Hitchhiker's Guide to Software Architecture and Everything Else - by Michael Stal

Tuesday, September 05, 2023

The Dark Side of Crowdfunding

This post is not going to cover any software architecture topic. Instead I want to share some impressions and experiences with crowdfunding platforms such as Indiegogo or Kickstarter.

Let me start with a success story: Bambu Lab was completely unknown when the upcoming 3D printer company started their X1/X1C campaign via Kickstarter. They eventually gathered almost 55 million HK-$ from 5575 backers. In the following months Bambu Lab completed the X1/X1C product line and sent all the perks to the backers. This new CoreXY 3D printer turned out to be a revolutionary, award-winning and extremely successful product which soon was followed by other products like the P1P and the P1S. Needless to say that Bambu Lab has been a huge success story with a happy end  for the crowdfunding company, the campaign owner, and the backers. 

One of the benefits of crowdfunding can be summarized as: crowdfunding platforms connect innovative campaigners and enthusiastic backers. They enable start-up companies and well established companies to get funding for innovative products.

In hindsight, not all campaigns work that well. In some cases, campaigners fail to provide a product, only create an under average product, run out of money, or turn out to be scams. Year by year millions of US-$ get lost this way. It is never foreseeable whether a project will succeed, as it is the case with joint ventures. Reasons for failure might be infeasibility of the innovation, budget overspending, huge project delays caused by unfortunate conditions such as Covid-19, underestimation of costs, or sharp increases of prices for necessary components.

While project failure can never be avoided, scams can. A chinese campaign owner collected over one million US-$ in his Indiegogo campaign featuring the world‘s smallest Mini-PC, but did not create any of the promised perks. After a while there would be even no communication between campaign backers and the campaign owner. It seemed as if the owner just had disappeared from the surface. When backers asked Indiegogo for help, the crowdfunding company did not feel responsible. They just disabled any further contributions, put a „this campaign is currently under investigation“-label on the project web site, but did never provide any results of the so-called investigation nor a refund to betrayed customers.

Lesson 1: crowdfunding companies do not care (too much) about backers. They earn money by providing a platform for different parties, treat backers as venture capitalists who are supposed to bear all the risks themselves.

Indiegogo, Kickstarter basically act like betting offices for horse races with almost no transpareny about the horse owners (aka campaign owners). Every participant in such scenarios bears high risks with the betting company being the only exception. Obviously, the rules between customers and the crowdfunding platform are defined in such a way that the bank (aka betting office) will always win.

Lesson 2: if you are contributing to a crowdfunding campaign, make sure, you can live with project failure and with complete loss of your contributions.

Every backer should be aware of this reality. She/he may lose her/his whole contribution or get an overpaid or even useless perk. Sure, the majority of campaigns does eventually succeed. However, there is also a significant amount of campaigns that fail. I do not bother about project failure despite of huge efforts of campaign owners. This is a known and acceptable risk backers should keep in mind when contributing. But I bother about scam campaigns where owners just take the collected contributions and vanish.

Lesson 3: If you urgently need a specific type of product, don‘t contribute to a crowdfunding campaign, but buy it from well-established sources instead.

Lesson 4: Currently, no safety nets for backers exist. Neither is there any transparency or accountability with respect to campaign owners. A campaign resembles a game or a bet on the future without sufficient transparency regarding campaign owners. 

Lesson 5:  Do not believe in videos and documents provided by campaigners.  Consider this information as a pure marketing and advertising campaign. Never trust any promises, in particular not those that seem to be unrealistic or very, very challenging to fulfil. Phrases like „the world‘s first“, „the world’s fastest“ or „the world’s smallest“ should make backers sceptical.

What could be done to avoid such situations? Or is the crowdfunding platform inherently unable to protect backers?

In fact, there should be a kind of trust relationship between all players in the game - yes, it is a game! To achieve the right level of trust, a crowdfunding company shall offer the following services:

  • Personal identification of all campaign owners with official and legal documents such as passports, driver licenses, locations of residence. This enables companies like Indiegogo or Kickstarter to keep in touch with campaign owners and track them down. Sure, passports and the like can be faked as well, but this requires a substantial amount of criminal energy.
  • Transparency: If we analyze existing campaigns, lack of transparency is one of the biggest issues. By „lack of transparency“ I am referring to the fact that backers often know almost nothing about campaign owners. This is related to the previous aspect. While backers need to guarantee with credit card payments that they are trustworthy (which is checked by the credit card companies), they only get a tiny amount of  information about campaign owners in return. Wait a minute. I am paying my contribution to people that are mostly anonymous (i.e. hiding behind a campaign web site)? Unfortunately, the answer is yes. It does not suffice when only the crowdfunding company owns detailed information about the campaign owners.
  • Due diligence measures would require a crowdfunding company to technically check whether a campaign respectively project is feasible. For this purpose, they may hire experts in the respective domain to validate the claims campaign owners make. In addition, they should check the background of campaign owners, be it companies or individuals.  If a successful company such as Anker acts as the campaign owner, there is a much higher chance that contributors will receive the offered perks and rewards. If on the other hand the campaign originator is unknown, the risk is significantly higher. Accountability should come to one’s mind when thinking about campaigns and their originators.
  • Check and balances: step-wise transfer of contributions instead of full payment at once. This may be a bit difficult to achieve, because certainly some upfront investments are required by campaign owners. Nonetheless, I’d expect more of a bank (crowdfunding platform)/borrower (campaign owner) attitude in this context. In each step (such as prototyping, testing, final product design, manufacturing, delivery) the crowdfunding company should demand proofs by the campaign owners what they did and achieve so far with the crowdfunding investments. For example, prototyping only requires a smaller amount of money. After coming up with  a successful prototype, they may move forward to completing the product. After the product is ready, they move further to manufactoring.  In each step they obtain predefined percentages of funding. In addition, campaign owners are supposed to provide a concrete time line for all of their activities. If a step is delayed, no further money can be obtained until the step is completed. A kind of traffic light on the project web site could represent the current risk level of a campaign.
  • Shipment: for each project campaign owners need to prove that they actually shipped the perks and rewards to their backers by presenting respective documents from the delivery service. In my experience, some campaign owners marked the perks as being shipped without ever actually sending any items.
  • Insurance: Crowdfunding companies should pay a part of each contribution to an insurance company that covers all risks and pays back a high percentage of the contribution to backers. This is similar to how Paypal works. It would require campaign originators to disclose personal information which can then be rated in terms of credibility, credit history, financial background, and trustability. This puts more burden to the campaign owners and the crowdfunding company, and makes contributions more expensive, but provides a safety net for backers which are those who pay campaign owners and crowdfunding platforms, anyway. I assume, many backers would be willing to pay a slightly higher contribution if they win more security in return. Of course, crowdfunding platforms could act as insurances themselves if they are willing to do so.
  • No selling on other channels: In some campaigns the perk developers started selling their products via their web sites before some backers even received their perks. The contract between campaigners and crowdsourcing plaforms should definitely exclude this possibility. Whenever backers spend funding to product development via a crowdfunding campaign, they must be the first who receive their perks and rewards. In addition, some of the products sold were significantly cheaper than the claimed MSRP. This looks like betrayal, smells like betrayal and is a betrayal.  In such cases I‘d expect campaign owners to have to pay penalties to backers.

Some may argue that all of these measures restrict the freedom of campaign owners. They are right in this respect. However, there currently is an imbalance between contributors, campaign originators, and crowdfunding platforms which puts most risks on the backers. Thus, it seems more than fair to share these risks among all stakeholders. I honestly believe, that crowdfunding evolves to a dead end, if companies like Indiegogo continue to put all burdens to backers, don‘t care much about scams, refuse to create safety nets, or keep the high intransparency. If they realize all or at least some of the aforementioned measures, this clearly will turn out to be more of a Win/Win/Win scenario.