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Small business capital: The pros and cons of crowdfunding

Drive your business forward by tapping a crowdfunded pool of capital.

Crowdfunding, which increased globally 167% in 2014 from the previous year, was given a boost in the United States when President Obama signed the Jumpstart our Business Startups Act in 2012.

It's not just a way to raise money for your business. A crowdfunding campaign also:

  • Taps into the community around your business: friends, family, and customers

  • Builds loyalty and emotional investment in backers

  • Encourages backers to spread the news among their networks

  • Gauges public interest in new products

  • Gives a central focus and new impetus to more traditional marketing efforts

But before you embark on a crowdfunding campaign, there's plenty to consider.

Equity crowdfunding versus rewards-based crowdfunding

One of the most important considerations is whether the crowdfunding is equity-based or rewards-based.

"With equity crowdfunding, you have 1,000 investors who are now part owners of your company," says Richard Bliss, host of the "Funding the Dream on Kickstarter" podcast. "It adds a layer of complexity for an entrepreneur already dealing with a startup. For investors, it's a strange beast. What piece of the business do you actually own? How do you liquidate that investment?"

On the rewards-based side, sites like Kickstarter and Indiegogo have funded billions of dollars' worth of projects by artists and small businesses. Rather than a piece of equity, backers are promised a fixed reward. Once the reward is given, the business has no further obligation to its backers.

One of the most famous crowdfunding success stories, the Oculus Rift, promised backers their own virtual reality headsets. Oculus reached its goal and delivered the headsets before being acquired by Facebook for $2 billion. A company already burdened with equity obligations may have looked less inviting.

Rewards-based crowdfunding is slightly more popular than equity-based crowdfunding, with rewards-based funding raising an estimated $2.58 billion in 2015 versus $2.56 billion for equity-based funding. 

Preparing your business for crowdfunding capital

Before you venture into equity crowdfunding, ensure you have a rock-solid business plan, including a mechanism for paying a large number of investors.

Bliss recommends spending up to a year gathering a crowd before starting the actual funding campaign, including investing in marketing support and social media exposure. "Share content, write articles, attend events, share pictures on Instagram — let your passion be known," he says. "When time to ask for money comes, investors already know you."

Before starting a campaign, also share your business plan. Potential backers want to know exactly how funds will be spent and what protections you have for yourself and investors.

Crowdfunding requires a tremendous commitment involving daily updates, constant monitoring of contributions, and responding quickly to all inquiries.

More options for business capital

Crowdfunding has given small businesses financing options beyond just loans, large investors, and personal savings. Successful crowdfunding, however, is about creating buzz and building community — imparting your passion to friends, family, and strangers so they want to see you succeed and will give accordingly.

Learn more about securing funding for your business.

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