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A collective effort

Is crowdfunding a get-rich-quick scheme or a valuable way to raise capital for your start-up?

In a recent episode of South Park, the boys try their hand at crowdfunding. Their plan is simple: set up a new company with a catchy name and do nothing, except watch the money roll in. “There’s more to starting a company than just a catchy name,” Stan’s dad argues. “No there isn’t,” Stan replies, as Cartman reveals the company’s four-point plan: start up, cash in, sell out, bro down.

You might think that nothing could be further from the truth and that the creators of the hit Comedy Central television show are simply pulling crowdfunding giant Kickstarter’s leg just for laughs. And yet, there’s more than an ounce of truth in the South Park episode which takes to task one particular crowdfunding campaign: PotatoStock.

Last July, a man from Ohio, the US, jokingly sought an €8 crowdfunding donation on Kickstarter in order to buy the ingredients to make his first potato salad. Yet Zack Brown’s campaign soon went viral and he managed to raise more than €40,000 in a few weeks. Brown, 31, who works as a web designer, then used the funds to throw a huge public party featuring bands, food trucks and plenty of potato salad.

That’s rich. But it gets better because the short history of crowdfunding features even more successful, and less dubious, campaigns which raised funds on platforms such as Kickstarter and Indiegogo. The Pebble E-Paper Watch was what put Kickstarter in the limelight. People were very keen to own one of the first affordable smartwatches on the market and the campaign managed to raise more than €8m in just 37 days.

In November 2012, an American company called Cloud Imperium Games raised almost €5m to develop a game called Star Citizen. Last year, Pirate3D Inc set out to raise €80,000 to build an affordable 3D printer, but managed to raise more than €1m.

Oculus Rift is probably one of the most successful crowdfunding campaigns to date. The Oculus team raised almost €2m in 30 days to build a virtual-reality headset. Then earlier this year, Facebook acquired Oculus for a reported €1.5bn.

What was once a niche effort is now increasingly mainstream. Just consider that in 2013, crowdfunding raised almost €4bn worldwide. Moreover, this year, that figure is set to rise.

But what makes crowdfunding so popular? And is it really that easy?

The rise and rise of crowdfunding probably owes a lot to the recent worldwide economic downturn. The conundrum within the crisis context was simple yet baffling. On one hand, you had huge companies backing down and banks unwilling to lend money, especially to start-up companies. On the other hand, the main solution to boost the economy was to set up new companies, generate profits, create jobs and collect more tax revenue. But how could entrepreneurs raise funds? Enter crowdfunding, through which entrepreneurs can attract small to average transactions which, when added up, have the potential to secure huge capital.

This democratic approach to raising capital has one main ingredient which has made is so popular and successful. While venture capitalists invest with the intention of making a return, the crowd invests in crowd-funding projects out of a sense of involvement: they want to do their bit to see a project translate from idea to reality.

Apart from a sense of involvement, crowdfunding attracts people through an element of exclusivity. By supporting a start-up company, investors are usually the first to own a new product or invention.

Moreover, crowdfunding carries a limited financial risk. Money pledged by supporters is in small sums – it is only the total that makes it a solid alternative to other traditional funding methods.

There is also a strong marketing element. By launching your idea on a crowdfunding platform, you are creating brand awareness even before your business launches. And while contributors wait for the launch, they are sharing details and telling their family and friends all about it: it’s free word of mouth publicity.

And if your campaign is unsuccessful, the feedback received is valuable enough to help you tweak your idea and relaunch.

Such success stories seem to validate Cartman’s strategy: start up, cash in, sell out, bro down. But in reality, it’s not that easy.

First there is the issue of intellectual property. By exposing your idea on a crowdfunding platform, you are potentially enabling others to copy it. The crowdfunding platforms themselves do not offer any legal protection and, without patents and copyrights, anyone can just take your idea and run with it.

Moreover, there are regional limitations. A number of crowdfunding platforms, for instance, only allow projects from either the US or the UK. That leaves Maltese entrepreneurs out in the cold.

Also, while the large number of investors can work in your favour, it can also work against you. While traditional funding might see you under pressure from a bank or a limited number of backers, with crowdfunding, the pressure to launch and perform can potentially come from hundreds or even thousands of backers. And they all want some form of return.

As with all financial matters under the sun, crowdfunding is a balancing act between the positive and negative aspects, with some risk thrown in. Crowdfunding performs a valuable task in financing start-ups which might be perceived as too risky by financial institutions. However, you also need to consider the legal and intellectual property implications carefully. Moreover, keep in mind that while there will always be models such as PotatoStock which, against all odds, manage to attract funding, in the majority of cases, it is only those ideas which are backed by a sound and sustainable business plan that succeed.

For once, Stan’s dad is right: there is more to starting a company than just a catchy name.

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