Crowdfunding – How Does It Work?

Crowdfunding refers to the practice of using monetary contributions from a crowd of people to fund a venture or product. This alternative finance is also a type of crowdsourcing. Estimated figure shows that from across the globe, more than 34 billion US dollars was raised in 2015 through this alternative finance.


The system has been leveraged to fund varieties of entrepreneurial ventures, including creative projects, artistic ventures, travel, medical expenses, as well as community-based social entrepreneurship projects.


According to the report from Crowdfunding Centers in May 2014, there are two primary types of this project funding system, namely:

#1: Rewards Crowdfunding: For this type, users (usually entrepreneurs) engage in pre-selling a product or service as a way of launching a business concept in a debt-free manner. It also helps them not to sacrifice shares/equity.

#2: Equity Crowdfunding: Here, the backer or funder gets a company’s shares, usually at the early stages of the company, as an exchange for the fund or money pledged.

How Does It Work?

As pointed out earlier, the system works by allowing participants to seek donations in return for certain rewards. The reward could be participation in the product’s development or free product/service. Website platforms such as Kickstarter offer this project funding service.

The additional uses of crowdfunding include assembling loans and accomplishing royalty financing. Some of the providers enable participants to invest directly in, as well as borrow from other participants. They justify the system with the claim that middlemen are eliminated, leading to win-win situations for both parties in the transaction.

The Pros

The system offers an alternative technique for startups or companies in their early stages to fund their projects or take their business concept to another level. This helps reduce the hitch that comes with traditional borrowing (from financial institutions), especially when startups and small businesses are involved.

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