In the business world, crowdfunding has evolved as one of the fastest growing industry, which aimed at changing the way in which entrepreneurs raise money and also the mindset of people to invest their money in established companies only.
Traditional fundraising for a business project or venture encompasses pitching a few investors, banks or venture capitalists for a hefty sum. But in crowdfunding, the ‘crowd’ funds the idea or project, through an online platform, i.e. internet is used to communicate with people who can contribute in relatively small amounts in the business idea, project or venture, to help it get off the ground.
Pros and cons are associated with both crowdfunding and traditional fundraising, which we have discussed in the article below, along with the differences.
Content: Crowdfunding Vs Traditional Fundraising
|Basis for Comparison||Crowdfunding||Traditional Fundraising|
|Meaning||Crowdfunding is a method of arranging funds for a project or business, in many small amounts from a large group of people using an online platform.||Traditional fundraising is when promoters use typical sources to fund their business ideas.|
|Amount||Large amounts from one or two sources.||Many small amounts from hundreds of individuals.|
|Investors||Easy to find investors.||Difficult to find investors.|
|Validation||It gives a validation that the idea is quite exciting and innovative.||No such validation is available.|
|Idea||Disclosed to the crowd, to get funding.||Remains confidential with the funding individuals and organizations.|
|Control and Management||Remains in the hands of the promoters.||Shared with the investors, due to their stake in the business.|
|Network||It facilitates to connect with a large number of people.||The promoters will contact with a few High net worth individuals or banks only.|
|Investor's focus||Innovative and thought-provoking ideas, with work-ability.||Idea that has profit potential.|
Definition of Crowdfunding
Crowdfunding is a combination of crowdsourcing and microfinancing, wherein budding companies or entrepreneurs raise money in relatively small amounts to finance a project or business venture, from masses, by way of the internet to connect with the potential investors.
In crowdfunding, the small businessmen or entrepreneurs showcase their idea by posting video links, information and other details, to communicate the innovativeness and profitability to the large group of people, through an online platform, i.e. crowdfunding websites or social media.
In better words, there are three actors behind crowdfunding, i.e. the project initiator, who conceives the idea of the project or business ventures for funding, the investor which can be an individual/organization/group that contributes to the idea and the intermediary, i.e. the online website that helps the project initiator to find the investors for the project. Crowdfunding is divided into various categories, such as:
- Donation-Based Crowdfunding: Any crowdfunding campaign wherein no financial return is provided to the contributors, is regarded as donation-based crowdfunding.
- Reward-Based Crowdfunding: When the individuals contribute money in the idea or project in exchange for a ‘reward’, i.e. the product or service provided by the company. It is often considered as a subtype of donation-based crowdfunding, as no financial or equity stake is provided to the contributors in the company.
- Equity-Based Crowdfunding: In equity-based crowdfunding, the contributors get the opportunity to become part owners in the company, as they invest their funds for an equity stake in the business venture.
Definition of Traditional Fundraising
Traditional Fundraising is when an individual or company uses conventional sources to raise funds for executing the idea or furthering the business operations.
In a traditional fundraising, the person with an idea or project in mind, seeks volitional monetary contribution for which the individual and his/her team contacts to High Net worth individuals, government agencies, banks, businesses, charitable foundations etc. to invest in the venture or provide funds for commencing operations in that direction. The sources of traditional fundraising are:
- Loan: It is the most common form of fund raising, wherein the budding companies and small enterprise extend a loan to the banks and financial institutions, for a definite period, along with interest.
- Venture Capital: The form of financing provided by the high net-worth individuals, investment banks and financial institutions to the startups and small businesses, having profit potential in the long term is called venture capital.
- Angel Investors: High net worth individuals who give financial support to entrepreneurs and small businesses are called angel investors.
Key Differences Between Crowdfunding and Traditional Fundraising
The difference between crowdfunding and traditional fundraising can be drawn clearly on the following grounds:
- Crowdfunding perfectly blends the features of crowdsourcing and microfinancing, by using various online platforms, to raise funds from the masses, in small amounts. On the flip side, traditional fundraising is the technique of arranging funds for executing the business idea using conventional sources such as taking loans from banks, angel investors and venture capital.
- In crowdfunding, it is quite easy to find investors for the project or idea, as compared to traditional fundraising wherein a lot of time, efforts and resources are needed to persuade the investors to invest in your business.
- In crowdfunding, the idea does not remain confidential, as it is visible to all through the crowdfunding website or social media, whereas secrecy of the idea is maintained in case of traditional fundraising.
- In crowdfunding, the idea is open to the public, and so there is a risk of theft of an idea. On the contrary, in traditional fundraising, the idea remains safe with the funding individuals and organisation.
- Crowdfunding allows you to reach a large number of people in just one click, without any boundaries. As opposed, in traditional fundraising only a few high net-worth individuals, banks or financial institutions are contacted to showcase the idea.
- In crowdfunding, when you introduce the idea over the internet, it will reach many people at one go, which will help you in getting relevant information regarding the market through their positive and negative feedback. As against, in traditional fundraising, no such information is provided, as the idea is not disclosed to the general public, and the investors see the profit potential in the idea.
- In crowdfunding, the business control and management remain in the hands of the promoters, as the contributors contribute in small sums, so they have no direct say in the business. Conversely, in traditional fundraising, the investors own stake in the company, and so they get the right to control the business decisions and appointments.
- In crowdfunding the contributors mainly focus on the innovative, interesting and thought-provoking idea, to pledge cash. In contrast, in traditional fundraising, the investors primarily focus on the idea which has the capacity to generate revenue.
How Crowdfunding Works?
Crowdfunding is an emerging mode of raising finance from anyone having money, wherein entrepreneurs get an opportunity to arrange millions, from a pool of investors who are ready to invest in their business venture or project, through a crowdfunding website such as Kickstarter, Indiegogo, Peerbackers, etc.
In crowdfunding, a forum is provided to those entrepreneurs and small businessman who has an idea but seek funds to make it real. The fund seekers can make a profile and post the details of their idea, project or venture, on the website and pitch it before the potential investors, rather than raising loan from the bank.
The investors invest in those projects whose idea is one in a million and has the potential to turn out as a big hit. The amount spent by the investors in crowdfunding is usually small, but there are thousands of investors, who select from a range of projects to pledge their cash in exchange for return or without it.
Moreover, the fund seekers can also parallelly use social media, to raise funds out of their social circle of friends, relatives, colleagues and acquaintances.
Now you must be wondering how these crowdfunding websites generate revenue? Well, these websites make money out of the percentage of funds so raised.
To sum up, Traditional fundraising is one in which where the small businessmen or entrepreneurs present their idea before several wealthy investors and banks, intending to obtain funding for the project. On the other hand, crowdfunding refers to a practice of funding wherein thousands of people voluntarily contribute in the idea or project in which they believe, to help it grow, through a website or social media platform.