We have all seen sensationalized headlines about Initial Coin Offerings, or ICOs, but what exactly are they? Are they a cue to an economic bubble, or is there truly something worth contemplating under the surface? Do they really have the potential to disrupt venture capital as a means of capital funding development?
This article focuses on the fundamentals, types, characteristics, functionality, usage, regulations, risks, opportunities, and examples of ICOs, to understand this event that has taken the crypto industry by storm.
What Is An ICO?
Initial Coin Offerings are one of the various by products of the cryptocurrency universe. It is a way to fundraise capital for a particular project by selling blockchain-based digital assets.
In many ways, an ICO is the cryptocurrency equivalent to an Initial Public Offering or IPO in the stock market. While it is possible to benefit significantly from ICOs, the absence of regulation makes them exceedingly risky.
However, as a type of digital crowdfunding, ICOs enable startups to not only raise funding without losing equity but also to establish a community of incentivized users who want the project to succeed, so that the value of their presale tokens rises.
ICO vs. IPO
ICOs are often contrasted with initial public offerings (IPOs), which are new stock offerings by a private firm. Both ICOs and IPOs enable companies to fundraise capital.
The fundamental distinction between ICOs and IPOs is that IPOs include the sale of securities and are governed by considerably stronger rules. To launch an IPO, a firm must file a registration statement with the concerned government authorities to obtain approval. A prospectus including financial statements and potential risk factors should be included with the registration statement.
An ICO is a cryptocurrency sale, not securities. As a result, it lacks the formal criteria that IPOs do. However, if a business tries to avoid regulations by holding an ICO for anything that falls within the definition of security, it may face legal consequences.
ICOs and IPOs both possess risks, but IPOs are safer since they are regulated. If one is overwhelmed by the number of ICOs available, IPO stocks are a viable alternative.
When Did It All Start?
It all started in 2013 when a software engineer named J.R Willet drafted a whitepaper titled ‘The Second Bitcoin Whitepaper’ for a token, Mastercoin, which was later rebranded as Omni Layer. The token raised $600,000 from crowdfunding.
By 2014, seven projects raised $30 million combined, with Ethereum being the largest that year. In the fundraising, Ethereum generated $18 million after it sold 50 million ETH to the public.
Though 2015 didn’t see a lot of activity, still ICOs raised $9 million in total from seven sales, with the largest being Augur which collected $5 million alone.
In 2016, activities accelerated when 43 ICOs, including Lisk, Golem, Waves, and Iconomi raised a total of $256 million. This included the infamous Ethereum DAO fiasco.
2017 witnessed ICOs reaching unprecedented heights thanks to technological advancement. 342 token offerings generated about $5.4 billion, propelling the concept to the forefront of blockchain innovation. ICOs selling like hot cakes within a brief period fueled the frenzy. In the rush to ‘join the bandwagon,’ project fundamentals became increasingly less important to would-be investors.
What Are The Types Of ICO?
There are two types of ICOs— Private and Public
1. Private ICO
Only a small number of investors can participate in private initial coin offerings. Private ICOs are often limited to accredited investors (financial institutions and high-net-worth individuals) with a minimum investment amount determined by the company.
2. Public ICO
Public ICOs are a type of crowdfunding aimed at the general public. The public offering is a democratized form of investing because practically anybody can become an investor. Due to regulatory constraints, however, private ICOs are becoming a more realistic alternative than public ones.
How Does an ICO Operate?
When a cryptocurrency project wishes to generate funds through an ICO, the project organizers’ first step is to decide how the coin will be structured. ICOs can be organized in a diverse range of ways, including:
● Static Price and Static Supply:
A firm can establish a specified financing goal or limit. This implies that each token sold during the ICO has a predetermined price and the overall token supply is fixed.
● Dynamic Price and Static Supply:
An ICO can have a static token supply and a dynamic funding objective. This implies that the amount of capital raised in the ICO decides the overall price per token.
● Static Price and Dynamic Supply:
Some ICOs feature a dynamic token supply but a static price. This means that the supply is determined by the amount of funding received.
How Does a Project Qualify for an ICO?
The aim of an ICO is to leverage the blockchain’s decentralized system in fundraising efforts, which aligns with the interest of various investors. To reach that stage, a project needs to go through certain steps such as the following:,
● Identifying Potential Investors
The firm determines the target audience for its fundraising campaign and develops the company’s details or projects for possible investors. Every ICO begins with a company’s desire to raise funds.
● Token Generation
This is the next phase. Tokens are essentially blockchain representations of an asset or function. They are both fungible and tradeable. However, Tokens are not to be confused with cryptocurrencies because they are just adaptations of existing cryptos. Tokens, unlike stocks, do not often give an equity share in a company. Instead, the majority of the tokens provide their owners a share in a company-created product or service.
● Campaign Promotion
Corporations often undertake campaign promotion tools to attract new investors. It should be noted that campaigns are typically carried out online to reach the maximum number of investors. However, some prominent web platforms – like Facebook and Google – now prohibit the advertising of ICOs.
● The Offering
After production, tokens are then distributed to investors through offerings. The offering might be divided across several rounds. The firm may then utilize the ICO proceeds to develop a new product or service. In the meantime, investors can anticipate using the acquired tokens to profit from this product/service or wait for the tokens’ value to appreciate.
Why are ICOs Required?
Not every project can effectively generate funds with an ICO. To begin, it is critical to recognize that an ICO is more than just a way to raise capital. Before deciding on an ICO, one must be aware of the following:
- How – beyond infusing a fast burst of capital in the short term – does the usage of a token and the blockchain genuinely enhance a business, product, or service?
- How to generate a reasonable long-term return on investment for token holders?
As with any successful business, product, or service, the most successful ICOs have an effective use case for a blockchain.
How are ICOs Regulated?
ICOs are unregulated.
There are no regulations that explicitly apply to ICOs. However, if an ICO meets the definition of a securities offering, it falls within the governmental authority’s scrutiny and is subjected to securities regulations.
Some nations have taken a hard line and outright prohibited ICOs like China, Nepal, Bangladesh, Macedonia, Bolivia, and Ecuador.
Who can Launch an ICO?
Especially in the US, with minimum regulations of ICOs, anyone who has access to technology is free to launch a new blockchain and an ICO for the same.
However, the absence of regulation means that someone may do whatever it takes to convince you that they have a legitimate ICO and then abscond with the funds. An ICO is undoubtedly one of the easiest ways to set up a scam among all conceivable funding avenues.
How do You Know When an ICO Goes Live?
New currencies are listed on several exchanges, websites, and aggregators. Coinbase, Gemini, Kraken, CoinGecko, and CoinMarketCap are a few examples. New coins are also publicized on social media channels such as Twitter.
ICOs are both opportunities and obstacles, depending on the project one is investing in.
Some of the advantages of ICOs are
- Once they can make a lot of money if they can figure out which cryptocurrency is a solid investment. Prices are frequently lower since it is purchased early, and other ICOs provide tokens at a discount.
- Anyone can participate in an ICO. In contrast to certain IPOs, there are no limits on who can invest.
- It is a quick and effective way for start-ups to raise capital.
The disadvantages or risks of ICOs are
- There is a high risk that the token may lose value or fail outright. This is because cryptocurrency projects are volatile.
- The dearth of regulation leads to scams and substandard projects. Sorting through forthcoming ICOs for a quality project might often feel like an attempt to find a needle in a haystack.
- Investing in ICOs typically necessitates some understanding of crypto wallets. It is typically simpler for individuals new to the crypto industry to stick to cryptocurrency stocks or publicly traded coins.