Before start discussing the advantages and disadvantages of crowdfunding platforms, let first discuss why we need crowdfunding platforms. In the 2007 banking crisis caused a huge dip in the confidence of the financial system. People started looking for alternative methods to meet their credit and investment needs.
One of the consequences of this was the development of peer-to-peer networks and an attempt at decentralising the monetary system. Cryptocurrencies and crowdfunding platforms are two great examples of this attempt at decentralisation. The exponential growth of the internet and social media has also made crowdfunding more accessible than ever.
Is crowdfunding a sensible alternative to traditional bank financing?
Many start-ups and people with ambitious projects nowadays use crowdfunding as a financing method to raise seed capital. However, crowdfunding is a relatively new form of financing. That is why it is essential to weigh the pros and cons carefully.
As an entrepreneur, you must carefully check which parties you work with and find out how they consider, for example, laws and regulations. It is also crucial to think carefully about your precise credit needs and to critically assess your plans. Good preliminary research can prevent money from being lost. It is crucial for investors to critically evaluate in which projects they will invest exactly and via which platform this should be done.
The task of crowdfunding platforms is to monitor and assess both borrowers and investors thoroughly. In addition, they must keep an eye on the laws and regulations and ensure that they form a reliable basis for facilitating crowdfunding.
Table of Contents
Pros and Cons of Crowdfunding Platforms
1. Advantages of Crowdfunding Platform
1.1 Responsible business
Crowdfunding lends itself exceptionally well as a financing method in the context of corporate social responsibility. Borrowing public money fits well with a business concept or idea that focuses on sustainability or invests in the community.
1.2 New financing method
Collecting donations through crowdfunding platforms is a relatively new financing method. A significant advantage of this is the flexibility with which credit can be collected. Banks suffer enormously from bureaucracy and have a slow administration. The conditions for the approval of a credit application are a lot stricter. Peer-to-peer lending offers an alternative for businesses and individuals who are not eligible for traditional bank financing.
1.3 Interesting investment
Peer-to-peer credit can also be very interesting as an investment. Returns of up to 11% are not uncommon. An investment can yield a return and dividend, making an invested amount more valuable. Read more about How to Invest Successfully in Peer-to-Peer Credit.
1.4 Simple, relatively fast and cheap
Crowdfunding platforms are a relatively simple, cheap and fast way to raise money for your business or project. Financing costs of crowdfunding are usually between five and nine per cent, where other financing options quickly add ten per cent or more.
1.5 Less strict conditions
The conditions for applying for crowdfunding are a lot more flexible than those of standard financing methods (such as, for example, a business loan from the bank). For instance, fewer securities and guarantees are required from the project and the company. This is mainly due to the fact that donations to crowdfunding projects are considered venture capital. As a result, there is less pressure for borrowers to provide collateral or other forms of guarantee in order to obtain financing.
1.6 Less regulation
Due to its relatively short existence, peer-to-peer funding is surrounded by less strict legislation and regulations. This results in a means of financing with a relatively low entry threshold and a flexible character.
1.7 Extra advantageous marketing and publicity
Crowdfunding platforms are a cost-effective way to run a successful marketing campaign to attract both investors and customers.
A good campaign shows daring, creativity and entrepreneurship. Generating publicity with such a campaign is therefore much easier than when using a traditional model. Especially when the idea is somewhat original, there is a chance that the media will see it as valuable news. With a bit of luck and creativity, the idea will be picked up on its own, and the publicity will practically happen by itself.
It is also possible to test how the public reacts to your idea via the campaign. If the project is relatively easy to attract investors, you can assume that there is certainly interest in your company or project. There is also a good chance that the lenders will monitor the business and provide you with feedback, with which the project can be further refined.
1.8 Bond with the investors
A major advantage of crowdfunding over traditional financing is investor involvement. This is many times greater than when you apply for financing from the bank. In some cases, the investors can almost be regarded as fans or ambassadors. This gives the project an extra boost and ensures even more publicity.
1.9 Investors boost sales
Since the lenders making donations to crowdfund projects are private investors, it is possible that a large number will also want to be customers of the company (use the service, buy the product being developed, etc.) and thus increase the turnover additional stimulation. This is in contrast to regular bank financing, which never generates additional revenue through the same bank.
2. Disadvantages Of Crowdfunding Platform
2.1 Financing target must be achieved
A major disadvantage of crowdfunding via crowdfunding platforms is that if you fail to collect the budget you have set in time, your project will be removed from the platform, and you will have to start again from scratch. In addition, in the event of bankruptcy, there may be a claim against your personal assets. Some platforms offer the option to re-promote a revised version of the campaign, but this is not a general right.
2.2 No repayment of investments
There is a risk that a borrower will ultimately not be able to meet the repayment obligations or be declared bankrupt. Peer-to-peer funding is subject to less strict rules, which means that fewer financial guarantees are offered. An investment in a wrong product will, therefore, possibly result in loss. This may work to the detriment of lenders and platforms.
2.3 Dependent on ICT structure
Collecting donations through crowdfunding is mainly done online. Platforms, lenders and borrowers are therefore highly dependent on the internet and the quality of the ICT infrastructure. Problems with this infrastructure and malfunctioning of a platform can therefore lead to major disadvantages for both the platform and the investors and entrepreneurs.
2.4 Supervision of the Netherlands Authority for the Financial Markets (AFM)
A crowdfunding platform must meet certain conditions and permits in order to be truly stable and reliable. Certain forms of crowdfunding require registration with the AFM. This can lead to additional costs, which makes the form of financing more expensive. As an entrepreneur or investor, it is important to check whether a platform meets these requirements.
2.5 Old laws may be obstacles
The legal system is slow. Due to the relatively short period in which crowdfunding has developed into a fully-fledged financing method, the current legal framework has not yet had enough time to adapt to these new circumstances. This means that the rules for certain situations are outdated and maybe an obstacle. In other circumstances, there are certain rules that are missing and where more supervision is needed. This can lead to stiff situations or cause difficulties. The government is currently formulating and implementing solutions.
2.6 Platform risk
Bankruptcy of a platform can directly adversely affect both entrepreneurs and investors.
2.7 Time-intensive campaign
Financing your project through crowdfunding requires intensive and extensive preparation. Designing a successful campaign takes a lot of time and energy, which you can possibly spend on other things. How will you set up the campaign? Which donation platform will you choose for the campaign? How does the promotion happen? These are questions to consider when launching a crowdfunding campaign.
2.8 Fraud by a crowdfunding platform
Due to the relatively new and growing market, not many systems have yet been designed to prevent or compensate for such fraud.
2.9 Fraud by borrowers
It is possible that borrowers set up a fraudulent campaign. This is because there is less strict control than with other financing methods. If you decide to invest in such projects, there are fewer safety nets to absorb your losses.
Platforms do not currently exchange information about rogue borrowers and, unfortunately, do not yet have a registration system for fraudsters.
2.10 Payment risk due to poor budget
Poor preparation and calculation of the money requirement can cause many problems for lenders, borrowers and the platform itself. Payment problems are the biggest risk here: because you have not drawn up a reasonable investment budget in advance, this results in over-or under-financing. This can considerably complicate the further course of the project and even lead to bankruptcy.
Fewer rules and conditions apply in the preliminary phase of crowdfunding, which means that these problems can arise more quickly than with other forms of financing.
Are you still looking for regular financing from the bank? Then compare business loans before submitting an application.