Equity Crowdfunding vs Reward-Based Crowdfunding: 10 Key Factors to Consider

Understanding a subject thoroughly allows for more informed decisions and choices. Crowdfunding, a popular method of raising funds, has different approaches, each with its own unique attributes and considerations.

In this article, we will demystify equity crowdfunding and reward-based crowdfunding so readers can clearly differentiate and decide what’s best for their circumstances.

Understanding the basics of crowdfunding

Crowdfunding is a method of raising funds for a project or venture by collecting small contributions from a large number of individuals, typically through online platforms. It allows individuals, entrepreneurs, or organizations to present their ideas, products, or services to a broad audience and ask for financial support.

Crowdfunding campaigns often offer incentives or rewards to encourage people to contribute. This approach democratizes the funding process, as it enables anyone with an internet connection to become an investor and support projects they believe in.

It has gained popularity due to its ability to bypass traditional financing methods and provide access to capital for individuals who might otherwise struggle to secure funding through traditional channels. Crowdfunding can be used in various sectors, including business startups, creative arts, social causes, and charitable initiatives.

What is equity crowdfunding?

Equity crowdfunding is a specific type of crowdfunding where individuals invest in a company or project in exchange for equity or shares. Unlike traditional crowdfunding, where contributors receive rewards or products, equity crowdfunding allows individuals to become shareholders and potentially benefit from the future success of the venture.

This form of funding is often regulated and facilitated through online platforms that connect investors with businesses seeking capital. Equity crowdfunding opens up investment opportunities to a wider range of people, allowing them to invest in startups, small businesses, or innovative projects that they believe in. It provides a way for entrepreneurs and companies to raise capital without solely relying on traditional financing methods, such as bank loans or venture capital.

Equity crowdfunding has the potential to democratize investment and stimulate economic growth by connecting investors with promising ventures and enabling them to participate in the success of these businesses.

Defining reward-based crowdfunding

Reward-based crowdfunding is a type of crowdfunding where individuals contribute funds to a project or venture in exchange for non-financial rewards or incentives. Unlike equity crowdfunding, where investors receive shares or equity in the company, reward-based crowdfunding focuses on providing tangible or intangible benefits to supporters.

These rewards can vary depending on the project and the amount contributed, ranging from early access to products, exclusive merchandise, personalized experiences, or recognition. Reward-based crowdfunding allows creators, entrepreneurs, or organizations to leverage the enthusiasm and support of their audience to gather funds and bring their ideas to life.

It creates a mutually beneficial relationship between the project creator and the supporters, as contributors receive unique rewards while helping to make the project a reality. This form of crowdfunding is popular among artists, inventors, filmmakers, and other creative individuals who can offer innovative and appealing rewards to their backers.

How does equity crowdfunding work?

Equity crowdfunding works by allowing individuals to invest in a company or project in exchange for equity or shares. It typically takes place through online platforms that connect investors with businesses seeking funding. To participate, investors browse through the available investment opportunities on the platform and select the projects they are interested in.

They then contribute a certain amount of money to the project, becoming shareholders in the company. In return, they have the potential to benefit from the future success of the venture, such as receiving dividends or selling their shares at a profit.

The specifics of equity crowdfunding can vary depending on the platform and the regulations in place, but it generally provides a way for individuals to invest in startups, small businesses, or innovative projects that they believe in, while giving companies access to capital without relying solely on traditional financing methods.

The process and expectation of reward-based crowdfunding

Reward-based crowdfunding involves a process where individuals contribute funds to a project or venture in exchange for non-financial rewards or incentives. The process typically begins with project creators setting up a crowdfunding campaign on a platform, where they outline their goals, explain the project, and offer various reward tiers based on contribution levels.

Supporters can then browse through these campaigns and choose to contribute a certain amount of money to the projects that resonate with them. The expectation in reward-based crowdfunding is that contributors will receive the promised rewards based on their contribution level once the project is successfully funded and completed.

These rewards can range from early access to the product or service, exclusive merchandise, personalized experiences, or other creative offerings. The success of reward-based crowdfunding relies on the trust and enthusiasm of the backers, as they support projects they believe in and receive unique benefits in return.

Project creators must fulfill their obligations by delivering the promised rewards within the agreed-upon timeframe to maintain the trust and satisfaction of their backers.

10 Key factors to consider when choosing between equity and reward-based crowdfunding

1. Potential return on investment

When deciding between equity and reward-based crowdfunding, consider the potential return on investment. Equity crowdfunding offers the opportunity to become a shareholder in a company, which means you may benefit from its future success if it grows or gets acquired. On the other hand, reward-based crowdfunding focuses on non-financial rewards, so the return is more about the value and enjoyment of the rewards received rather than financial gain.

2. Risk tolerance

Evaluate your risk tolerance when choosing between equity and reward-based crowdfunding. Equity crowdfunding involves investing in early-stage ventures, which inherently carries a higher level of risk. If you prefer taking calculated risks and have a higher risk tolerance, equity crowdfunding may be suitable for you. Conversely, if you prefer a lower-risk approach and are more interested in receiving tangible rewards, reward-based crowdfunding might be a better fit.

3. Involvement in decision-making

Consider your desire for involvement in decision-making within the project or company. With equity crowdfunding, investors often have the opportunity to participate in voting or have a say in certain business decisions. Equity crowdfunding can give you a chance to have a say if you value that kind of involvement. In contrast, reward-based crowdfunding typically involves supporting projects without direct input into the decision-making process.

4. Financial goals

Your financial goals play a major role in selecting the crowdfunding method. If you aim to generate potential financial returns and grow your investment portfolio, equity crowdfunding aligns with those objectives. However, if you prioritize supporting creative projects, receiving unique rewards, or contributing to causes that resonate with you, reward-based crowdfunding can fulfill those goals.

5. Time horizon

Consider your time horizon when deciding between equity and reward-based crowdfunding. Equity crowdfunding generally involves a longer-term commitment as it takes time for companies to develop and potentially provide returns on investment. If you are comfortable with a longer time horizon and potential delayed gratification, equity crowdfunding may be suitable. Reward-based crowdfunding typically offers more immediate gratification as you receive rewards once the project is successfully completed.

6. Personal interests

Assess your personal interests and passions when choosing between equity and reward-based crowdfunding. Equity crowdfunding allows you to invest in sectors or companies that align with your interests, potentially enabling you to support projects with long-term impact. Reward-based crowdfunding allows you to directly support creative endeavors or causes that resonate with you, providing a sense of fulfillment and involvement in projects that match your personal passions.

7. Level of engagement

Consider the level of engagement you desire when deciding between equity and reward-based crowdfunding. Equity crowdfunding may require more active engagement as investors often receive updates and communications from the companies they have invested in. If you enjoy being involved in the progress of businesses you invest in and want to support their growth actively, equity crowdfunding can offer that level of engagement. In contrast, reward-based crowdfunding typically requires less ongoing engagement once the project is successfully funded and rewards are delivered.

8. Regulatory considerations

Take into account any regulatory considerations associated with equity or reward-based crowdfunding in your jurisdiction. Different countries have varying regulations governing these forms of crowdfunding, including investment limits, disclosure requirements, and investor eligibility criteria. Ensure you understand and comply with any legal obligations before participating in either type of crowdfunding.

9. Market accessibility

Evaluate the accessibility of different crowdfunding markets when making a decision. Some markets may have more established platforms and a larger selection of equity or reward-based crowdfunding campaigns to choose from. Research the available options in your region to determine which market can provide a wider range of opportunities that align with your preferences and goals.

10. Diversification

When making investment decisions, diversification is crucial. Consider how equity or reward-based crowdfunding fits within your overall investment portfolio strategy. If you already have a well-diversified portfolio with exposure to various asset classes, including stocks or venture capital investments, reward-based crowdfunding can add a unique dimension without increasing investment concentration risk. However, if you seek to diversify your portfolio by investing in early-stage ventures or specific industries, equity crowdfunding can help achieve that diversification goal.

Key differences between equity and reward-based crowdfunding

Key DifferencesEquity CrowdfundingReward-based Crowdfunding
Financial ReturnPotential financial returns through equity ownershipNon-financial rewards or incentives
RiskHigher risk due to investment in early-stage venturesLower risk as the focus is on receiving rewards
Decision-makingPotential involvement in company decisionsNo direct involvement in decision-making
Time HorizonLonger-term commitment for potential returnsMore immediate gratification upon project completion
EngagementMore active engagement with updates and communicationsLess ongoing engagement after project completion
AccessibilityAccess to investment opportunities in specific startups or companiesAccess to creative projects or causes
RegulationSubject to regulatory requirements and investor eligibility criteriaFewer regulatory constraints
DiversificationOpportunity to diversify investment portfolioAdds a unique dimension to an existing portfolio

In comparing equity crowdfunding with reward-based crowdfunding, several key differences stand out. Equity crowdfunding offers the potential for financial returns through equity ownership, while reward-based crowdfunding focuses on non-financial rewards or incentives.

Equity crowdfunding involves higher risk due to investing in early-stage ventures, whereas reward-based crowdfunding carries lower risk as the emphasis is on receiving rewards. Equity crowdfunding provides potential involvement in company decisions, while reward-based crowdfunding does not offer direct engagement in decision-making.

The time horizon is longer for potential returns in equity crowdfunding, whereas reward-based crowdfunding provides more immediate gratification upon project completion. Equity crowdfunding requires more active engagement with updates and communications, while reward-based crowdfunding typically involves less ongoing engagement after the project is completed.

Equity crowdfunding allows access to investment opportunities in specific startups or companies, while reward-based crowdfunding provides access to creative projects or causes. Equity crowdfunding is subject to regulatory requirements and investor eligibility criteria, whereas reward-based crowdfunding generally faces fewer regulatory constraints.

Finally, equity crowdfunding can contribute to portfolio diversification by investing in early-stage ventures, while reward-based crowdfunding adds a unique dimension to an existing portfolio. It’s essential to consider these differences when choosing between the two methods based on your financial goals, risk tolerance, level of involvement, and time horizon.

Who typically chooses equity crowdfunding and why?

People who are looking for potential long-term financial returns and have a higher risk tolerance typically choose equity crowdfunding. This method appeals to investors who are interested in supporting early-stage startups, small businesses, or innovative projects and believe in their growth potential.

Equity crowdfunding allows these investors to become shareholders in the companies they support, giving them the opportunity to benefit from future success, such as capital appreciation or dividends. It attracts individuals who are willing to take calculated risks and actively engage with the progress of the companies in which they invest.

Furthermore, equity crowdfunding often appeals to those who are passionate about specific industries or sectors and want to contribute to their development and expansion.

When is reward-based crowdfunding more suitable?

Reward-based crowdfunding is more suitable in situations where individuals are primarily interested in supporting creative projects, contributing to causes they believe in, or receiving unique non-financial rewards. It appeals to those who value the immediate gratification of receiving rewards once the project is successfully completed, rather than seeking long-term financial returns.

Reward-based crowdfunding allows backers to directly engage with artists, inventors, filmmakers, and other creators, providing them with a platform to showcase their work and gain support from their audience. People who are passionate about particular creative endeavors or social causes and want to play a proactive role in bringing these projects to life frequently choose this approach.

By participating in reward-based crowdfunding, supporters can enjoy the satisfaction of directly contributing to projects that align with their interests, while also receiving tangible benefits that may include early access to products, exclusive merchandise, or personalized experiences.

The pros and cons of equity crowdfunding

Pros of Equity CrowdfundingCons of Equity Crowdfunding
Opportunity for Financial ReturnsHigher Risk
Potential for Portfolio DiversificationLack of Liquidity
Access to Early-Stage VenturesLimited Investor Protection
Involvement in Company’s GrowthRegulatory Compliance
Democratization of Investment OpportunitiesPotential Dilution of Shares

Equity crowdfunding offers several advantages. First, it provides the opportunity for financial returns, as investors can benefit from the success of the ventures they invest in. It allows for portfolio diversification by investing in early-stage ventures or specific industries. Equity crowdfunding grants individuals access to investment opportunities that were previously limited to traditional investors, thereby democratizing the investment landscape.

Moreover, equity crowdfunding enables investors to actively participate in the growth and development of companies they support. However, there are also some drawbacks to consider. Equity crowdfunding involves a higher level of risk due to the uncertainty associated with early-stage ventures. Liquidity can be a challenge as there may be limited secondary markets to sell shares.

Furthermore, investors may have limited protection since the regulations governing equity crowdfunding are still evolving. Compliance with regulatory requirements can be complex and time-consuming.

Finally, there is a potential for dilution of shares if the company seeks additional funding in the future.

Advantages and drawbacks of reward-based crowdfunding

Advantages of Reward-Based CrowdfundingDrawbacks of Reward-Based Crowdfunding
Direct Support for Creative ProjectsLimited Financial Returns
Access to Unique RewardsPotential Project Delays or Failures
Engagement and Connection with CreatorsLack of Equity or Share Ownership
Involvement in Bringing Ideas to LifeVaried Quality of Project Execution
Lower Risk and Investment RequirementsLimited Secondary Market

Reward-based crowdfunding offers several advantages. First, it allows individuals to directly support creative projects and contribute to the success of artists, inventors, and innovators. Backers have access to unique rewards and incentives that are often exclusive to the crowdfunding campaign, creating a sense of excitement and exclusivity.

Reward-based crowdfunding also fosters engagement and connection with creators, as supporters can communicate directly with project creators and feel a sense of involvement in bringing their ideas to life. Reward-based crowdfunding typically involves lower risk and investment requirements compared to equity crowdfunding or traditional investments.

However, there are some drawbacks to consider. The financial returns in reward-based crowdfunding are limited, as the focus is on receiving non-financial rewards rather than equity or share ownership. There is a possibility of project delays or failures, as creative endeavors can face challenges in execution or unforeseen circumstances. The quality of project execution can vary, with some projects not meeting backers’ expectations.

Finally, there may be limited secondary markets for reselling rewards obtained through crowdfunding campaigns. Despite these drawbacks, reward-based crowdfunding provides an accessible and engaging way for individuals to support creative projects and be part of their success.

Making the choice: Equity crowdfunding or reward-based crowdfunding?

If you are seeking potential financial returns and are comfortable with higher risk, then equity crowdfunding may be the suitable choice for you. However, if you prioritize receiving unique rewards and want to support creative projects or causes with lower risk and immediate gratification, then reward-based crowdfunding could be the better fit.

If you are interested in actively engaging with the growth of a company and potentially having a say in its decision-making, then equity crowdfunding offers that opportunity. Conversely, if you prefer to contribute to the success of creative endeavors and directly connect with project creators, then reward-based crowdfunding aligns with those objectives. If portfolio diversification and investing in early-stage ventures are your goals, then equity crowdfunding can help achieve those aims.

On the other hand, if you are more interested in engaging with artists, inventors, or filmmakers and enjoying exclusive rewards, then reward-based crowdfunding may be the preferred option.

Alice
Author: Alice