Crowdfunding: What It Is, How It Works, and Popular Websites

What Is Crowdfunding?

Crowdfunding involves raising small amounts of money from a large number of individuals to finance a new business venture. It leverages the wide reach of social media and crowdfunding websites to connect investors and entrepreneurs, potentially increasing entrepreneurship by expanding the pool of investors beyond the traditional circle of owners, relatives, and venture capitalists.

The 2008 financial crisis led to the rise of crowdfunding. As banks enforced stricter lending policies post-recession, small businesses struggled to secure credit, prompting many to seek alternative funding methods. In 2023, the global crowdfunding market volume was estimated at $1.17 billion, showing a slight increase from previous years. According to Statista, the transaction value of the global crowdfunding sector is expected to grow by 1.48% annually from 2024 to 2028, reaching a market volume of $1.27 billion by 2028.

How Crowdfunding Works

Raising capital is key to any company's growth. Larger, established corporations often find it easier to secure investments or additional debt from lenders. However, smaller companies and startups often face significant challenges in this area. This is where crowdfunding proves valuable.

Crowdfunding has allowed entrepreneurs to raise substantial amounts of money from a wide pool of investors. For example, one humorous Kickstarter project involved an individual seeking to create a new potato salad recipe with a modest goal of $10, but ended up raising over $55,000 from 6,911 backers. Investors can choose from numerous projects and invest as little as $10. Crowdfunding sites typically earn revenue by taking a percentage of the funds raised.

Investors can select from hundreds of projects and invest as little as $10. Crowdfunding sites generate revenue from a percentage of the funds raised. For example, Kickstarter applies a 5% fee to the funds collected.

Special Considerations

The first instance of crowdfunding was recorded in 1997 when a music group from the United Kingdom raised money for a concert tour from fans. ArtistShare, which was the first crowdfunding site, was launched three years later. Almost a decade later, it became a key source for companies to raise capital.

Crowdfunding platforms were largely unregulated when they first became popular. However, things changed over time, as several countries, including the United States, began placing restrictions on certain types of crowdfunding.

These 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.

The crowdfunding industry is regulated under the JOBS Act, enacted on April 5, 2012, which established equity crowdfunding in the U.S. Initially limited to accredited investors, provisions like Title IV and Title III later expanded access to non-accredited investors and early-stage startups. The SEC oversees these regulations, ensuring transactions occur through registered intermediaries. These rules aim to protect investors and maintain transparency in crowdfunding investments.

Types of Crowdfunding

The two most traditional uses of the term reflect the type of crowdfunding done by startup companies looking to bring a product or service into the world, or by individuals who experienced some type of emergency.

For example, people affected by natural disasters or high medical expenses often turn to crowdfunding platforms for support. Recently, crowdfunding platforms like Patreon and Substack have expanded crowdfunding's reach, enabling artists, writers, musicians, and podcasters to sustain their creative work through ongoing financial support from their audiences.

Popular Crowdfunding Websites

Crowdfunding websites such as Kickstarter, Indiegogo, and GoFundMe attract hundreds of thousands of people hoping to create, or support, the next big thing.

GoFundMe

GoFundMe is the largest crowdfunding platform. Since its founding in 2010, the site has raised over $30 billion, with 150 million people either sending or receiving money through the platform. It's most popular for individuals seeking to recover from medical expenses or disasters such as house fires, natural disasters, or unexpected emergency expenses. Start-up companies tend to use Kickstarter.

Kickstarter

Kickstarter is another popular choice. Founded in 2009, the platform has successfully funded more than 250,000 projects, with more than $8 billion pledged across all Kickstarter projects.

Kickstarter is the leading crowdfunding platform for aspiring businesses aiming to raise capital and reach a broader audience. Unlike GoFundMe, Kickstarter is exclusively for creating shareable projects. 

Additionally, Kickstarter can't be used for charity or cause donations, and projects can't offer incentives like equity, revenue sharing, or investment opportunities. Kickstarter also prohibits projects involving items claiming to diagnose, cure, treat, or prevent illnesses, political fundraising, drugs or alcohol, and any form of contests, coupons, gambling, or raffles.

Indiegogo

Indiegogo started as a crowdfunding site for independent films but expanded to all project categories a year after its 2008 launch.

Indiegogo is seen as a less strict and more flexible platform than Kickstarter, as it gives backers more flexibility by allowing campaigners to choose between fixed and flexible funding models. While Kickstarter releases funds only if the campaign meets its funding goal, Indiegogo allows campaigners to receive funds as they come in or wait until the target is reached.

Flexible funding, such as receiving funds as they come, might be easier and less risky for a campaigner. However, regardless of the amount raised, campaigners must still deliver on any promises made. For a backer, fixed funding is more attractive as it's associated with much less risk.

Pros and Cons of Crowdfunding

Pros

The most obvious advantage of crowdfunding for a start-up company or individual is its ability to provide access to a larger and more diverse group of investors or supporters. With the ubiquity of social media, crowdfunding platforms are an incredible way for businesses and individuals to both grow their audience and receive the funding they need.

Equity-based crowdfunding is growing in popularity because it allows startup companies to raise money without giving up control to venture capital investors. In some cases, it also offers investors the opportunity to earn an equity position in the venture. In the United States, the Securities and Exchange Commission (SEC) regulates equity-based crowdfunding.

Cons

Potential disadvantages of crowdfunding include the possible damage to your or your company's reputation from using crowdfunding, the fees associated with the platform, and the risk that if you don't reach your funding goal, the pledged funds will be returned to investors, leaving you with nothing.

Examples of Crowdfunding

Many of the products and businesses crowdfunded on Kickstarter became very successful and lucrative endeavors. For instance, Oculus VR, an American company specializing in virtual reality hardware and software products, was funded through the site. In 2012, founder Palmer Luckey launched a Kickstarter campaign to raise money to make virtual reality headsets designed for video gaming available to developers. The campaign crowdfunded $2.4 million, 10 times the original goal of $250,000. In March 2014, Meta (META), acquired Oculus VR for $2.3 billion in cash and stock.

Another example of a company that rose to success through Kickstarter campaigns is M3D, a company founded by two friends that manufactures small 3D printers. David Jones and Michael Armani raised $3.4 million for their Micro 3D printer on the crowdfunding site in 2014. The tiny 3D printer, which comes with a variety of durable 3D inks, is now available at Staples, Amazon (AMZN), Brookstone, and elsewhere.

Critical Role, a weekly live-streamed tabletop roleplaying game featuring a group of prominent voice actors, raised $4.7 million in just 24 hours for its latest animated special “The Legend of Vox Machina.” No other Kickstarter campaign in 2019 raised that amount over their entire 30- to 60-day raising period.

In 2023, the GPD WIN 4, a handheld gaming PC, raised nearly $4 million on Indiegogo, becoming the platform's highest-funded product. The device showcases the growing interest and investment in portable gaming solutions.

The Bottom Line

The digital age has given rise to crowdfunding, a unique method for organizations and individuals to raise capital from a large group of people. For those seeking funds, it involves creating a compelling pitch and setting a target on a crowdfunding site like GoFundMe, IndieGoGo, or Kickstarter. While large donations are beneficial, it's often the many smaller contributions that help capital seekers reach their goals.