Crowdfunding: Donors, Lenders, and Shareholders Explained
In 2012, crowdfunding grew 81% in a single year. By 2013, analysts were projecting $5.1 billion in global crowdfunding volume. Not bad for a concept that most people still associated with indie musicians begging for studio time on the internet.
Chapter 8 of Charles H. Green’s The Banker’s Guide to New Small Business Finance breaks crowdfunding into four distinct categories. Donors, innovators, loaners, and shareholders. Each one works differently. Each one matters for different reasons. And each one has its own set of problems that nobody warns you about upfront.
Donors: The Power of Small Contributions
Barack Obama’s 2008 presidential campaign raised $600 million from 3 million donors. That number alone should have changed how everyone thought about fundraising. The average contribution was $200. Nobody was writing million-dollar checks. The money came from the crowd.
What made the Obama campaign so effective was the targeting. The team didn’t send the same message to everyone. They used micro-segmentation. Sandra Fluke spoke to women’s issues. Kal Penn reached young voters. Each subculture got a customized pitch. And each one responded.
That same principle drives donation-based crowdfunding. The Smithsonian raised $130,000 through a crowdfunding campaign. Medical expense campaigns pulled in $20 million across 15,000 individual campaigns. People were even crowdfunding funerals.
The common thread is simple. When you make it easy for people to give small amounts to causes they care about, the numbers add up fast. The crowd doesn’t need to be rich. It just needs to be large.
How to Actually Run a Campaign
Green outlines a ten-step playbook for running a crowdfunding campaign. And the first lesson is probably the most important one.
Have a prototype first. Don’t just show up with an idea and a dream. Show people something real. A working model. A demo. Something that proves you can actually build what you’re promising.
After that, the steps get more tactical. Choose your platform carefully. Create a project page that stands out. And for the love of everything, make a video. Campaigns with videos are 50% more successful than campaigns without them. That’s not a small edge. That’s the difference between funded and forgotten.
Pick your perks wisely. Set up your payment system before you launch. Build a communication strategy so backers feel involved. Identify media outlets that cover your category. Prepare your support community in advance. And recruit influencers who can amplify your message on day one.
None of this is glamorous work. But it’s the difference between a campaign that raises $10,000 and one that raises $10 million.
Innovators: Buy It and I’ll Build It
By May 2014, Kickstarter had hosted 147,954 campaigns. Of those, 62,219 were successfully funded. Total pledges hit $1.12 billion from 6.2 million donors. Sixty-two campaigns crossed the $1 million mark.
The poster child for this model was the Pebble Watch. The team behind Pebble had pitched venture capitalists and gotten nowhere. VCs walked away. So they put it on Kickstarter.
They raised $10.2 million in 28 hours. From 70,000 backers.
That’s the promise of innovator crowdfunding. The crowd can validate a product that professional investors won’t touch. When 70,000 people put their own money behind something, that’s a market signal no pitch deck can replicate.
But here’s the part the success stories leave out. Pebble ran into manufacturing delays. The iOS integration had glitches. Delivering a physical product to 70,000 people is a logistics nightmare even for experienced companies. For a startup, it’s brutal.
The “buy it and I’ll build it” model works. But actually building it and shipping it? That’s where most campaigns fall apart.
Loaners: Peer-to-Peer Lending Goes Mainstream
Kiva launched in 2005 with a simple idea. Let regular people make small loans to entrepreneurs in developing countries. Micro-lending, powered by the internet. It worked.
But the real action in peer-to-peer lending was domestic. Lending Club dominated the U.S. market with $3.4 billion in total loans issued. Their average borrower had a FICO score of 703 and an income of $71,000. The average loan was $13,500.
Lending Club sorted borrowers into grades. An A-grade borrower paid 7.65% interest. A G-grade borrower paid 24.44%. The spread between the best and worst borrowers was massive. But all of them got funded because the crowd was willing to take on the risk that banks wouldn’t.
Here’s the most telling statistic. Over 83% of Lending Club borrowers used their loans to refinance more expensive debt. Credit card balances. High-interest personal loans. The crowd wasn’t funding wild startup dreams. It was helping middle-class people escape from debt traps. That’s actually pretty useful.
On the mechanical side, WebBank in Utah funded all the loans. Investors didn’t lend money directly to borrowers. Instead, they bought something called “Member Payment Dependent Notes.” The investors got paid only when the borrowers made their payments. Simple concept. Complicated legal wrapper.
Shareholders: The JOBS Act Opens the Door
Equity crowdfunding was supposed to be the big one. The game changer. The thing that democratized startup investing and let regular people get in on the ground floor alongside the VCs.
The JOBS Act made it legal. Companies could raise up to $1 million per year from an unlimited number of investors. On paper, that was revolutionary.
In practice, it was a mess.
The SEC took its time writing the rules. When they finally came out, the document was 585 pages long. Five hundred and eighty-five pages. For a law that was supposed to make fundraising easier for small businesses.
Initially, only accredited investors could participate. So much for democratizing anything.
Then there were the state regulations. Every state has its own “blue sky” laws governing securities. Kansas and Georgia were early adopters and created relatively friendly frameworks. But most states added layers of complexity on top of the federal rules. A company trying to raise money from investors in multiple states had to navigate a patchwork of different requirements.
The financial statement requirements were another hurdle. Green describes them as a “massive deal breaker.” The SEC required audited financials at certain thresholds. For a tiny startup trying to raise $500,000, the cost of a proper audit could eat a significant chunk of the raise itself.
And here’s a problem nobody talks about. Angel investors don’t want to invest alongside hundreds of unsophisticated crowd investors. When a company’s cap table has 400 random people on it, the angels walk away. They don’t want the governance headaches. They don’t want to deal with investors who don’t understand how startups work.
Ohio regulators went after SoMoLend.com, one of the early equity crowdfunding platforms. That sent a chill through the whole space. If regulators were going to crack down on the platforms themselves, the risk calculus changed for everyone.
The Crowd Is Real, But Complicated
Crowdfunding wasn’t a fad. The money was real. $1.12 billion through Kickstarter alone. $3.4 billion through Lending Club. Hundreds of millions more through donation platforms.
But each model had its own set of traps. Donation campaigns required serious marketing work to succeed. Product crowdfunding created delivery obligations that crushed unprepared teams. Peer-to-peer lending worked but wrapped simple loans in complex securities law. And equity crowdfunding was so burdened by regulation that it struggled to deliver on its promise.
The crowd became a real source of business capital. Green was right about that. The question was whether the infrastructure around it could keep up with the demand.
This post is part of a series on The Banker’s Guide to New Small Business Finance by Charles H. Green, published by Wiley (2014). It covers Chapter 8: “Crowdfunding with Donors, Innovators, Loaners, and Shareholders.”