Crowdfunding in sustainable innovation

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1 CASI-PB June 2015 CASI: PROJECT DESCRIPTION PROJECT TITLE: Public Participation in Developing a Common Framework for Assessment and Management of Sustainable Innovation (CASI) COORDINATOR: ARC Fund, Bulgaria: Zoya Damianova. CONSORTIUM: The CASI consortium consists of 19 partners representing 12 European countries. Country correspondents extend the reach to 28 countries. FUNDING SCHEME: Coordination and support action, funded under the 7th Framework Programme of the European Community, SCIENCE-IN-SOCIETY Crowdfunding in sustainable innovation INNOVATION TAKE UP AND FINANCING LIMITS OF PRIVATE EQUITY AND VENTURE CAPITAL ALTERNATIVE TYPES OF FINANCING ARE ENDORSED BY THE EUROPEAN COMMISSION Executive summary The take up of innovative services and products has contributed to creative thinking also in terms of new sources of financing. Innovation processes are characterised by constant development, and it is beneficial if models of financing can be aligned to that. Crowdfunding, i.e. collecting finance from publics, has emerged as a new alternative also in the field of sustainable innovation. Crowdfunding is particularly interesting for Small and Medium size companies (SME s) looking for financing when their product or service is not considered quite ready for investments. The limits of private equity (PE) and venture capital (VC) become evident in this situation. During the last 30 years, the European Commission has built paths towards research excellence through different Framework Programmes that further strengthen crossborder cooperation and synergies between the research and innovation policies. These synergies have led to the convergence of the objectives of the two, with the solutions of the Europe's societal challenges delivered through the current Horizon 2020 Programme. In this respect, banks loans, hybrid and mezzanine, grants, PE and VC and crowdfunding - are not the only types of financing supporting innovation in Europe. Indeed, the European Commission supports and endorses alternative types of financing and is making an effort towards establishing the environment, conditions and the policy framework, in which the envisioned measures would succeed improving the access to finance for R&I projects and further strengthening of innovative driven SME ecosystem and the value chain. CROWDFUNDING AS A SERIOUS ALTERNATIVE This policy brief looks how crowdfunding relates to EU innovation funding activities. It introduces crowdfunding as an activity, discusses it in sustainable innovation and argues that the European Commission should enhance its approach to consider crowdfunding as an alternative source of finance for innovation. The CASI project has received funding from the European Union s Seventh Framework Programme for research, technological development and demonstration under grant agreement no

2 CASI Policy brief EUROPE CASI-PB Introduction CROWDFUNDING FOR SME S In the context of SME's finance value chain, crowdfunding may respond to their needs in the absence to bank finance, venture capital or initial public offerings (IPO). Crowdfunding could contribute to bridging the finance gap for small firms and innovative projects, provide better access to finance for small businesses and promote entrepreneurship towards growth and job creation. EMERGENCE OF NEW FINANCING Historically, private equity (PE) and venture capital (VC) financing brought a new approach to the traditional financing during the second half of the 20th century (Freedman & Nutting 2015). The United States led the field with Europe lagging behind. With the second private equity boom in the mid-1990s and the liberalization of regulation for institutional investors in Europe, the emergence of a mature European private equity market has occurred. Now Europe is to catch up in crowdfunding. ENTREPRENEURSHIP AND INNOVATIVE SMES The development of PE and VC industry put early stage and growing companies in focus by creating an increased demand on both, investors by making them more engaged not only in providing financial sources but also taking an important mentoring role in development processes and market placement, and entrepreneurs by making them more innovative and creative when developing their products and services. CONTEMPORARY ORIGINS The first notion of contemporary crowdfunding was in 2003 when Brian Camelo, a Boston musician and computer programmer, launched ArtistShare, a website where musicians could seek donations from their fans to produce digital recordings. The website eventually evolved into a fundraising platform also for film, video and photography projects. The fundraising method was based on collecting many small contributions through an online platform, with an aim to finance or capitalize a particular enterprise. Due to ArtistShare s success, more rewards-based crowdfunding platforms were launched, the most prominent of which were Indiegogo in 2008 and Kickstarter in CROWDFUNDING MODELS Typically, a crowdfunding project is initiated on an internet platform, which supports the main mechanism of crowdfunding: collecting funds from a large number of contributors, online investors, sponsors or donors to fund for-profit or non-profit initiatives or enterprises. Crowdfunding raises capital for new projects and businesses by soliciting contributions from a large number of stakeholders following three main types of crowdfunding models: (1) donations, philanthropy and sponsorship, where there is no expected financial return, (2) lending and (3) investment in exchange for equity, profit or revenue sharing.

3 CASI Policy brief EUROPE CASI-PB Introduction A wide range of activities is embraced by crowdfunding. For example, start-ups especially in the technology sector may collect funds for their breakthrough while on the other established SMEs may use crowdfunding to improve their regular activities. DIRECT INFLUENCE OF CROWDS The inputs of the individuals are drivers of the crowdfunding process with a direct influence at the value of the offerings as well as their outcome. Each individual undertakes a role of an agent of the offering, who at the same time is raising awareness and promoting the project of his preference through further dissemination of information via online communities and networks. In some cases, the crowd acts as a donor to provide help to social projects. In other cases, members of the crowd become shareholders and provide their contribution towards further development and growth of the offering. PEER TO PEER LENDING, DEBT-SECURITIES AND HYBRID MODELS The motivation for participation on behalf of an individual as well as consumer is stimulated through the following factors: innovative orientation and ways of interacting with firms and other consumers; social identification with the content, reasoning behind the project selection and participation in the initiative, the (monetary) exploitation. The company's success is determined by how successfully it can demonstrate its viability to the crowd. Due to the crowdfunding boost, the following novelty types have been identified: peer to peer lending, debt-securities and hybrid models. Apart from the opportunities of participation in crowdfunding initiatives, it also is important to consider risks and barriers for project initiators, including: Reputation at stake in case of the failure to meet campaign goals or to generate public interest; RISKS AND BARRIERS The lack of intellectual property (IP) protection provided by the sites themselves since once an idea is posted, it can be copied; A risk that if the same network of supporters is reached out to multiple times it will eventually cease to supply necessary support, which leads to the donor exhaustion; Without a proper regulatory framework, the likelihood of a scam or an abuse of funds is high, which becomes a barrier to public engagement. Due diligence may be lacking to determine the soundness of the investment, leading to making investment decisions based on emotion rather than financial logic. CHALLENGE OF THE FORCE OF THE CROWD Crowdfunding is intended to draw a crowd, which makes the observation of the project progress or managing of communication with interested parties a challenging task. Experiences show that often it is easier to raise the money for a project than to make the project a success.

4 CASI Policy brief EUROPE June 2015 A REVIEW OF CROWDFUNDING OFFERINGS IN SUSTAINABLE INNOVATION GROWING POTENTIAL AND NUMEROUS PLATFORMS Crowdfunding is a large and rapidly growing business, with a volume of 16.2b$ in 2014 which is estimated to double to 34.4b$ in 2015 (Massolution 2015). North America has lead the business in terms of investing platforms and investments (378 platforms, 1.6 b$; World Bank 2013). Europe is second with 945 m in investments and platforms across countries: United Kingdom (87 platforms), France (53), Netherlands (34), Germany (26), Spain (27) and Italy (15), Belgium (1), Estonia (1). The greatest potential may nevertheless be in the developing world, which the World Bank estimates b, accounting 1.8 times the venture capital investments. Asia is already experiencing rapid growth in crowdfunding (Massolution 2015). SUSTAINABLE INNOVATION IN CROWDFUNDING A review of the most popular crowdfunding sites show that sustainable innovation is a prevalent topic. Search with the keyword sustainable received results in GoFundMe ( and in Kickstarter ( ) as of Featured examples in sustainable innovation included at that date 12 m$ by over funders for a beehive invention (Indiegogo, US), 1.8 m$ for clinical trial of breakthrough gene therapy by over funders (GoFundMe, US), and $ by over funders for a solar sailing spacecraft (Kickstarter, US), for sport material made of wood, bamboo and natural fiber by over 500 funders (Ulule, France), for funding system of solar panels for industry by 71 funders (MyMicroInvest, Belgium), and for reinvention of standard of light switches and plug sockets (Seedrs, UK). ALTERNATIVES TO COMMISSION FUNDING SCHEMES Prevalent practices in crowdfunding and popular crowdfunding sites with programmes for sustainable innovation (cf. Crowdfunding.com 2015) provide alternatives to commission funding schemes. Next, crowdfunding is reviewed against funding solutions for SME's and individuals as provided by the European Union through COSME and Horizon FUNDING FOR SMALL AND MEDIUM-SIZED ENTERPRISES COSME PROVIDES LOAN AND LEASE FINANCE HORIZON 2020 SUPPORTS THE DEVELOPMENT OF GROUNDBREAKING IDEAS There are two important sources of funding available for Small and Medium-sized Enterprises (SME s) and individuals in the EU: the programme of the European Union for the Competitiveness of Enterprises and Small and Medium-sized Enterprises (COSME) and the SME Instrument of Horizon 2020 programme (The EU Framework Programme for Research and Innovation). COSME is aimed to help financial intermediaries to provide more loan and lease finance to SMEs and on equity facility and investments in risk-capital funds to provide venture capital and mezzanine finance to SMEs to expand and grow. COSME has a planned budget of 2.3b for (European Commission 2015a) The SME Instrument of the Horizon 2020 programme is intended to help SMEs to develop groundbreaking innovative ideas for products, services or processes for global markets. The instrument includes business innovation grants for feasibility assessment purposes, innovation development & business purposes, business coaching, support services and facilitated access to risk finance. It has a funding of about 3 b for (European Commission 2015d)

5 CASI Policy brief EUROPE June 2015 MORE FREEDOM AND VARIETY IN CROWDFUNDING Compared to the systematic programmes of the European Union, crowdfunding provides innovators more freedom in expressing their ideas. This is accompanied with a larger set of investors, i.e. the crowd, participating in the assessment of the idea and potentially showing a greater variety of preferences in the assessment than established funding programmes. Innovation or its potential need then not be addressed as categorically as in established funding programmes. Risks in investments can also be assessed differently. In addition, the speed of funding process differs between the instruments. While crowdfunding can be initiated quickly and without much administrative burden, EC funding programmes may require extensive preparations. The use of funding in time is also differently restricted, monitored and controlled with crowdfunding. INVESTMENTS IN CROWDFUNDING AS DONATIONS, PRE-PURCHASES, INVESTMENTS AND LOANS Investments in crowdfunding may take place in a greater variety of forms such as in donations, pre-purchases, investments and loans compared to the traditional funding practices of the programmes. Return on investments may take place in traditional payback forms but also as rewards or reception of the pre-purchased. Crowdfunding investments size may also be very small, reducing risks and reflecting low transaction costs of moderation on an internet platform. Nevertheless, crowdfunding may also provide new innovation funding of a greater magnitude than established funding systems such as COSME and the SME Instrument of Horizon Already for this reason, crowdfunding should not be looked as an alternative funding scheme in spite of being novel and operated by new market actors or practices. CROWDFUNDING CONNECTS INNOVATION AND PUBLIC PARTICIPATION An important principal difference of crowdfunding compared to COSME and Horizon 2020 is that it establishes an interface between innovation and public participation. It allows for citizens to become partnering innovators and business angels, thus promoting entrepreneurship. For innovators, it provides public acceptance and early business models in addition to funding received. Crowdfunding even challenges the concept of innovation by providing crowds with an opportunity to participate in its formulation. The Oslo manual (2005) defines an innovation as the implementation of a new or significantly improved product (good or service), or process, a new marketing method, or a new organisational method in business practices, workplace organisation or external relations. Crowdfunding qualifies when it focuses on business or organisational innovation, but goes beyond when the crowd is invited to formulate and assess the innovation. LACK OF FORMAL APPROACH One shortcoming of crowdfunding in comparison to top down funding mechanisms is the lack of a formal and coherent approach. While offering flexibility and more degrees of freedom, crowdfunding comes in many forms and still continues to develop as a funding mechanism. It also remains to be seen whether crowdfunding is suitable for projects that are large and long in duration.

6 CASI Policy brief EUROPE CASI-PB CROWDFUNDING IN THE PERSPECTIVE OF THE EUROPEAN COMMISSION CROWDFUNDING A TOOL TO VALIDATE PROOFS OF CONCEPT, PROVIDE ACCESS TO CROWDS AND BE IN ITSELF A MARKETING TOOL HORIZON 2020 WORK PROGRAMME ENDORSES ACTIONS TO SUPPORT ACCESS TO RISK FINANCE FOR SME S WORTHWHILE FOR THE EC TO ENHANCE ITS POSITION TOWARDS CROWDFUNDING The European Commission has recognized the potential of crowdfunding and published a guide for small businesses explaining what crowdfunding is and how to use it. The guide offers information for SME's on different types of crowdfunding and gives practical tips on how to access crowdfunding, with providing an indication of the benefits and risks of such venture. Crowdfunding is seen to validate proofs of concept, provide access to crowds and be in itself a marketing tool (European Commission 2015c). In addition to providing guidance, the Commission is continuing working on a European framework for crowdfunding, ensuring that public policy supports rather than hinders crowdfunding systems (cf. ECN 2014). Furthermore, the current Horizon 2020 Work Programme is endorsing actions to support Access to Risk Finance for SME s, aiming to help companies and other types of organisations engaged in research and innovation to gain easier access to loans, guarantees, counter-guarantees and hybrid, mezzanine and equity finance. Venture capitalists, business angels and crowdfunding investors should be a particular focus in future activities. This policy brief argues that it is worthwhile for the European Commission to enhance its position towards crowdfunding as an alternative to its own established funding schemes for SMEs. Both crowdfunding as well as EU funding for SME's support sustainable innovation although neither kinds of funding typically solely focus on sustainable innovation. Additionally, the European Commission should look over the policy framework for crowdfunding in order to remove unnecessary barriers. Crowdfunding should, therefore, be addressed at a strategic rather than a programmatic or an implementation level. CASI policy briefs shall look at crowdfunding at the national level in Europe in December The CASI project is well positioned to review the connection between the formulation and funding of sustainable innovation as well as public participation in this process. RECOMMENDATIONS FOR POLICY-MAKERS CROWDFUNDING SUPPORT TO SUSTAINABLE INNOVATION PROJECTS Given the complexity and risks of the crowdfunding, it is essential to endorse measures and actions that would strengthen the proper legal and policy framework towards creation of the crowdfunding environment in Europe by addressing solutions to identified challenges; Crowdfunding support to sustainable innovation projects is prevalent in the United States, hence similar types of actions shall be identified and applied in Europe; A number of public consultations shall be conducted with a particular engagement of SME s, including peer learning with leading counterparts from the United States in order to enable the design measure process based upon the lessons learnt;

7 CASI Policy brief EUROPE June 2015 BROAD STAKEHOLDER ENGAGEMENT AND PEER LEARNING PROCESSES TOWARDS ALL EUROPEAN REGIONS Broad stakeholder engagement and peer learning processes will contribute to the overall awareness raising of the actions that further contribute to strengthening and growth of the potential of the crowdfunding model of financing. In addition, the broader stakeholder engagement is a key factor in the implementation scheme, hence it needs to be underlined; The creation of framework of synergies with other types of financing such as traditional, PE/VC, business angels and other is highly recommended given the size of the European market and existing actors in the demand and supply value chain; Outreach of the planned actions and measures shall be targeted towards all European regions, by empowering national authorities in taking the lead when implementing similar actions. In order to secure successful outcomes, the measures that should be designed at EU level and contain clear objectives and recommendations for their implementation.

8 CASI Policy brief EUROPE June 2015 Further Reading and References: 1. Freedman, DM & MR Nutting (2015) A brief history of Crowdfunding, Including Rewards, Donation, Debt, and Equity Platforms in the USA (Updated May 31, 2015). Accessed at 2. Crowdfunding.com (2015) Top 10 Crowdfunding Sites. Accessed at 3. ECN (2014) Review of crowdfunding regulation. Interpretations of existing regulation concerning crowdfunding in Europe, North America and Israel. European Crowdfunding Network 4. European Commission (2015b) Crowdfunding. Accessed at 5. European Commission (2015c) Guide on crowdfunding. Accessed at 6. European Commission (2015d) The SME Instrument. Accessed at 7. European Commission (2015e) Horizon 2020, Work Programme , 6. Access to Risk Finance Revised, (European Commission Decision C (2015)2453 of 17 April 2015) Accessed at 8. Massolution (2015) The Crowdfunding Industry Report. Available at 9. Oslo Manual (2005) Guidelines for Collecting and Interpreting Innovation Data. Third edition. OECD and Eurostat 10. World Bank (2013) Crowdfunding s Potential for the Developing World. Washington DC: Information for Development Program (infodev)/the World Bank

9 CASI Policy brief EUROPE CASI-PB CASI Project Description CASI: PROJECT DESCRIPTION PROJECT TITLE: Public Participation in Developing a Common Framework for Assessment and Management of Sustainable Innovation (CASI) COORDINATOR: ARC Fund, Bulgaria: Zoya Damianova. CONSORTIUM: The CASI consortium consists of 19 partners representing 12 European countries. Country correspondents extend the reach to 28 countries. FUNDING SCHEME: Coordination and support action, funded under the 7th Framework Programme of the European Community, SCIENCE-IN-SOCIETY DURATION: 42 months, 1/2014-6/2017 BUDGET: 4.5 M, 428 person month REFERENCE: Tregner-Mlinaric, Anita, Petteri Repo and Kaisa Matschoss (2015), Crowdfunding in sustainable innovation. CASI Policy Briefs. CASI-PB EUROPE. WEBSITE: Contacts Name and Surname: Anita Tregner-Mlinaric Organisation: META Group a.tmlinaric@meta-group.com Address of the organisation: