants or organizations that raise money for personal or specific charitable causes. Among the sites are Causes and Crowdrise.

Reward Model

The reward model has been grown drastically and has been one of the most popular crowdfunding model to date. The concept is the more you donate and the more you get in return. This concept encourages people to donate to projects and receive non-financial rewards in return that normally operating a tiered system. The possibility of this model is the donation might far exceeding the monetary value of the rewards or the reward costing the fundraiser little like the experience or recognition-related rewards. In other words, the concept is like the presale agreement.As such the entrepreneurs crowdfund the production cost of their business or product and allow the donors to be the first recipients once the production is complete. Among the platforms for reward model are Indiegog and Kickstarter in USA.

Lending Model

Among the famous sites for lending models are Zopa and Lendingclub which considered as an evolution of the peer-to-peer model of lending. The businesses are looking for debt apply through the platform uploading their pitch with participants of the crowd taking parts of the overall loans.Some platforms operate as an investment whereby interest rates are decided either by those looking for the loan or using a market for loan parts like being practised by FundingCircle from the UK. Indeed, other platforms use social causes offer interest-free loans like Kiva; the micro- lending site.

Investment Model

This concept of crowdfunding has been the slowest and unpopular due to regulatory restrictions that link to this model. This model is to invest for equity or profit/revenue sharing in businesses or projects. The equity crowdfunding model is pioneered in Europe which most popular sites such as CrowdCube in the UK and Symbid in Netherlands. On the other hand, platforms like Quirky have a revenue or profit-sharing models which allow the capitalization on the success of their projects.

Consequently, most of the models fall within one of these categories above while many also do not. For instance, BuzzBnk sites offer both the reward model and lending model which focused on social venture platform. Meanwhile, BankToTheFuture offer a funding for business that starts with reward-based and equity crowdfunding with the loans when they start generating revenue. In addition, other specialize sites are Unbound for book publishing, and Mobcaster sites for TV shows which give more options to the investors.

Table 2: Models of Crowdfunding

Form of Contribution Form of Return Motivation of Funder
Donation Crowdfunding Donation Intangible benefits Social motivation and intrinsic
Reward Crowdfunding Donation/ pre-purchase Rewards but also intangible benefits Social motivation and intrinsic and the combination for desire reward
Crowdfunded Lending Loan Loan repayment with interest The combination of social, intrinsic and financial motivation.
Equity Crowdfunding Investment If the business perform well the return on investment is on time. The combination of social, intrinsic and financial motivation.

 

How Crowdfunding Platforms Work?

The crowdfunding platforms serve as an intermediary between the owner such as individual or groups and a funder. The crowdfunding platforms work as illustrated in Figure 1. Firstly, the online platforms receive applications form individual or groups who have intention to showcase their ideas on the platform’s website. Certain platforms select the ideas based on their criteria while others automatically publish every idea. Indeed, platforms that using the pre-selection are examining the individual or groups profiles and conducting the feasibility of the crowdfunding plan.

Secondly, when the ideas are accepted by the online platform, the individual or group is assigned in creating a funding goal over a certain period of time and on online’pitch’. The individual or groups then pitches his or her own ideas to potential funders through mostly in the form of videos. The individual or groups utilise the social networks to attract potential funders efficiently. As a results, the funders will fund the campaign directly through the online crowdfunding platforms.

Thirdly, the individual or groups will keep his or her funders updated about the process with the updates on the online platform during the campaign. Fourthly, if the funding goal is achieved within the provided fundraising time frame, the individual or groups receives the money. However, if the goal is fail, most of the platforms will reimburse the money to the funders then. Lastly, in terms of post investment some funders like to involve in the decision making and overall strategy of the business. Certain funders receive voting rights in the business. In most scenarios, the relationship between the funders and individual or groups will remain through the online platform.

The Advantages of Crowdfunding

By participating in crowdfunding, the participants will benefits in social return, material return and financial return. In social return, the funders are satisfied with the achievement of the projects thus motivated them to keep up with their good effort. In general, their donations are used by the non-profit organizations efficiently. In material return,the funders will receive something such as a product or service for their investment. The business model that will be practice is pre-sales crowdfunding. The investors will pay the project owner in advance. The project owner can utilize the funds as their working capital to achieve their goals like creating the product or service.

On the other hand, the funder is satisfied with a return which lower economic value than the original investment. This business model is called reward-based crowdfunding. The perceived value can be much higher than the actual economic value. In addition, material returns given to funders in loan and equity-based business models. As a result, the funder receive a product or service for what they have invested instead of an interest or dividend payment.

The funder who prefers financial return also could invest through loan or equity-based crowdfunding. The risk is normally diversified between financial and emotional motivations. The project owner can practise equity-based crowdfunding to collectinvestments against the interest payments. In contrast the social lending gives the funder of zero percent interest-rate on their loan.

The crowdfunding also offers the project owner to gain feedback on some of the most critical parts of the product before its release to the market. As such, the project owner could seek for pricing information feedback on how to improve the product design and to gauge the demand of the products. Indeed, crowdfunding also creates a direct link between project owner and the customer. The links act as a catalyst for a better customer loyalty, marketing purpose and participations from the donors.

Challenges of the Crowdfunding

 Fraud of misused of funds is the most widely-debated issue in crowdfunding. The criticisms find there is possibility in fund scams through the crowdfunding platform worldwide. The reason of increasing of scams is the funders have no personal contact or real knowledge of the business idea beyond what is presented on the crowdfunding sites. In contrast, other venture capital or virtual investments have a very clear platforms and guides.

The geographical isolation between the business or entrepreneur and the funder can refrain the funder from physically overseeing the business. Furthermore, the fraud prevention or detection is necessary in preserving the ethical manner in this industry. The social media could play a significant role in preventing fraud. As such the funders could do research on the internet prior in deciding which platform to invest in order to avoid frauds. To date, most of the crowdfunding platforms have the fraud detection methods in order to safeguard and promoting crowdfunding to the greater heights.

Another issue is the conflict of interest among owners. It happens when the owner or specific funding providers use privy information to launch systematic superior returns compared to the crowd financing it. In other words certain platforms operate on a co-investment model where an investment fund completes the investment of crowds or precedes it in a form of seed capital. Most of the platforms understood the potential conflict of interest indeed following a strict fifty/fifty rule between own funds and crowdfunded fund within a single crowdfunding campaign.

Crowdfundingfrom Islamic Perspective

According to Islamic perspective by HabiburRehman, crowdfunding was a way to raise funding through a system of pre-ordering from the consumer, so it didn’t involve loans, interest, debt, or banks. It is the way of keeping full ownership of the business and it is a great way of testing whether people like it. People who fund a project get a reward (usually a discounted and early version of the product or service) in return.

The websites like Shekra and Yomken both from Egypt and Halalfunder from the UK are among the well-establishedshariah compliant crowdfunding firms worldwide. For instance, Halalfunder focusing on the hala hub platforms which pioneered by HabiburRehman. With over 1.8 billion Muslims across the world, the halal market alone is potentially worth an estimated $2.1 trillion a year and as Muslims are predicted to account for 30% of the world’s population by 2025, the market could potentially grow at $500 billion annually.

The Halalfunder, a global crowdfunding portal directed at (but not exclusive to) supporting Muslim-friendly projects and ideas. Its goal is to support and promote start-ups, creativity and innovation within the halal market space. Halalfunder launched on the 1st of Zulhijjah/17 October 2012, and it now welcomes projects or ideas that are inclusive and Muslim-friendly. They donot have to be ideas and projects that are aimed only at Muslims, as long as they are Muslim-friendly. The platform is open to all ventures, big or small, in a wide variety of areas: small business, creating software, photography, social enterprise, new technologies, gaming, fashion, festivals, music, journalism, gastronomy, animation, publishing and film.

Conclusions

Crowdfunding is surely becoming an important alternative method of financing for certain projects or businesses. Either conventional or Islamic platforms of crowdfunding, the demands of this kind of online contributions are increasing from year to year. The usage of online platforms are accessible and convenience to all investors or contributors. However, the vast growing of online platforms of crowdfunding should be in line with the rules and regulations and ethical practise so that any frauds or misused of online donations could be discarded.

 

 

 

 

 

 

 

 

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