Reveal the new function of crowdfunding: Production risk transfer mechanism

Existing literature has underscored the financing advantages intrinsic to crowdfunding, often overlooking its pivotal risk transfer function. By factoring in elements of loss aversion, our study formulates a comprehensive crowdfunding model to discern disparities between the crowdfunding and traditional financing model in mitigating the production risk. In the traditional financing model, the entrepreneur navigates a strategic trade-off between the financing cost and production risk by judiciously allocating the asset–liability portfolio between personal funds and loan capital. Conversely, the crowdfunding model entails the entrepreneur pre-selling the products, thereby positioning buyers as the bearer of risk. Our results indicate that crowdfunding does not universally emerge as the dominant strategy. When the production cost is high and product value is low, the entrepreneur is advised to leverage crowdfunding to curtail financing expenses and mitigate demand uncertainty. This, however, entails transferring the production risk to buyers, necessitating the entrepreneur to set a more modest product price. When the production cost is low or the product value is high, the traditional financing model outshines crowdfunding. Introducing crowdfunding will trigger a precipitous decline in buyers’ willingness to pay and an unwarranted erosion of marginal returns. This elucidates why products unveiled on crowdfunding platforms frequently exhibit a lack of substantial value. Additionally, we introduce the deferred payment mechanism to augment crowdfunding efficacy and unveil its role in risk sharing. We also analyze in detail how the optimal prepayment ratio is affected by capital constraints, product attributes, risks, and market size. Finally, we explore five intriguing extensions: heterogeneous buyer valuations, the market size follows uniform distribution, hybrid financing, quality endogeneity, and partial consumers in crowdfunding market, yielding valuable insights.