The crowdfunding phenomenon has seen rapid growth over the last couple of years. Gary Dushnitsky tells LBSR how and why the benefits of crowdfunding to economic activity are manifold.
This article is provided by the Deloitte Institute of Innovation and Entrepreneurship.
The crowdfunding phenomenon has seen rapid growth over the last couple of years. Research firm Massolution estimates that crowdfunding platforms raised $2.7 billion. It is noteworthy that Crowdfunding is an umbrella term that maps onto several sub-categories. For example, Kickstarter is one of the most salient examples of a rewards-based platform, where ‘investors’ (also known as ‘backers’) pre-purchase a product or service. Kickstarter has facilitated over $1 billion of reward-based crowdfunding since its inception. Other popular categories include peer-to-peer lending or donation-based platforms, where ‘investors’ are motivated by the pursuit of financial returns or social cause, respectively.
The benefits of crowdfunding to economic activity are manifold. For an entrepreneur, the use of crowdfunding is instrumental in reaching his/her fund-raising goals. It also stimulates market demand. For example, the inventors of the Pebble Watch, a customisable electronic wristwatch that connects to smartphones using Bluetooth, launched a campaign on Kickstarter. Within a month, Pebble raised $10.27 million from 68,929 individuals. By crowdfunding, Pebble Watch has more than satisfied its funding needs. Importantly, it also stimulated and aggregated demand, and in doing so resulted in major market validation.
The power of aggregation has clear advantage to small and medium size real estate projects. The Financial Times reported last month on a record peer-to-peer crowdfunding deal; an £8.3 million funding from Wellesley & Co to the British urban regeneration scheme, bringing the total loans funded by Wellesley to more than £20 million. Whereas traditionally peer-to-peer platforms allowed individuals to invest in other individuals, Wellesley & CO originates the loans and then invites individuals to participate in the loans by way of assignment. Similarly, earlier this year, LendInvest, another crowdfunding platform, facilitated a record £4.1 million investment in a residential housing project in Croydon, south London. It did so by aggregating hundreds of individual investors. The investors were offered a 12 per cent annualised rate of interest, an appealing return at a time when interest rates in the UK remain at 0.5 per cent (London Developer Take on largest P2P Loan, FT, Jan 23, 2014).
The ease of access implies that crowdfunding is not only instrumental in aggregating multiple investors, it is also effective in reaching investors with diverse set of goals or objectives. In doing so, crowdfunding may harness capital that was previously unavailable. A case in point is Abundance Generation, a UK-based crowdfunding platform that offers the chance to invest in renewable energy projects; arguably, enabling individuals to make money while supporting the planet. Bruce Davis, Abundance co-founder, notes that their customers invest for many reasons, but ultimately they all want to make money by helping to do good. Mr Davies will expand on this innovative funding model in the upcoming London Business School Global Leadership Summit on 24 June 2014.
The rapid growth of the crowdfunding space is further fuelled by the introduction of new and innovative funding solutions. For example, Crowd Estates, a recent entrant to this market, combines a debt and equity logic. It lets borrowers crowdfund some of their deposit to sit alongside a traditional first charge mortgage. The borrowers pay a small interest rate and a proportionate slice of equity upside on the sale of their home. This gives the borrowers a lower overall mortgage rate and the investors a way to get a slice of housing market returns.
In summary, the benefits of (a) aggregation, (b) harnessing financially-orientated individuals as well as those driven by social returns, and (c) the development of innovative business models are but a few promises that crowdfunding offers to entrepreneurs and real-estate developers. It is important to note that the list of potential challenges and hazards are equally long. The successful crowdfunding platforms will be those that can integrate the aforementioned benefits, while working tirelessly to protect and grow the assets of the investors on their platform.