A brief reflection on the potential of crowdfunding to leverage the Brazilian economy. (Part 2)

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A brief reflection on the potential of crowdfunding to leverage the Brazilian economy. (Part 2)

What is Crowdfunding? How does it work? What is its antecedent? Which kind could have a significant role in Brazil’s economy?

This article will address these questions. In doing that, it seems that it will give an overview of crowdfunding’s potential, in order to support my point of view that it can play a significant role in Brazil’s economy. Let’s start it.

What is Crowdfunding?

Generally speaking, crowdfunding is an action of fundraising through small contributions from a large number of people [1]. It occurs when a project or a venture is financed by a group of individuals who are not professional investors such as banks, venture capitalists or business angels [2]. Nowadays, anyone with a good idea can publish a request to be funded on a crowdfunding website [3]. On the Internet, entrepreneur details the product or the business related to the request and the return to the contributor for the contribution [4]. The crucial point in crowdfunding is the internet as a facilitator of this exchange process [5]. There is no intermediary between those who receive the money and those who invest in the business[6].

Nowadays, crowdfunding is seen as an element of crowdsourcing [7], which is well characterized as a type of participative online activity. Through it, an individual, an institution, a non-profit organization or a company proposes to a group of individuals with varying knowledge, heterogeneity, and number, via a flexible open call, the voluntary undertaking of a task. Crowdfunding has been described as follows: “The undertaking of the task, of variable complexity and modularity, and in which the crowd should participate bringing their work, money, knowledge and/or experience, always entails mutual benefit. The user will receive the satisfaction of a given type of need, be it economic, social recognition, self- esteem, or the development of individual skills, while the crowdsourcer will obtain and utilize to their advantage that which the user has brought to the venture, whose form will depend on the type of activity undertaken.”[8]

What is its antecedent?

Even though the concept of crowdfunding as it is mostly known now is an internet-based model, crowdfunding did not start with the internet. Campaign donations from the general public to the politicians, for instance, can be viewed as a crowdfunding institution [9]. According to Miriam Bruhn, Fenella Carpena, and Bilal Zia, other antecedents of crowdfunding are microlending or microfinance, i.e, a lending of very small amounts of money, mostly to poorer borrowers [10] such as it took place when Muhammad Yunus loaned $ 27 of his own money to 42 villagers in Bangladesh and later founded a bank, the Grameen Bank, which is specialized in this type of loans [11].

However, several authors highlight the development of Web 2.0 was the crucial point to the development of crowdsourcing, not only because this structure was essential to companies reach networks of consumers easily, but also because it enabled everybody to create content and upload it on the net [12].

The development of crowdfunding lays on three main Web 2.0’s factors: a combination of knowledge and resources, an openness of the system which motivates people to contribute with freedom, and easiness of use of the internet by people and small entrepreneurs [13] .

Many reasons are given for the increase of crowdfunding. Nevertheless, as stated by Schwienbacher and Larralde: “According to Kleemann et al. (2008), companies make use of the crowd mainly for cost-reduction reasons. By participating in the product design and improvement, users contribute to creating value for the company. Moreover, this allows the company to reduce the length of time needed for new product development as well as its costs, have better customer acceptance, and increase the customers’ perception of product newness. Within the crowdfunding activities, consumers and/or individuals provide needed capital to the company to make investments, such as acquire new assets or pay employees” [14]. Furthermore, they emphasize that individuals who participate in crowdsourcing projects have either intrinsic (pleasure of fun) or extrinsic motivation (reward, career benefits, etc.) [15].

What are the crowdfunding’s types?

According to the study conducted by Bradford in 2012, Crowdfunding can be categorized into five types. It takes into account what kind of return the investors will have for their contributions:

Donation model;
Reward model;
Pre-purchase model;
Lending model; and
Equity model [16].

The fact characterizes the Donation model is that there is no return on the investment [17].

Reward and Pre-purchase sites are very similar to each other because both of them do not offer interest or a part of earnings, such as dividends; instead, they provide small rewards [18]. While “the reward model offers something to the investor in return for the contribution, but does not offer interest or a part of the earnings of the business“[19], in the Pre-purchase model contributors receive in return the product that the entrepreneur is making, that is not an interest, dividend, or part of the earnings of the business [20]. Therefore through the Pre-purchase model, for instance, “if the entrepreneur is producing a music album, contributors would receive the album or the right to buy the album at a reduced price upon completion”[21]. Typical examples of these models are platforms such as Kickstarter [22] and IndieGoGo [23].

In the Lending model, known as Peer-to-Peer Lending, the funds provided by the contributors are supposed to be repaid, sometimes by interests on the money contributed or merely the principal [24], such as Kiva [25], by which individuals lend to individuals of low-income countries, small amount of money to support their small business.

The Equity model or Equity crowdfunding is designed to offer investors a share of the profits or return on investment (funding) they are making. This model is legally equivalent to the sale of a security [26], triggering regulation and rules from agencies and government’s commissions around the world in order to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital [27], As laid down by the Security Act of 1933, a sale of security enfolds not only the sale of stocks, but also issues of notes, bonds, debentures, and evidence of indebtedness [28].

As restated by Davis Groshoff, “Equity crowdfunding is not limited to equity” [29], pointing out that despite the differences amidst debt and equity crowdfunding, both use the umbrella lexical unit of “equity financing.”[30] For that reason, the U.S. Securities and Exchange Commission (SEC) opened up the crowdfunding ‘framework to “evolving method of using the Internet to raise capital to support a wide range of ideas and ventures.“[31]

Which kind could have a significant role in Brazil’s economy?

In my opinion, the Equity model or Equity crowdfunding could play a significant role in Brazil’s economy. First, because, as I stated in my prior article – A brief reflection on the potential of crowdfunding to leverage the Brazilian economy. Part 1 – it could be a solution to substitute to the high-interest rates on loans from Brazilian’s private banks, that range from 5,53% to 63,38% for the 12-month period [32] related to a period from 03/28/2018 a 04/04/2018 [33] .

 

Second, equity crowdfunding seems to be the best path for small entrepreneurs and start-ups to get funding from the public at large avoiding the difficulty of raising capital from banks or other traditional institutes. Third, from the standpoint of investors, getting profits or return on investment (funding) they invested can be a right way of increasing and diversifying their assets.

All the best!

#Crowdfunding #Crowdsoucing #Equity #Donation #Reward #Prepurchase #Lending

References:

[1] THE OXFORD HANDBOOK OF ENTREPRENEURIAL FINANCE, supra note 11, at 371.

[2] Id.

[3] C. Steven Bradford, Crowdfunding and the Federal Securities Laws, Colum. Bus. L. Rev. 1 , at 10, 1-150 (2012) [hereinafter: Bradford].

[4] Id.

[5] Id.

[6] THE OXFORD HANDBOOK OF ENTREPRENEURIAL FINANCE, supra note 11, at 371.

[7] THE OXFORD HANDBOOK OF ENTREPRENEURIAL FINANCE, supra note 11, at 372.

[8] Enrique Estellés-Arolas & Fernando González Ladrón-de-Guevara, Toward an Integrated Crowdsourcing Definition, 20 J Info Sci 1, 9-10 (2012).

[9] Bradford, supra note 21, at 11.

[10] THE OXFORD HANDBOOK OF ENTREPRENEURIAL FINANCE, supra note 11, at 826.

[11] Id.

[12] See, e.g., THE OXFORD HANDBOOK OF ENTREPRENEURIAL FINANCE, supra note 11, at 372.

[13] See, e.g.,THE OXFORD HANDBOOK OF ENTREPRENEURIAL FINANCE, supra note 11, at 372.

[14] THE OXFORD HANDBOOK OF ENTREPRENEURIAL FINANCE, supra note 11, at 373-374.

[15] THE OXFORD HANDBOOK OF ENTREPRENEURIAL FINANCE, supra note 11, at 374-375.

[16] Bradford, supra note 21, at 15.

[17] Id.

[18] Id. at 16-17.

[19] Id. at 16.

[20] Id.

[21] Id.

[22] http:// www.kickstarter.com

[23] http:// www.indiegogo.com

[24]Id.

[25] http://www.kiva.org.

[26] Securities Act of 1933,15 U.S.C. § 77b(a)(1) (2010).

[27] https://www.sec.gov/about.shtml

[28] Securities Act of 1933,15 U.S.C. § 77b(a)(1) (2010).

[29] See, e.g., David Groshoff, Equity Crowdfunding as Economic Development, 38 Campbell28. Rev. 317, at 364 (2016)

[30]Id. at 334-335.

[31] Crowdfunding, 17 CFR Parts 200, 227, 232, et al.

[32] http://www.bcb.gov.br/pt-br#!/r/txjuros/?path=conteudo%2Ftxcred%2FReports%2FTaxasCredito-Consolidadas-porTaxasAnuais.rdl&nome=Pessoa%20jur%C3%ADdica%20-%20Capital%20de%20giro%20com%20prazo%20até%20365%20dias&parametros=’tipopessoa:2;modalidade:210;encargo:101′ (last visited Apr. 18,2018)

[33] Id.