Financing a company or a business idea has to be the most fundamental step towards bringing it into material form. Crowdfunding would be a term that you would be familiar with, which has indeed pave the way for some innovative ideas that took the world by a storm. It is the practice of raising funds for new business plans, to support ideas that are likely to flourish, or also for generous contributions to the people in need. Crowdfunding platforms have been, in the past few years, used only to half their potential. They have more in store than what has already been explored by many of you.
The possibilities within this area of support have been expanding, and its extensive applications are gradually being accepted. Indeed, the entire concept of fundraising took a sharp turn with the advent of crowdfunding. Although the practice has been in existence for centuries, it is only now that an in-depth understanding of such platforms was achieved. Crowdfunding is further classified into three, among which, it is debt-based crowdfunding that we are going to take a tour into. The other two are reward-based crowdfunding and charity-based crowdfunding. Let us have a closer look at debt crowdfunding and its working methods.
Also known as “crowdlending,” debt-based crowdfunding is all about raising funds for a project from individuals based on the interest rate. The entire process runs on the hope for huge returns, which directs to the lenders in the form of interest. Every investor will have a set interest rate, based on which the business of your product runs.
When it comes to startups, debt-based crowdfunding has proven to be the best way to raise fund. What may seem similar to a bank loan on the outside has got features that place the crowdfunding platforms at an advantage. Since such features stand out to be beneficial to the developers, it is always best for startups to approach these platforms. You could also keep this as an alternative when the whole process of acquiring funds from venture capitalists is incessantly excruciating. Raising of finance differs in crowdfunding with the medium through which it occurs. Here, the funds are raised via websites that support crowdfunding or P2P lending. Apart from the interest that the investors receive, it is also the regular capital and the partnership that they own in the product being sold that attract them to these platforms.
Pros and Cons
- When compared to bank loans, the debt crowdfunding method has a lower interest rate.
- The factor that makes this stand out is its flexibility. Since it is much more flexible than a bank loan, repayment is more manageable.
- The product which would have remained within the four walls of the discussion gets a wider acceptance and a reputable brand name among the masses. Consequently, more people would express interest in investing in the product.
- Another attractive feature is that of the easier accessibility and affordability it has than the venture capitalists.
- Repayment would be quite stressful with the piling up debts each month. The established companies might not find it difficult to repay the money with interest. But in the case of startups, repayment would take considerable time, making it better for them to go for reward-based or donation-based crowdfunding.
How Does it Work?
Established businesses have a better chance to pull off the complete process from lending money with ease to repaying it. Convincing the investors is a stage that most of the businesses successfully pass easily, but when it comes to repayment, the newbies face quite some issues. Therefore, the debt crowdfunding has always been recommended for the established groups who can manage the expenses properly at all stages. The crowdfunding works by necessitating the detailed requirements of the loan to be listed down in a pitch and submit it along with the financials to their platform. All terms have to be thoroughly checked before deciding on a particular platform. The platform would set these terms in order to keep the user’s details secure and for background credit checks. The loan terms would include the lowest limit of investment, suitability of the investor’s profile, APR of loan repayment, and many other particulars.
A personal guarantee or business assets will be required as security for the money lent. The value of the document placed as security will depend on the amount of money that is targeted by the company. Lending will be opened once the crowdfunding platform publishes the opportunity through several channels. Until the total amount is raised, the money collected will be held by the crowdfunding site separately.