Is crowdfunding the way ahead?

Crowdfunding – where members of the public put money to fund a product, project, or venture – is almost twenty years old, and raises several billion dollars/pounds/euros each year.

It seems a wonderful idea: a band, company or organisation calls (almost invariably over the Internet, through a service such as Kickstarter) for a target sum to be raised. Those who commit to the project get something in return, such as one of the first of the new products to be developed. The organisation raises the capital it needs without having to go through a bank or venture fund. It must be a win-win.

In fact it is subtly different from more traditional methods for companies to raise finance, such as offering shares. Hidden in those subtleties is the sting for subscribers: they cannot actually win at all. The only exception to this is the much rarer variant of equity crowdfunding, in which subscribers become shareholders – something which is legally much more complex, thus more unusual.

Let’s take two example crowdfunded projects: the first makes its target, but fails to bring a successful product or service to market. Depending on the terms, you will either lose your money, or you will keep your money but your expectation will be disappointed. Either way, you do not win, but break even at best.

The other project is very successful, and you get your reward for your money pledged to the project. However that is an end to your involvement. If the product really does succeed, then others will be able to buy it too, so you will not have won much, if at all. What is worse, as you are not an investor in the successful company, as it becomes more valuable, you will end up watching its investors make profits.

For example, Oculus VR raised $2.5 million in their Kickstarter campaign in 2012. Those who committed their money to that will finally receive their Oculus Rift headsets later this year, almost four years after giving their support, as the first pre-orders start shipping. In those four years, those who invested in Oculus VR as a company saw their investments soar in value, such that it was bought by Facebook for $2 billion in 2014. Had you invested your $500 in Oculus VR the company in 2012, and sold out to Facebook, you would have received $200,000 or more just two years later.

Our ancestors in the 1800s and earlier recognised sound and fair models for raising funds from subscribers, when they formed building societies, co-operative organisations, and similar mutual bodies. In all the best examples, those who put their money up also got to share the profits. That is a win-win.

Sadly crowdfunding is more about wish fulfilment for subscribers. And the potential for even greater profit on the part of those who already hold equity in the company. So long as you’re happy to operate under those rules, it’s no bad thing.