Crowdfunding has made it possible for almost anyone with a little spare cash to find investment opportunities. As enticing as this may sound, you need to understand the intricacies and risks involved before investing.
What is Crowdfunding?
Crowdfunding enables individuals, start-up businesses and not-for-profits to raise money while enabling individuals and businesses (the crowd) to invest or donate money in return for a potential reward.
Crowdfunding is usually facilitated by an online platform, mail-order subscription or benefit event that connects projects, or business ventures, with potential supporters. There is usually a 14-day cooling off period and the investment only goes ahead once all the required money has been raised.
Crowdfunding opens up new funding and investment opportunities because of the smaller amounts of money that exchange hands.
Types of Crowdfunding
There are currently four crowdfunding models which work in different ways.
- Investment (or equity) crowdfunding is when a business sources money by asking the public to back their organisation by investing a small amount of money via a crowdfunding platform such as SeedInvest. In return, investors usually receive equity shares commensurate with their investment.
- Debt-based (or loan-based) crowdfunding is when money is loaned to businesses in small amounts via crowdfunded micro-lending platforms such as Prosper. The investor becomes a creditor with the principle paid back at an agreed interest rate.
- Donation-based crowdfunding is when money is contributed as a donation, with no expectation of a return or reward other than an acknowledgement of their contribution and support.
- Reward-based crowdfunding is when the contributor receives a reward such as goods, services or discounts in return for their investment. Often different reward levels are set up relative to the amount invested.
The Benefits of Crowdfunding for Investors
Whilst crowdfunding is still a relatively new concept which carries a fair amount of risk, it also comes with a range of benefits for investors by:
- Reducing the cost of investment as well as streamlining paperwork and processes. For example, offering standardised legal documentation and managing background checks.
- Reducing the barriers to investment by allowing investors to finance smaller amounts of money.
- Enabling portfolio diversification with potentially high risk, yet high return investments.
- Giving the businesses seeking funding access to knowledge and support they otherwise wouldn't have - improving their potential to succeed.
The Australian Government is currently reviewing the legislative framework for crowdfunding. You’ll need to keep abreast of any changes that are implemented.
5 Considerations Before Investing in Crowdfunding
- Make sure you keep your portfolio diversified and aim for no more than a 10% investment in any given crowdfunding initiative.
- The risk of failure in any crowdfunding business is high. Ensure the money you invest through crowdfunding can be risked without upsetting your finances.
- Be willing to wait three to five years for a return on your investment. You won’t be able to realise that investment unless the company goes public, but you could sell your stake on a secondary market or if the company is acquired.
- Do your research. Make sure you have vetted both the platform and the crowdfunding project as best as possible before investing.
- Understand the terms of investment. Make sure you know what type of stock you’ll receive for your contribution, how valuations are made and what the full details of the transaction will be.
PrimaryMarkets offers a platform in which buyers, sellers and intermediaries can participate in off-market transactions. PrimaryMarkets has partnered with Crowd88, an equity crowdfunding platform that was recently launched in Australia. Together, our experienced teams can assist you in identifying and assessing your funding and investment opportunities. Contact us to discuss your options.