Equity crowdfunding vs reward crowdfunding: which one to choose?

The choice of mode of raising capital is crucial for businesses, as it can affect their ability to grow and develop. Within alternative finance, there are both proposals that trace the dynamics of traditional finance, such as equity crowdfunding, and tools that trace more commercial than financial dynamics, such as reward crowdfunding. Both can be viable options for the same venture: how to choose? we propose an equity crowdfunding vs reward crowdfunding comparison to provide practical guidance to businesses that are considering using crowdfunding as a capital raising tool, helping them choose the mode that best suits their needs and goals.

Equity crowdfunding is a form of crowdfunding that allows companies to raise capital by selling shares to their investors, who in return receive a portion of the company's equity. Reward crowdfunding, on the other hand, is a form of crowdfunding that involves raising capital in exchange for rewards, or prizes, which start with the product itself and then evolve into an exclusive extra, either tangible or intangible in nature. Let us delve into the differences, advantages and disadvantages of these two ways of raising capital, as we have done in the past with equity and lending crowdfunding.

Equity crowdfunding: how it works

A brief summary of how equity crowdfunding works: it is a mode of raising capital that allows companies to raise funds through the sale of shares in the company's capital stock. In this model, investors become partners in the enterprise, acquiring voting rights and opportunities to earn a financial return through possible dividends or an increase in the value of their shares over time. Thus, a long-term relationship is established between the company and investors.

The process for doing an equity crowdfunding campaign can be summarized in the following steps:

• Opening of a capital increase at a notary public
• Submission of the project to a platform to submit for selection
• Definition of the quantity and types of shares and related property and administrative rights to be transferred
• Preparation and launch of the campaign
• If successful, registration of the list of new members in the company's business registration.

Equity crowdfunding: advantages and disadvantages

The benefits of equity crowdfunding for businesses:

• Ability to raise significant capital without incurring debt
• Acquiring investors who are also customers and testimonials of the company
• Opportunities for upward valuation of the company.

Among the risks and disadvantages, mention should be made:

• Dilution of ownership and the need to manage new members wisely to avoid losing governance
• Significant bureaucratic load before, during and after the campaign
• Significant campaign costs and preparation time.

Reward crowdfunding: how it works

A brief summary of how reward crowdfunding works: is a funding strategy that allows companies to raise capital from supporters interested in the development of a particular product in exchange for rewards, known as "rewards." These rewards always include the product for which funding was raised, but also include a more exclusive privilege-from limited-edition products, unique experiences, or customizations made specifically for supporters, to public thanks or recognition.

There is no other remuneration outside of the rewards, and the obligation relationship between the company and supporters formally ends after the rewards are delivered. Of course, it is all in the company's interest to keep the bond with supporters alive even after the campaign ends, because it represents an asset for customer acquisition, publicity, and future capital raising.

In theory, reward crowdfunding is not limited to companies that make products, but in practice it is much more difficult for it to come in handy for service providers. For a service, in fact, it is arduous to build tangible rewards or provide intangible rewards that go beyond simple discounting, which is rather trivial and unattractive because it is not exclusive.

The process for doing a reward crowdfunding campaign is very simple:

• Project proposal to a platform, with no or very loose selection process
• Preparation and launch of the campaign
• If successful, delivery of rewards to supporters.

Reward crowdfunding: advantages and disadvantages

The benefits of reward crowdfunding for businesses:

• Ability to raise capital without divesting shares in the company or making debt
• Opportunity to market test and validate a product before official launch, getting direct feedback from potential customers
• Creation of a community of early adopters of the product
• Reduced campaign costs and preparation time (but highly variable depending on the type of reward offered).

Instead, the main risks and disadvantages are as follows:

• Capital raising usually more modest than other funding tools (but there are also reward crowdfunding campaigns that have raised millions)
• Logistical and production complexities of delivering promised rewards, especially in case of success beyond expectations
• Sensitive reputational risk.

The comparison: equity crowdfunding vs reward crowdfunding

We now have all the elements to compare equity crowdfunding and reward crowdfunding and develop a useful framework to understand when one form of capital raising is more convenient or the other.

Equity Crowdfunding

Reward Crowdfunding

Main objective

Financing for business growth

Financing the realization of a product or (less suitable) service

What does the investor/supporter get?

Company shares+reward tangible or (more often) intangible

Product+Material rewards (or material+experiential)

Regulation

High, with significant legal obligations

Minimal, with obligation to deliver promised rewards

Average amount collected

Medium-high (up to millions of euros)

Low-medium (up to a few hundred thousand, with some exceptions)

Timing

Longer, bureaucratic process.

Faster and more flexible

Community and marketing

Great for building a community of investors, customers, testimonials, and a diverse stakeholder network

Great for validating products and building an audience of early adopters and brand advocates

Equity or reward: which to choose?

Assuming that each company is a microcosm unto itself, with unique characteristics and needs to be evaluated on a case-by-case basis, some guidelines can be listed that can be used when choosing whether to do equity crowdfunding or reward crowdfunding.

Choose equity crowdfunding if:

• You are a startup that needs a massive injection of capital to solidify and grow
• You are a company at a business turning point, such as opening to new markets or starting new product/service lines
• You are a young business that needs to connect with external professional skills and knowledge or to integrate your supply chain to grow (through the involvement of strategic investors)
• You are a startup that needs to qualify your business value assessment
• Are you a company with an easy-to-manage corporate structure and the professional support you need to administer the opening of your capital stock
• You are a company with a highly scalable business.

Choose reward crowdfunding if:

• You are a company that makes products and you need to launch the first or a new product
• You are a startup that needs to test the market and validate the product idea before a large-scale investment
• You are an established company that needs to launch a new product line and needs to test customer appreciation and advertise a rebranding, repositioning, or brand expansion
• You are a company that needs to raise capital quickly for a specific product project without divesting equity shares
• Your target audience are niche markets that are particularly active in terms of early adopting and fandom
• You are an artist (of any genre) and you need to expand your audience.

In conclusion, we can say that both equity crowdfunding and reward crowdfunding are powerful tools for financing a business, but they address different needs with different solutions. Both can be part of a long-term financing strategy and serve the needs of different stages of a company's life cycle. For further comparison, you can check out our articles with examples of reward crowdfunding campaigns and examples of successful equity crowdfunding campaigns.