The Dirty Secrets of Hardware Crowdfunding

One would think crowdfunding millions of dollars to create the next great device would all but guarantee wild market success. Yet, the hardware crowdfunding road is littered with the ghosts of massively funded coolers, drones and 3D printers that never made it to market. How is it that projects with upwards of $10 million in community support fail?

While many factors most likely came into play, the one most crowdfunding startups fail to plan for is this: shipping hardware is hard. To build a physical product — whether it’s a super cooler or a smartwatch — requires more than a GitHub account and a fridge full of beer. It demands early and deep knowledge of disciplines like prototyping, tooling and supply chains. If a campaign doesn’t have that expertise, things start to go off the rails rather quickly.

The scale surprise for hardware startups

When you raise millions of dollars on Kickstarter or Indiegogo, you’ve effectively raised enough to build a prototype. It’s seed money, not production money. People think, “This team just raised a huge amount of capital, how can they not be successful? I can’t wait for them to deliver!”

Then reality sets in. The prototype looks great. Sure, there are still a few bugs to work out, but the prototype is awesome. It’s everything the team thought it would be. Backers are foaming at the mouth thinking the Amazon drone (I mean, UPS truck) will be at their door within the week.

And then, uh-oh.

People mistakenly assume, “Well, $10 million sounds plenty enough to make this gadget.” After all, $10 million is far from chump change. Lots of great products have been built on less. But that $10 million represents a minimum number of committed pre-orders the company has to build and deliver.

The crowdfunding Catch-22

First, the company needs to buy a lot of different components to make the final product. Everything from plastic and molds to electrical parts and connectors. A large crowdfunding campaign means there are a lot of orders — for a product that hasn’t been built — and the company still needs to source the parts.

Second, usually the most common incentive for people to back a crowdfunding campaign is getting in early for a steep discount on the final/MSRP price. That initial $10 million in funding is all product. There is little or no room for profit.

Third, the very reason behind the concept of crowdfunding is to create a prototype. Founders often don’t have all the details of the costs figured out, as the product everyone is backing hasn’t been built yet. It still needs an incredible amount of R&D. The range varies, but a typical IoT or wearable startup needs $2 million to $4 million in R&D and engineering development to take the product from concept to mass production.

To get the backers, the company priced the product at a very low margin, often zero or at a loss. The millions they had in the bank are long gone, spent on things like design, programmers, and components to get the prototype built. Suddenly, everyone realizes that zero to less than zero pricing doesn’t scale. In order to ship real product, they now need to know how to navigate the very difficult waters of manufacturing.

Just getting to production is a six step process:

  • Prototype 0: This is proof of concept
  • Prototype 1: This is your Minimum Viable Product. It may not look and feel like the final product, but you got the key functions working.
  • EVT (engineering validation test): This is the first take at the final look and feel of the product. It’s this point where the engineers begin validating that they can build several units and they all would function the same.
  • DVT (design validation test); This is when you build a lot of units and expect to see that they work and function the same. It’s where you want to make sure the product looks great and meets all functional requirements and cosmetic/appearance requirements. Typically at this stage, you also have done your tooling for the cosmetics of your device.
  • PVT (production validation test): At this stage the product should be completely finished. This is about setting up manufacturing and the production floor to make sure you can make millions of units that all function exactly the same, all look great and can be assembled quickly and easily every single time. This is where you do process capabilities and fine tuning, your first pass yield, and your rolling throughput yield.
  • RTM (finally! release to manufacturing) – Boom now you can build 100, 1,000 or 1,000,000 of the same product.

It’s worth mentioning that companies often need more than one attempt at each stage. It is common to hear EVT1 and EVT2 or DVT1 and DVT2.

And then the fun starts. When you’re ready to go to high volume production, you need to add in a ten week lead time for tooling and sometimes 12-14 weeks lead time for some the key components. After tooling, you need to get all of your mechanical pieces in order. Make sure to work the one-time, non-refundable $30-100k NRE charge into your budget to build the machines you’ll need to mass produce your actual product. Once your electronics are ready to come off the line, you’ll need to be on-site at your factory in Asia (which you’ve already scoped out and built a relationship with) the first time they fire up. The engineer who wrote your device’s firmware needs to be there to test right on the factory floor.

Advice from a project that’s been there

Hardware takes longer and always costs more than anyone ever plans. Understand the manufacturing process and you could be the next Apple. Ignore it and you could be the next crowdfunding carcass.

Here’s some helpful advice based on our own experience that they don’t teach you in hardware crowdfunding 101:

  • Raise $1M – $3M outside capital prior to crowdfunding.
  • Complete your DVT stage then kick off your crowdfunding, because by the end of DVT you’ll have a very accurate look at your BOM (Bill of Material) and detail costs.
  • Establish your supply chain (most likely in Asia), including getting to know your ODM or CM and their key component distributors.
  • Get on the plane and go visit them. Their factory, their engineers. Ask for a tour of their — your — assembly line. Far too often I meet entrepreneurs who think working with Asia CM means sending a detailed spec sheet, have a couple of conference calls and expecting a palette of products six months later.

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