Islamic Crowdfunding for Startup Businesses

As a startup business, your choice of obtaining funding or financing for your business may be limited. This is because new businesses don’t have the relevant track record of success to obtain the funding from investors and financiers. Investors for new businesses or startups are typically limited to venture capital firms and angel investors, and according to some statistics, only 6% of startups are successful in raising capital from these investors. There are just so many businesses’ and startups that are chasing investors’ money.

For Islamic startups, the availability of funding becomes smaller as the pool of investors who invest in Islamic businesses are less in number. The good news is that the number of Islamic financing options are more when compared to Islamic capital as Islamic finance has been established over the past few decades.

What is Crowdfunding and Why Should Startup Businesses Crowdfund?

Crowdfunding is a way to raise money for a particular project, charity or business, by getting more people to pool together funds. Crowdfunding is made possible with online platforms where a large number of people can contribute a small amount for a particular purpose.

For startup business, crowdfunding is a great way to raise capital. This is because the requirements to raise funding on crowdfunding platforms are not as stringent as those required by venture capital firms, or financial institutions. Typically, financial institutions, such as banks require, a good historical track record, before they will consider lending to businesses, and as startup businesses are typically new, they would not have the required track record. Venture capital firms’ requirements are also stringent.

Nevertheless, startups do need to convince potential crowdfunders that their business, or project is worth their money. Whether in the form of innovative products, technology or shared values and goals, the startup business need to be convincing to the crowdfunders.

Islamic Crowdfunding and Halal Crowdfunding

Compared conventional crowdfunding with Islamic crowdfunding, there is not much of a difference in terms of the process of the risk and reward offered in exchange for the funding. However, the difference lies in that in Islamic crowdfunding, the business activities have been filtered to ensure that only Halal or permissible forms of businesses are allowed. So, for instance, businesses that are involved in alcohol would not be allowed to raise funds in an Islamic crowdfunding platform.

Islamic crowdfunding and halal crowdfunding are used interchangeably. What is defined as Islamic is also Halal, as Islamic products meaning complying to Islamic principles,, and Halal means permissible according to the Islamic rulings (in accordance with Shari’a principles).

There are three types of crowdfunding: equity crowdfunding, rewards-based crowdfunding and donations based crowdfunding. To understand better what is involved in crowdfunding a small business and the pros and cons of the different types of crowdfunding, refer to this Halalop article on Crowdfunding for small businesses.

Reward-Based and Donation-Based Islamic Crowdfunding

LaunchGood is a well established Islamic crowdfunding that is mainly donation-based as well as some reward-based crowdfunding platform. Their platform allows for almost all countries around the world to be recipients of the crowdfunding platform.

Businesses have used the reward-based crowdfunding on LaunchGood to fund its projects, including Digital Durian, the creators of the Islamic cartoon series Omar and Hana.

As business owners or entrepreneurs of startups, these monies have to be recorded in the company’s financial records. Typically, reward-based and donation-based monies are recorded as income, unearned income, in the company’s income statement.

Islamic Equity Crowdfunding

Companies can raise funds via equity crowdfunding by getting funds in exchange for a percentage of equity stake in the company. The funders can then enjoy a return on their investment, via a dividend, or share of profit from the company. Islamic equity crowdfunding is that the companies are Shariah-compliant, meaning that they do not engage in non-permissible activities, such as dealings in alcohol, pork, gambling and so on.

Companies that are available on the equity crowdfunding platforms have been vetted for their business validity and for their halal business activities.

Equity crowdfunding is regulated in the markets they operate in, and typically are only open to participants (businesses registered) in certain countries.

1 – Ethis.co – is a well established Islamic equity crowdfunding platform that operates in Malaysia and Indonesia. They have funded accelerator programs, as well as funding of many innovative and promising startups in these countries. Ethis started out as a real estate crowdfunding platform for housing projects in Indonesia, but has now expanded its portfolio of allowed businesses to include innovative startup businesses in these countries.

2 – Maydan Capital – Maydan Capital is a UK-registered equity crowdfunding platform that operates on Islamic ethics. It is the subsidiary of the Islamic fintech robo-adviser Wahed Invest. It operates in the UK, US and UAE.

The startup company’s financial records would record the monies received as issue of equity shares..

Equity Crowdfunding vs an IPO

Equity crowdfunding is almost a similar concept to a stock market Initial public offering (IPO) but with major differences. While both are based on companies giving ownership of a percentage of equity stake in the company in exchange for the money received by the company, they are primary different in terms of amount of money exchanged, and regulations involved. Most importantly, the ownership in the shares are not based on a listed company, meaning that the new equity owners cannot easily trade their equity stock, compared to an investor of an IPO who can easily sell their equity in the stock market.

Crowdfunding vs P2P Lending

Some articles and even some platforms have defined peer-to-peer (P2P) lending as a type of crowdfunding, a type of debt crowdfunding. While P2P lending have the same concept of connecting more people and pooling the funds to fund a business or project, the treatment for the funding is that of a loan. That means the business owner is liable to repay the amount given plus interest. In the case of Shariah-compliant P2P loans, it is then that the business owner is liable to repay the amount given plus a certain amount of profit.

The funds received thus should be recorded as a debt liability in the company’s financial accounts.

Shariah Compliant P2P Lending

Just as equity crowdfunding is regulated in the markets they operate in, so are P2P lending platforms. In Malaysia, Shariah-compliant P2P lending platform is MicroLeap and in the UK, the Sharia-compliant P2P lending platform is Qardus.

Summary

Islamic crowdfunding provides a new avenue for Islamic startup companies to obtain the necessary funding to grow their business. Business owners and entrepreneurs need to be aware of the different types of crowdfunding available, and how they would impact the companies’ financials.

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