Risks in crowd funding

Last Updated: Mon, Apr 15, 2013 05:53 hrs

In December 2012, Srini Swaminathan, a Chennai-based teacher, planned to raise Rs 2 lakh for Teach For India, an entity that works in the field of education, to help his students buy books. He cycled 1,000 km and ran 200 km to raise funds. Swaminathan is also the city director for Teach for India in Chennai.

"So far, I have raised funds for 16 library kits," he says. After designing a fund-raising page and testing it himself, he composed tweets with a specific web link and requested for retweets. He clarified he was accountable for the donations and donors could ask him for project updates. "To keep it financially clean, I do not accept any donations in my personal account. Either online crowd funding platform Wishberry.in, handles all transactions or donors directly pay Pratham Books (an NGO that publishes affordable books for children)," explains the 32-year-old.

Crowd funding is not new to India although it is at a nascent stage. The idea became noticed after filmmaker Onir raised part of the funds for his film I Am through this route. "And, in 1976, Shyam Benegal collected Rs 2 lakh from 500,000 farmers to fund Amul's ad film Manthan," says Anshulika Dubey, co-founder & COO at Wishberry.in.

Today, there could be various reasons to consider crowd funding -entrepreneurial ventures, social cause, higher studies, music albums or videos, gigs and festivals, publishing books, mega events or college projects. Some use crowd funding to support their existing venture pick up and/or, to reach out to the targeted audience. There are different types of crowdfunding available (see box). However, in India, the most popular way of securing it is the rewards or returns-based funding, apart from approaching friends and family for money.

Promising rewards seems to be more effective in attracting donors. Here, a campaign gives out exclusive tangible or non-tangible incentives such as VIP access to events, signed merchandise, producers credits on a project and so on. "Also, a reward-based fee structure can cater to a wide range of funding requirement, from Rs 1,000 to Rs 10 lakh and beyond," says Rinkesh Shah, founder of Ignite Intent, another crowd funding platform.

The legal and regulatory infrastructure required to enable equity- or revenue-based crowd funding in India is complicated and almost unsuitable for a project owner and the contributor. It is not advisable for a first-timer. Approaching a crowdfunding platform for help is the latest route to get funds. Of course, there is a fee you pay for the services, either from the time of pitching the idea or once your project takes off. "Pitching (an idea) is free (on Ignite Intent's site). Ignite Intent levies charges depending on the amount generated. Charges could be anywhere between seven and 20 per cent varying from platform to platform," adds Shah. Crowd funding platforms also help with marketing strategies, mentorship, consulting and legal advice.

However, securing a bank loan could be easier at times, say experts. Therefore, do not fall for it just on hearsay. Question yourself before taking this route - what is the mass appeal of your project? Will the crowd like to get associated with it? Are you a good salesman to draw people to your project?

While the upside of this route could be numerous, here are the possible negatives you should keep in mind before jumping in to the fray.

Says angel investor Vishal Gondal, "The project owner needs to first be clear and passionate about his project idea. He needs to communicate the same very clearly to supporters / backers, stating the project horizon and the money required for it. He should know why he thinks he requires the amount he plans to raise. It is a difficult task convincing so many people to invest money in you." Also, because you may have to pay them back.

Investors might lose confidence in you if you revise target amounts or any other aspect of the project. According to Ruchi Dana, founder of PikAVenture, a crowd funding platform, one big risk is the entrepreneur might miscalculate the amount required. "To avoid this risk, make sure the platform you use is credible and the projects on the platform have been carefully vetted," she says.

Delivery is another problem for project owners. Once a person has gone to the crowd/public to ask for funds, he better deliver within the timeline promised. Crowdfunding makes you answerable to the people who have contributed to your project, says Dubey.

Crowdfunding helps collect small amounts from a large number of investors/donors. That might be disadvantageous for a small business. Given that small investors may help with small amounts, there are chances you won't get the desired amount generated to get the project off the ground. Instead, bigger sums from fewer investors might work.

If you aren't able to generate enough money in the stipulated time through a crowd funding platform, you might not get the money at all. You might need to extend your deadline and restart with convincing more investors. Crowd funding would be a better idea for a one-time special project. However, for a long-term funding strategy, it is just not viable. An angel investor or venture capitalist may be a better idea, although the two can't be directly compared to crowd funding. Crowd funding could also expose your business to risks. For instance, it requires you to give project details to investors or online. In a way, it could mean feeding ideas to competitors about your business.

|Equity-based: Investors receive a stake in the company, that is, follow a revenue-sharing model. Angle investors or private equity and venture capitalists follow this model
|Lending-based: Investors are repaid for their investment over a period of time, either just the principle amount or with an interest on it. Many times when individuals secure funds from friends, relatives or acquaintances, they could follow this model
|Reward-based: Investors receive a tangible item or service in return for their funds. Depending on the amount of contribution, different rewards could be offered like a 'thank you' note or tokens of appreciation, a key chain, contributor's name on the credits. Increasing number of movies are being financed this way
|Donation-based: Contributors donate funds mostly for charities and other non-profit organisations / causes. However, this represents a small proportion of overall crowd funding activity.

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