Need funds for your business? Here’s what you should know about crowdfunding

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Crowdfunding refers to the use of small amounts of capital from a large number of individuals to finance a new business venture, a funding mechanism that has proved to be an attractive option for both entrepreneurs and investors in managing risks and costs.
Image Credit: Supplied

Dubai: Crowdfunding, like the word suggests, is when a ‘crowd’ funds a project or business, rather than one or two major investors.

In other words, crowdfunding is when businesses, organisations or individuals fund a project or venture with small donations from many people. By receiving the necessary boost to cash flow, these ventures can get off the ground or launch new projects.

Most of these campaigns happen via internet platforms, have set time frames for when money can be raised and disclose specific monetary goals.

To run a successful crowdfunding campaign, you need to essentially capture the attention of a large number of funders or backers and convince them that your project is worthy of their investment.

This guide is for start-ups and small business owners who are interested in learning how crowdfunding can be used to obtain funding.

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The beginnings of crowdfunding: Crowdfunding has been around for many years, arguably for centuries.

The beginnings of crowdfunding

Crowdfunding has been around for many years, arguably for centuries. In the modern era, however, it is ostensibly linked with information technology and online platforms starting in the late 90s and early 2000s in connection with arts and music communities.

Today, however, crowdfunding is most closely associated with the online offering of private company equity or debt investments and as such is subject to securities and financial regulation.

In most jurisdictions, restrictions apply to who can fund a new business and how much they are allowed to contribute.

Similar to the restrictions on hedge fund investing, these regulations are supposed to protect unsophisticated or non-wealthy investors from putting too much of their savings at risk. Because so many new businesses fail, their investors face a high risk of losing their principal.

What are the different types of crowdfunding?

There are four kinds of crowdfunding campaigns you can use for your business: rewards, donation, debt and equity.

In brief: What are the main types of crowdfunding?

With donation-based funding, contributors give money without receiving anything in return. In equity funding, backers get shares of the business.

For debt-based funding, donors are repaid with interest. With reward-based funding, contributors receive tokens, products or services in return for their donations.

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While there are four types of crowdfunding, each receives money from interested donors.

While there are four types of crowdfunding, each receives money from interested donors. Here’s a breakdown of each one:

Donation: Donation-based crowdfunding is when people give a campaign, company or person money for nothing in return. Let’s say you create a crowdfunding campaign to purchase new equipment for your company. The individuals who give you money do it out of support for the growth of your business and nothing else.

Debt: Debt-based donations are peer-to-peer (P2P) lending, which is a form of crowdfunding. In debt-based donations, the money pledged by backers is a loan and must be repaid with interest by a certain deadline.

Rewards: This is when donors receive something in return for their donations. The rewards vary by the size of the donation, which incentivises higher contributions. Based on how much money participants give to a campaign, they may receive a product or service – often at a discounted rate.

Equity: While some crowdfunding campaigns don’t allow backers to own a portion of the company they’re supporting, equity-based crowdfunding allows small businesses and start-ups to give away a portion of their business in exchange for funding. These donations are a type of investment, where participants receive shares in the business based on how much money they contribute.

Crowdfunding in the UAE

Examples of crowdfunding platforms in the UAE are DubaiNEXT, Beehive, Eureeca. DubaiNEXT is the first official governmental online crowdfunding platform for start-ups.

In the UAE, fundraising activities for charities and social causes are regulated and done through state-based registered channels. However, fundraising for loans and investments, or debt-based funding is a new concept and yet to be regulated and introduced at a wider level.

Funds

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Image Credit: Seyyed de la Llata

Why crowdfund?

Data provided by Abu Dhabi-based Khalifa Fund shows that approximately 50-70 per cent of the Small and Medium Enterprises (SMEs) applications for funding are rejected by conventional banks.

Loans to SMEs account for just 4 per cent of the outstanding bank credit in the UAE, below the Middle East and North Africa (MENA) region (MENA) average of 9.3 per cent.

“Conventional lenders are sometimes unwilling or unable to support SMEs given their limited assets or lack of a proven record of company operations,” the official UAE government portal (u.ae) adds. “This makes it difficult for SMEs to do business and finance provisions can be expensive or inflexible.”

“Yet, SMEs contribute nearly 60 per cent of the UAE’s GDP and this is estimated to grow to 70 per cent by 2021. Hence, crowdfunding is needed in the UAE to support SMEs,” the UAE government portal further noted.

Examples of popular crowdfunding sites widely used globally

Kickstarter: US-based Kickstarter is a rewards-based donation platform that has been helping companies raise money since 2009. It has been used to raise about $6 billion (Dh22.04 billion) for more than 204,763 projects.

GoFundMe: GoFundMe is a donation-based crowdfunding company, and although it’s famously used for more charitable initiatives, businesses can take advantage of the platform as well. Statistically, 1 in 10 campaigns is fully funded on the site.

Indiegogo: Indiegogo is a reward-based platform that offers two kinds of funding. Fixed funding allows to set a goal for a certain amount of money, and if the target isn’t reached, all funds are returned to donors. When it comes to flexible funding, all the funds can be kept whether the goal is hit or not.

Costs to use crowdfunding platform and choosing between ‘fixed’ and ‘flexible’ funding?

Crowdfunding platform fees range from 5 per cent to 12 per cent of the amounts that are raised or funded. So, experts caution that one looks out for punitive fee structures before choosing a crowdfunding platform.

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The biggest reason to choose fixed funding is if your project absolutely cannot be completed without a minimum amount of capital.

Why choose fixed funding?

The biggest reason to choose fixed funding…

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