Crowdfunding for small businesses

crowdfunding small business

Le small businesses often face difficulties in accessing traditional credit due to a combination of structural and market factors. This is one of the reasons why, for example, the Italian economy is dense with small businesses destined to remain so, alongside cultural reasons. The crowdfunding for small businesses then presents itself as an alternative and more affordable option for raising capital and building a strategy Of sustainable financing for growth. 

In this article we delve into the benefits of crowdfunding for small business and find out what types of small businesses can make the most of them, what critical issues you need to be aware of, and what strategies to adopt to raise capital with alternative finance.

Small businesses and access to credit: the difficulties

Le small businesses in Italy represent a significant component of the economic fabric, but they often struggle to access bank credit and other more traditional types of financing, such as that coming from business angels or venture capital and private equity funds. This is also true in other economies where the average firm size is more robust.

The main reasons include:

  • Undercapitalization: Many small businesses have limited equity capital, making them more vulnerable and less reliable in the eyes of lending institutions. The latter perceive such firms as riskier and are therefore more reluctant to provide financing, especially in times of economic uncertainty.
  • Lack of a solid credit history: Small businesses, particularly younger ones, do not usually have a long credit history that can testify to their reliability as borrowers. 
  • Risk assessment costs: For banks, assessing the credit risk of a small business can be burdensome, making it less attractive to lend to them.
  • Limited warranties: The lack of significant assets to offer as collateral further reduces the accessibility of the small business financing.
  • High costs and onerous conditions: precisely because of the characteristics just listed, any loans granted to small businesses impose high interest rates and strict repayment terms, complicating cash flow management and debt sustainability.
  • Reduced scalability: many small firms operate in narrow market niches, with limited scope for rapid expansion on a national or international scale. Investment funds tend to focus on highly scalable investments, so they look with little interest on small businesses.
  • Lower expected returns: growth expectations and, consequently, the potential returns offered by small businesses may not be high enough to justify investment by venture capital or other types of funds.
  • Management structure: small, often family-owned businesses may show resistance to the entry of outside investors with decision-making power, limiting opportunities for partnerships with venture capital funds and business angel support.

Crowdfunding opportunities for small businesses

In the face of the difficulties listed, crowdfunding stands as a possible alternative for raise capital efficiently: in addition to raising funds, it allows you to simultaneously do a marketing campaign, a market test, a customer acquisition operation. Such efficiency is very valuable for those who need to optimize resources and boost their growth.

The main Benefits that small businesses can gain from crowdfunding Are:

  • Access to alternative and flexible capital: allows you to raise funds without going through the traditional financial channels, overcoming the rigidities of financial institutions and gaining more leeway on the terms of financing (lending crowdfunding) or the sale of company shares (equity crowdfunding).
  • Product or service validation: provides an opportunity to test market demand and gather feedback before launching a new product or service, reducing the risk of unprofitable investments.
  • Building a community of supporters: Supporters of the crowdfunding campaign become brand ambassadors, helping to build or expand a loyal customer base and increase company awareness.
  • Increased visibility: a crowdfunding campaign is also a marketing opportunity to make yourself known to a wider audience and stand out from competitors with an unusual promotional activity.
  • Maintenance of the governance: Crowdfunding investors do not acquire decision-making roles in the company.

What type of crowdfunding to choose?

The size of the enterprise is not in itself a characteristic that necessarily leads to choosing a type of crowdfunding rather than another. Rather, the choice depends on the business model (B2C vs B2B), the goals and needs of the company, and the stage of life it is in.

L'equity crowdfunding is capital raising that involves selling shares in the company to investors who become new shareholders. It can be an ideal choice for small enterprises young people, who want to build a growth path together with investors and through the crowdfunding campaign can also access useful skills, knowledge and contacts. 

They must be companies that are ready to give up some of the ownership while maintaining firm control of the company. This type of crowdfunding, however, works well primarily for businesses with some growth potential and a structured path ahead; less so for more "static" businesses.

The lending crowdfunding is a borrowing of capital, from investors who become creditors of the company and must receive repayment of principal plus interest over a specified time horizon. It is very useful for small businesses that need liquidity in a more affordable and shorter time frame than bank loans. 

For example, lending can be used for extraordinary expenses, debt refinancing, maturing projects, etc. Because it requires demonstrating a minimum of debt sustainability, this type of crowdfunding is not suitable for fledgling companies, but rather for mature companies.

The reward crowdfunding, finally, is a raising of capital in exchange for a reward (reward), but with no cash remuneration for investors, neither potential nor predetermined. It is the ideal type for companies that make products, because the reward must be something material related to the product itself. 

With reward crowdfunding, for example, small businesses can test the online sales market without having to create from scratch a e-commerce own, or validate a prototype of a new product before investing large resources in official production and commercialization.

Our articles comparing equity crowdfunding and lending crowdfunding or equity crowdfunding and reward crowdfunding can help to understand the strengths and purposes of each typology.

Want to learn more directly with our crowdfunding experts about the topic you are reading about?

Turbo Crowd can reveal to you all the tricks of the crowdfunding trade, explain the capital-raising opportunities available to you, and provide you with practical support to carry out a successful crowdfunding campaign.

Limitations and risks of crowdfunding for small businesses

Despite its many advantages, crowdfunding also has some limitations for small businesses, partly overlapping with those that all enterprises may encounter, and partly specific:

  • High competition: The growing popularity of crowdfunding makes it more difficult to stand out among the many active campaigns.
  • Time and resources: Running an effective crowdfunding campaign requires careful planning, dedicated marketing strategies, and constant engagement with the community, using time and resources that not all small businesses can afford.
  • Reputational risk: A failed campaign can damage the company's image, negatively affecting the public's perception of the brand.
  • Legal and regulatory aspects: crowdfunding regulations are usually unfamiliar to entrepreneurs. Especially in small family businesses, they often lack the financial skills needed to safely acquire the mechanisms of alternative finance and it is essential to study or seek specialized advice.
  • Managing investor relations: before, during, and after the campaign, it is critical to communicate regularly with supporters and provide updates on the progress of the project and the use of the capital raised. Poor communication can lead to misunderstandings and dissatisfaction among funders, so the small business needs to ensure that it has a communications officer who devotes sufficient time to these relationships.

Can all small businesses do crowdfunding?

In light of the limitations and risks highlighted in the previous paragraph, the answer to the question in this title is no. 

In theory, all types of companies can apply for make a crowdfunding campaign. In practice, the small traditional companies, for example, a restaurant or clothing store, would struggle to be attractive for alternative investment because they lack innovative elements that would make them truly distinctive in their industry and allow them to attract the attention of potential investors. Investing in a small business crowdfunding campaign is a risky business, requiring the prospect of adequate reward and good return potential-two elements that a traditional small business is unlikely to offer.

There may be exceptions, for example, small traditional businesses that want to launch an innovative project or one with a strong impact on the local area and community.

Another aspect to consider is the flair for innovation and openness to the outside world. A small, family-owned business that is poorly digitized and disinclined to change lacks the basic tools and conditions needed to making a successful crowdfunding campaign. Willingness to get involved, familiarity with key online communication technologies or willingness to learn, openness to outside investors, willingness to change business structures and processes, and time to devote to communication are essential.

For these reasons, innovative startups are among the favored subjects for successful crowdfunding campaigns. 

Ideal economic sectors for crowdfunding

Statistics from crowdfunding platforms reveal which economic sectors are most often found in successful campaigns:

  • Innovative technologies in various fields (especially sustainability, agriculture, biomedical, logistics, AI)
  • Renewable energy
  • Fintech
  • Real estate
  • Food&Beverage
  • Games and video games.

This is not to say that all small businesses that do not operate in these sectors are left out: crowdfunding is a very flexible tool. Learning about how it works allows us to understand whether it is possible to take advantage of its benefits, how and with what outcome expectations.

Do you need support in preparing a successful crowdfunding campaign and seeking potential investors for your project?

Turbo Crowd can accompany you throughout the process, from organizing the precrowd to closing the collection, developing effective and innovative marketing strategies to best promote your campaign.

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