Crowdfunding’s Unique Risks

The “kickstarter” movement, where groups of private investors provide funding to get new businesses and projects off the ground, has seen a fair share of innovations – both success stories and an assortment of failures. But the concept of crowdfunding in general also has taken on a life of its own.

And there appears to be no limit to how far it can go. Facebook is full of “friends” seeking funding assistance for various projects and other endeavors, and would-be musicians also have turned to crowdfunding via social media to get their careers off the round, for example.

Even religious leaders are catching on to the crowdfunding trend. In Italy, a friar in charge of an 800-year-old church recently turned to online fundraising when it became necessary to collect donations for needed renovations. The church, St. Francis of Ripa, shares the same name as Pope Francis, and it contains a room where St. Francis of Assisi regularly slept centuries ago.

Having a pope with the same name has suddenly drawn tourist interest in the church and the room, which is in need of $125,000 worth of repairs. Because the Franciscans have a vow of poverty and rely on charity, it recently launched a 30-day fundraising campaign using the Kickstarter website.

Though the campaign was struggling to meet its goal – it had raised just $34,780 with just more than a week to go – it illustrates the extent to which social fundraising has grown as a trend.

Paving the way

Last month, a startup called Pave launched a group of New York “Rising Stars,” who now may take advantage of the company’s unusual investment program designed to help individuals, including recent college graduates, get their careers off the ground.

“We have a situation where many who are graduating every year with thousands if not hundreds of thousands of dollars of debt,” Pave co-founder Oren Bass told Market Platform Dynamics CEO Karen Webster in a podcast interview. “And that’s prohibiting them from going into careers of their choosing.”

Pave’s objective is to provide a means for talented and motivated individuals to accelerate their careers, and to provide experienced successful professionals to help groups they care about to similarly succeed. Launched in March 2012, Pave has as participants about 7,000 registrants, 5,500 of whom are applicants for funding, called “The Talent,” plus about 1,500 backers looking to invest in the talent register, Bass said.

The average backer commitment is about $2,500 per individual, whose payments back are tied to recipients’ future income. If they do well, the backer shares in the upside of the talent they invested in, Bass said.

“What we’re doing is providing Millennial talent with a new way to actually fund either their careers or their studies, or even to finance some of their student debt,” Bass said. “We do that by actually letting them raise money from groups of older and successful individuals in exchange for a small percentage of their future income.”

Negative elements

But like anything else where money is involved, crooks tend to seek ways to take advantage. PayPal recently started to engage crowdfunding campaign owners early on to help it understand the campaign goals and ensure the campaigns comply with its policies and government regulations, according to a recent company blog post.

In September, when PayPal said it would begin to review its crowdfunding policies, the payment service did not provide specifics about the policy changes. But it did note it plans to review questionable crowdfunding campaigns before freezing accounts.

Fraud also became an issue for Indiegogo, reportedly the first and largest global crowdfunding platform, when Pando identified a $1 million fraudulent campaign. The problem for Indiegogo was that its crowdfunding program guaranteed to detect “any and all” cases of fraud through a fraud review, according to Pandodaily.com. But rather than suspend the campaign, Indiegogo earlier this month deleted the reference to the fraud-detection guarantee, according to Pandodaily.com.

And even legitimate campaigns can backfire. The Chocolate Room, a Brooklyn-based establishment, experienced problems earlier this year with its clientele after launching an effort to raise money for a relocation. Some of the company’s customers took to the Web to voice their complaints, suggesting they shouldn’t have to bear the costs for a for-profit business.

Companies specializing in providing startups with funding also are turning to crowdfunding, sort of, to keep operating. CircleUp, which connects small consumer and retail companies with vetted prospective investors that make at least $200,000 a year, or have a net worth above $1 million, recently received $14 million in venture capital funding.  The round was led by first-time investor Canaan Partners; Google Ventures had previously invested in the company.

Separately, Indiegogo in January said it raised $40 million in Series B funding. It planned to use the financing to continue making key hires, expand globally and improve the user experience with a focus on mobile, personalization and trust. Institutional Venture Partners (IVP) and Kleiner
Perkins Caufield & Byers (KPCB) led the round, with additional funding from existing investors Insight Venture Partners, MHS Capital, Metamorphic Ventures and ff Venture Capital.