Crowd finance 101: ​How do rewards and charity crowd finance actually work?

March 20, 2017 • By TAB team

Our ‘Crowd Finance 101’ series takes a look at the nuts and bolts of crowd finance. Following on from the last fortnight where we considered equity and debt crowd finance, today we complete the series by looking at the rewards and charity sectors.

Our ‘Crowd Finance 101’ series takes a look at the nuts and bolts of crowd finance.

Following on from the last fortnight where we considered equity and debt crowd finance, today we complete the series by looking at the rewards and charity sectors.

How do rewards and charity crowd finance actually work?

Rewards-based crowd finance

What is it?

Unlike equity and debt based crowd finance – where investors are compensated in shares and interest payments respectively – rewards-based crowd finance enables individuals and businesses to raise funding in exchange for incentives or rewards.

Typically, this type of financing is used by start-ups, particularly in creative fields, hoping to raise small volumes of start-up capital. There’s no financial incentive for an investor to contribute to a rewards-based campaign – they usually have a social or personal motivation to donate.

How does it work?

Companies or individuals seeking investment are matched with backers via rewards-based crowdfunding platforms, like Kickstarter, Indiegogo or Fundable.

Here’s how:

One of the most famous examples of rewards-based crowd finance and one of the biggest success stories in its history was launched on Kickstarter in 2012 to fund the development of the Oculus Rift virtual reality headset. The campaign had an original funding target of $250,000, but went on to raise over $2.4 million from nearly 10,000 backers in exchange for a variety of gifts, including the headset itself.

Using that successful campaign as a launch pad, Oculus grew as a company before being purchased by Facebook for near $2 billion in 2014, which emphasised the quality of the company but also the shift in focus towards virtual reality by all in tech. The first Oculus Rift VR headset shipped to customers in March 2016, with strong sales and reviews greeting this revolutionary product.

What are the rewards and risks?

Rewards-based crowd finance is one of the cheapest ways to raise capital. Fees are usually taken by the platform from the final amount of money raised, hence the up front capital expenditure to the individual or business should be close to zero.

The publicity gained by successful rewards-based campaigns can also help start-ups, with backers becoming advocates of the business and the product itself.

Rewards-based crowd finance is clearly very different to equity and debt markets. Backers don’t receive a financial return – rather a donation or, at best, a purchase. So it should not be considered an investment class.

Rewards-based crowd finance is not suitable for complex start-ups – they are better suited to tapping equity and debt markets, which are geared towards early stage investments and supported by sophisticated investors who are comfortable putting capital at risk. Also, companies trying to raise large amounts of capital run the risk of forfeiting funds if funding targets are not met.

So, rewards-based crowd finance isn’t for everyone.

Charity-based crowd finance

What is it and how does it work?

Charity-based crowd finance also offers backers the chance to connect with individuals or projects that require funds. In exchange for their donation, the backer doesn’t receive any financial return, but they do get to support a worthy cause.

The process works in a similar way to rewards-based crowd finance. Charitable projects find backers via crowdfunding platforms, like GoFundMe (the largest global player, with over $3 billion in donations since 2010), JustGiving or StartSomeGood. Funds are donated in return for either a small gift or simply the good feeling of being involved in a charitable project. It’s worth noting that charity-based campaigns can also be eligible for GiftAid, and it’s reported that internationally there are now over 3,500 social giving platforms.

An important, recent example of a successful charity campaign was launched via JustGiving, and has just tilted over its funding target of £15,000, which will be used to help the near 200,000 refugees in the Kakuma Camp in Kenya.

What are the rewards and risks?

The rewards are plain to see. For projects needing capital to do good, charity-based crowd finance offers a chance to access capital from a vast pool of untapped funds.

The risks of charity-based campaigns are similar to those in other crowdfunding sectors, with transparency and regulation needing constant updating to give investors, who are looking to deploy this vast pool of funds, the reassurance they need that their donations will be used in a timely, legal and correct manner.

Our view

Rewards and charity-based crowd finance don’t suit all projects and investors. However, they do meet a large need for businesses looking to raise money cheaply, without giving away large chunks of equity. And they satisfy a growing number of people who want to deploy excess or investment capital to do good.

As with the wider crowd finance industry, there is an urgent need for increased transparency. With growth comes a need for visibility. Investors, businesses and individuals wanting to engage in this unique form of finance need access to reliable information and data in order to make informed decisions.

Crowdsurfer addresses this need, offering public access to unprecedented levels of information about rewards and charity-based funding. It’s a valuable tool that brings transparency to a rapidly growing and increasingly important market.

Further reading:

Talkin’ ‘bout a revolution: politics and crowd finance

A look at rewards-based campaigns in the European Union

Daisy analyses...2016 charitable campaigns