A Quick Guide on Reward-based Crowdfunding vs. Equity Crowdfunding

Which should you choose?

Photo by Markus Winkler on Unsplash

Crowdfunding is a renowned way for founders at any stage and in any market to collect funds to grow their business.

However, depending on the nature - and the stage - of your business, you might find a better fit through a reward-based or an equity-based crowdfunding campaign.

Let’s look into the definition of both:

Reward-based crowdfunding

Reward-based crowdfunding campaigns allow creators to raise funds to finance the creation, design, or manufacturing of a product/service/work of art before it exists. Those who pledge - known as backers - are generally entitled to receive, or access, that product/service/work of art with more favorable terms compared to a standard purchase.

Equity crowdfunding

Equity crowdfunding campaigns allow business owners to raise capital for their businesses to finance their operations or growth. Those who pledge - known as investors - are entitled to own shares of the business and enjoy the standard returns of a shareholder which can be, depending on the size of the pledge, financial gains, votes, re-buy rights, or similar options.

Which One is Right for Your Startup?

Both types of crowdfunding can be game-changers for your project or company. In order to identify the right type for you, I recommend understanding the functioning of both.

For synthesis’s sake, from now on I’ll refer to any product/service/project/work of art as *Product.

Reward-based crowdfunding

In reward-based crowdfunding, you have the opportunity to gather Customers before finalizing your Product. You basically create a group of people who are willing to pay and wait for your Product to take shape because they find it extremely exciting.

It’s a quite revolutionary inversion of a usual go-to-market strategy. Financially speaking, it empowers you to get a response to the question “Is anyone going to buy this?” before actually facing the costs of manufacturing/developing/producing your product.

Reward-based crowdfunding is the perfect fit when you are bringing to market a physical product for consumers. Or when you already have a community of people that are using your app/service or following your art, and you want to give super early access to some new features or content that they can enjoy.

The types of questions that you have to answer when you’re preparing a campaign and want to seem credible are:

• Where are you at in the development of your Product?

• Where will you make it?

• How can I use it/enjoy it?

• Is it going to last for a long time?

• Is it worth the price - and the wait?

• Is your team capable of delivering it?

• How is it going to change my life/improve my experience?

And so on.

After successful campaigns, the biggest challenge that creators face is the fulfillment of their promises. As entrepreneurs are optimistic by nature, it’s not uncommon to see some Products being delivered later than the original promise or with lesser quality. 

The people who support you at the beginning may end up disliking you if you aren’t transparent with them about your after-campaign. 

Don’t lose their trust!

Equity crowdfunding

With equity crowdfunding, you can raise funds by convincing Potential Investors to acquire shares of your company. It’s a quite different target from reward-based crowdfunding. It’s basically people who expect to multiply their money by supporting your campaign, similar to the way you do when you invest money on the stock market or in digital currencies.

The whole narrative about an equity crowdfunding campaign is much similar to the one you have when pitching your business to a professional investor or a to a friend who would like to invest in your company. The main questions lay around the stability of your business, the amount of paying customers, the Total Addressable Market, and all those things that a Customer (Consumer) would probably never ask you.

We’re talking about getting money from people that need to be convinced that you can make them more money. 

With equity-based crowdfunding, backers want to understand how your business works, not get excited about a new product.

In the aftermath of a successful equity crowdfunding campaign, the relationship with your investors can be relatively easy compared to a Kickstarter campaign for example. In general, Investors of an equity-crowdfunding have invested in you because they believe in your team, so they will comprehend if your business changes and evolves into something different over time.

However, this also depends a lot on the type of voting/non-voting shares that you issued during the campaign.

How Can You Succeed with Crowdfunding?

In both cases, the whole point is how excited - and hyped - your community is before you launch your campaign. 

If you find yourself in a spot where you have tens of comments and messages coming before going live, with people saying “I can’t wait” or “You guys are going to kill it” then yes, the campaign definitely sounds promising. If instead, the weeks before going live all you see is silence, there’s something wrong.

Also, the human component couldn’t be more important in both cases. Credibility, which basically means the level of trust that you’re able to get from the people who find out about your campaign, is always the most important factor.

Imagine that you’re about to support an ambitious project on Kickstarter and are on the fence between spending or not spending $500. What would make you go “yes” or “no”? It’s often the team, the experience of the people behind it. 

Even more for equity. Most of your potential investors will check the interview of your CEO to see if this person knows the business they’re into. 

Can you start a reward or equity-based crowdfunding campaign at any stage? 

With reward-based crowdfunding, in theory, any point in the history of your business is a good moment. If you and I tomorrow have an idea, for example, we can put together a small budget, create a prototype, do a video, and launch (as long as we build a community first, of course). On the other side of the spectrum, even a solid company with more than 15 years of stable revenue can launch a new pair of headphones on Kickstarter.

With equity, it's quite different. With equity, you must be at a point in your business journey where you have traction. You need customer success stories, a solid team, a clear idea on how your business makes more - and more - money, and also have all your Unit Economics fully figured out. In other words, you must know your business in detail, because potential investors are going to ask. Additionally, you need to make sure you are complying with all the relevant governmental and financial regulations around equity investment in your company — so do your research first!

The amount of funds that you need to raise also has a big impact on the overall timing of your campaign.

If your reward-based crowdfunding is financially viable only if you get 1,000 units ordered, then make sure that you invest in a long pre-campaign and get to the day before launching with a sense that 300 of them are already gone. If instead, you need $10,000 just to take off, your pre-campaign will require less time to prepare.

The same goes for equity crowdfunding: if you have a good reputation at running businesses and need $100K to start, it is relatively easy for you to raise it successfully in a short amount of time. If instead, you need to lock your $2M seed-round and are a first-time entrepreneur, it will definitely require more time and resources to prepare for that.

Also, consider that it’s always good practice - in equity-crowdfunding - having a piece of your round pre-committed from an investment fund / institutional investor. This helps your campaign look successful from Day 1 and makes you look more credible.

So Which Type Should You Choose?

In very short: Reward-based crowdfunding works much better for Consumer-facing companies while Equity-crowdfunding campaigns can apply to any type of business.

The products or initiatives that you find on Kickstarter or Indiegogo are, for the most part, products or experiences that you - as a consumer - will be able to enjoy once they are ready. From a new incredible 3D printing pen, up to an independent documentary on visual art from Medellin.

When it comes to equity crowdfunding, instead, you can theoretically run a campaign no matter what your business is about. It doesn’t matter if you are selling a SaaS (Software As a Service) platform or launching a new brewery: as long as your business sounds promising, investors might want to jump in.

How Do You prepare for a Crowdfunding Campaign?

When it comes to the preparation of any campaign, I always approach it using the 3-bucket method.

In short, your audience can be divided into 3 buckets: 

• Bucket 1 is the community that you create before launching your campaign

• Bucket 2 is the organic traffic that visits the platform where you’re launching independently from your project

• Bucket 3 is “everyone else “ on the planet that you can target while the campaign is live

We also have bucket 0, made of Friends, Family, and Fools. They can play a big role in equity crowdfunding, but a more limited one when it comes to reward-based crowdfunding.

The strategy, for both types of crowdfunding, is: 

1. Fill up Bucket 1 as much as possible: as many emails, followers, deposits, or anything else you can put together before launching

2. This will automatically trigger Bucket 2: random visitors on any platform will be excited and more likely to pledge for a successful project

3. This will consequentially make Bucket 3 profitable: all the traffic that you can bring during the campaign is more likely to convert if Bucket 1 and 2 are working properly

And this process, by the way, can be applied to the launch of anything.

How Does Preparing for a Campaign Differ From Equity to Reward-based Crowdfunding?

Although they have much in common, there are a few key differences in the preparation for the 2 types of campaigns. 

I might get a bit technical here, but studying some of these concepts will definitely benefit your campaign.

Let’s check out the 4 key steps for Reward-Based crowdfunding:

1. Use [1] Paid Media (Ads on social media), [2] PR (magazines, blogs, etc), and [3] Social Engagement (referral campaigns, giveaways, organic posts, etc..) to create a community (First Bucket)

2. Find a way to validate the fact that your First bucket is willing to pledge for your campaign before going live (check click rate, track the amount of DMs and comments, ask for deposits, get people to subscribe to a pre-launch page, etc..)

3. Within the first 48 hours, you should be able to reach your goal which will give you exposure towards the organic traffic of the platform where you launched (Second Bucket) and this will bring you additional pledges (in some cases, you might have 100%+ more backers/investors thanks to the second bucket)

4. At this point, you can keep investing in Paid Media during the campaign (Third bucket) to scale up your campaign, and your Conversion Rate (amount of visitors that convert into pledges) and ROAS (Return on Ad Spend) should remain sustainable.

With Equity Crowdfunding, instead, the essential strategy is similar but with one additional step at the beginning:

1. Use your relationships in real life (bucket 0) to find one or more investors that commit to investing in your equity round

2. Use [1] Paid media, [2] PR, and [3] Social Engagement to create a community (First bucket) that has proven to be ready to invest in your campaign before going live

3. You should reach your minimum funding goal quickly and the Platform will have all interests in pushing your campaign to their qualified investor's community (Second Bucket) 

4. At this point, you should keep investing in PR, Social Engagement, and Paid Media during the campaign (Third bucket) to scale up your campaign and make your overall raise e great success.

Good luck with your campaign and feel free to reach out at andreabaldereschi.com if you are looking for support!