Last updated on Sept 25, 2021, by Hong Zhuang. Reading Time: 5 min
Of course, Crowdfunding is an efficient way for startups to get fast and more funding, but when you decide on crowding financing, you need to look at it as a double-edged sword.
Table of Contents
What are some side effects that can kill startups’ success?
The entire purpose of this blog is to help you understand those effects, help you determine if your startup should avoid Crowdfunding, and finally, how to prepare for the worst-case scenarios.
Keep reading to learn more, or use the chapter links below to jump ahead.
- Why is it not worth using reward crowdfunding to validate your idea?
- What kind of strings are attached to successful equity Crowdfunding?
- Why can Crowdfunding hurt startups’ next round of financing?
- How can people steal your idea from a Crowdfunding campaign?
- Why is an equity crowdfunding campaign go big or go home?
- Which type of startups is suitable for Crowdfunding?
- Conclusion
Why is it not worth using reward crowdfunding to validate your idea?
You have probably heard that entrepreneurs can validate a startup idea through reward crowdfunding.
Why is this not a practical solution?
First, reward crowdfunding such as Kickstarter is only suitable for consumer goods, gaming, and wearable products, not software, B2B, and deep tech.
Why?
All backers are mere consumers, i.e., early adopters. They love to take a risk to try exciting, innovative products to satisfy their adventure fancy.
Second, to test an idea, you need to find suitable early adopters. Since backers on each reward crowdfunding platform have their products’ interests, the validation result can vary from one crowdfunding platform to another one. Thus it can be a headache for entrepreneurs to obtain an accurate conclusion.
Third, it wastes you a needlessly long time. According to statistics, the average crowdfunding time is 4 to 7 months, from planning a crowdfunding campaign to bank money. Conversely, a landing page validation only takes less than a month.
Lastly is the crowdfunding campaign cost, which can be a burden for early-stage startups. The cost includes the platform fees, marketing($2,000 to over $15,000), and project video & photo($3,000 to over $10,000).But using a landing page to test your idea only costs you less than $500.
As you can see, using Crowdfunding to validate a startup idea is like using a sledgehammer to crack a nut because a landing page approach is much more proper.
What kind of strings are attached to successful equity Crowdfunding?
Two kinds
The first one is the regulatory burden.
The startups must comply with financial regulatory requirements and file audited annual financial statements, which can range from $20,000 to $50,000 depending on the complexity of your company.
In addition, regulations can evolve. So, startups must constantly monitor the changes to ensure compliance.
The second one is to allow the government or individual to file lawsuits against the directors and senior management of startups in any regulation violation. If it happens, it can destroy a startup’s reputation and kill the company, not to mention the finance and time loss.
As you can see, government regulations add additional transparency and accountability that are usually applicable to mature companies but may overload immature startups.
Why can Crowdfunding hurt startups’ next round of financing?
If you plan to raise your next round from series A and beyond, you will need big packet investors such as VC or instinctual investors. The last thing they want is to be chased by a pack of wolves: possible equity crowdfunding lawsuits by the government or the crowdfunding investors.
Thus, equity crowdfunding can be a bad apple that spoils your future fundraisings and puts you at a disadvantage.
How can people steal your idea from a Crowdfunding campaign?
When doing Crowdfunding, you have to reveal your idea and detailed product plan to the public. If your idea is good, good product ideas get copied all the time. Even Steve Jobs constantly did that: Apple computer’s graphical user interface borrowed from Xerox was one.
So, you may think a patent can protect your idea?
False!
First, a patent is country-specific; anyone from another country can copy your idea legally and freely. Thus you can create a potential invincible competitor. Samsung copied iPhone and became the number one smartphone maker in the world.
Second, patents safeguard invention, not ideas. Facebook got the idea from a company called mySpace and then killed the company.
How can you protect your idea?
Before going to Crowdfunding, you need to analyze your weaknesses(product, marketing, management) and develop a game plan to prevail over your potential competitors that can turn the weaknesses into strengths.
Why is an equity crowdfunding campaign go big or go home?
The bandwagon effect. It is a human psychological phenomenon in which people tend to follow the crowd.
If your campaign failed, it would shake your existing investor confidence, making it harder for the founders to convince them to invest in the subsequent financing round.
Moreover, since “bad news travels at the speed of light,” other investors will take note and likely eschew you in the future.
How can a startup prevent a campaign from failing?
- Setting the campaign goal the exact amount it can raise from its network of investors.
- Ensuring its campaign goal is greater than the minimum funding goal required by the crowdfunding platform.
Which type of startups is suitable for Crowdfunding?
Now you know all the dire Crowdfunding consequences. But it doesn’t mean that all startups should avoid Crowdfunding. It depends on the founders’ exit plans for their startups.
First, if the exit plan is the acquisition by a big company, VC or institute investors will likely block the goal because they aim to take startups to IPO. Thus, Crowdfunding is an excellent alternative finance option for startups with an exit plan of getting acquired.
Second, if the founders prefer slow growth and developing paying customers to meet the business costs, they can use Crowdfunding as a backup capital funding source in case. For example, Mailchimp chose not to take venture funding and bootstrapped itself to a $700 million annual revenue.
Lastly, startups with good ideas, a strong management team, and market insight should be a prerequisite for Crowdfunding to prevent pirates from becoming super competitors.
Conclusion
Now you know all Crowdfunding’s side effects:
- a barrier to your startup’s future rounds of financing if you plan to seek VC or big institute investors.
- government regulation burden
- the dire consequence of a failed campaign
- potential piracy risk
And how to prepare for them.
We hope this blog can help you make the right decision for your startup crowdfunding. Do you have any other advice you would like to share with us?
Our mission is to match more ambitious tech startup founders and women entrepreneurs to their ideal investors. If you have any questions, you could reach out to us via email: info@zettasher.com.