- What is an ICO (Initial Coin Offering)?
- Understanding ICOs
- ICO Advantages and Disadvantages
1. What is an ICO (Initial Coin Offering)?
The Initial Coin Offering, or ICO, is a revolutionary fundraising method used by cryptocurrency entrepreneurs to raise funds in the cryptocurrency market. They are comparable to an IPO in the stock market or Kickstarter for crypto projects.
J.R. Willet, a software developer, launched the first ICO, MasterCoin, in 2013 and is credited with inventing the first utility token. In 2014, Ethereum, one of the most successful ICOs to date raised roughly 31,000 BTC or approximately $18.3 million at the time.
But how does an ICO work? Assume we wish to build a new park in our neighborhood.
The first step is to pre-announce the project and draft a plan (whitepaper) outlining what the project is about, what problem it is attempting to solve, how much money is required, who is behind it, and how the tokens will be sold and distributed.
The second step is to prepare a business proposal or contract (offering) for our investors, describing further in-depth the project’s implications, rights, and obligations.
The third step is to inform everyone about the project (running a PR campaign)
The fourth step is to hold the token sale, raise the minimum capital to take the project forward (soft cap), and distribute the tokens to our investors.
ICOs can be used to fund any project, our park tokens are utility tokens that can be used to provide a service (access to the park) thus creating a self-funding, self-sustaining system that can be completely independent of traditional market financing or government support.
However, during the crypto bull market in 2017, the ICO mania reached its peak, with 342 tokens raising about $5.4 billion, and speculators and scammers alike saw a unique opportunity to become rich quick.
The need for more secure crowdfunding platforms became obvious. Cryptocurrency exchanges like Binance pioneered the idea of the IEO (Initial Exchange Offering). Other centralized efforts, such as STO/tokenized IPO (Security Token Offering) introduced regulation to the space. Following the rapid growth of the DeFi ecosystem, decentralized crowdfunding like IDO (Initial DEX Offerings) and ISPO (Initial Stake Pool Offering) emerged.
ICOs democratize the world of venture capital by allowing anybody to support, advance, and participate in wealth creation.
The ICO market also poses some dangers. The ICO market is, for the most part, unregulated and does not provide investor protection unless it is regulated by the SEC, as STOs are.
We feel that initial coin offerings (ICOs) are a unique way to participate, fund initiatives we love, and establish new avenues for wealth.
Follow along for an in-depth look
2. Understanding ICOs
To comprehend ICOs, we must first understand where they came from, how they work, and what types and characteristics they have.
A Brief History of ICOs
MasterCoin (OMNI): J.R. Willet, a software developer, kicked off the ICO frenzy in 2013 with a white paper titled “The Second Bitcoin White Paper” for the token MasterCoin (later rebranded as Omni Layer) and was able to raise US$600,000.Willet not only introduced us to the first ICO but to the first utility token as well.
“If you wanted to, today, start a new protocol layer on top of Bitcoin, a lot of people don’t realize, you could do it without going to a bunch of venture capitalists and instead of saying, hey, I’ve got this idea, you can — you’re familiar with Kickstarter I assume? Most of you? You can actually say, okay, here’s my pitch, here’s my group of developers — there’s a lot of developers in this room. If you get a bunch of trustworthy guys together that people have heard of and say, okay, we’re going to do this. We’re going to make a new protocol layer. It’s going to have new features X, Y and Z on top of bitcoin, and here’s who we are and here’s our plan, and here’s our bitcoin address, and anybody who sends coins to this address owns a piece of our new protocol. Anybody could do that — ”J.R. Willet
NextCoin (NXT): On September 28, 2013, BCNext, an anonymous member of the famous Bitcointalk.org site, established a forum to launch NXT. He asked for a very small donation and collected approximately $17,000 at the time. According to coinmarketcap, NextCoin has a market cap of US$11M and is rated just outside the top 1000 altcoins today (early January 2022).
CounterParty (XCP): CounterParty is often omitted from the list of historical ICOs but is the third ICO ever. Ranked #737 today on coinmarketcap with almost US$30M in market cap. Counterparty extends Bitcoin’s functionality and enables anyone to write specific digital agreements, Smart Contracts, and execute them on the Bitcoin blockchain.
MaidSafeCoin (MAID): Massive Array of Internet Disks (MAID) raised a US$7M equivalent in funds in its token sale. The SAFE network, Secure Access For Everyone works towards a secure, autonomous, censorship-resistant, peer-to-peer encrypted data storage and file sharing. Currently ranks (2022) in the top 300 altcoins on coinmarketcap with US$173M in market cap.
Swarm (SWM): Swarm raised $800,000 in its token sale in July 2014. Swarm is a financial services altcoin that enables the creation and management of regulatory-compliant digital assets. Swarm.fund, for example, is a Security Token Offering (STO) platform that completed its token sale in 2017. Swarm, currently ranks on the top 2000 altcoins (#1652) by market cap.
Ethereum (ETH): Ethereum was launched in 2014 via an ICO or token sale that raised roughly 31,000 BTC, or approximately $18.3 million at the time. Ethereum is one of the most successful initial coin offerings (ICOs) to date. On August 31, 2014, the ICO token price for Ethereum was 0.31USD. Today, the price of Ethereum is around $3000, and it is one of the top three cryptocurrencies by market cap, with a market valuation of US$372 billion. If you had purchased $100 of ETH at the time, you would have had the equivalent of US$968,000. Not bad for a return on investment (ROI) of 2900%!
Augur (REP): In 2015, seven companies raised a total of $9 million, with Augur, a prediction markets platform, raising the most money at slightly over $5 million. Augur is currently ranked #308 on coinmarketcap, with a market cap of US$174M.
Waves (WAVES): In 2016, 43 ICOs raised $256 million. One of the most successful was Waves, an “infrastructure/platform” altcoin set out to improve on the first blockchain platforms by increasing speed, utility, and user experience. Waves raised US$16M.
The DAO: The most terrible token sale occurred in 2016. The DAO project was a venture capital decentralized autonomous organization that offered a new business model without the need for a traditional management structure or board of directors. The DAO project raised $150 million, but a hacker stole one-third of the assets. This incident resulted in a hard fork in the Ethereum network, giving birth to the Ethereum Classic (ETC). The DAO is no longer in operation.
How an Initial Coin Offering (ICO) Works?
Traditionally, money is raised through venture capital firms and angel investors. However, if the start-up is either too early or too late in its development phase, it may not be eligible for traditional methods of fundraising such as initial public offerings (IPOs) or securing a bank loan.
Cryptocurrency companies now have more alternatives available to them. ICOs are unique ways of raising funds for a project. During an ICO, a company creates blockchain-based tokens to offer to early supporters at a discount. Anyone can participate in the crowdfunding project, receive tokens to use (either immediately or in the future), and fund the development of a cryptocurrency initiative.
Unless the project is a new coin with its own blockchain, the most frequent practice is to issue tokens on a smart-contract chain. In comparison to other prominent platforms such as Waves, Stellar, or Neo, Ethereum is by far the most used platform, according to ICO bench.
Following are the steps explaining how exactly the ICO process works:
Let’s say we wish to create a new park in our area.
Step 1: Pre-Announcement
- A cryptocurrency team or developer announces the project on sites such as Bitcoin Talk, Reddit, and others. To present their concept, they prepare a whitepaper outlining what the project is about, what problem it is attempting to solve, how much money is required, who is behind it, and how the tokens will be sold and distributed.
- In our example: We come together to form a plan for the park. We draft a plan to create a park in our neighborhood, the money needed (e.g., $100,000), the team behind it, and how our park tokens will be sold and distributed.
Step 2: Offering
- An offering is a business proposal or “contract” that includes the people who will be involved in the process. On that contract, a company describes in further depth the project’s implications, necessary amount of investments, hard (maximum amount) and soft cap (minimum investment required for the project), deadlines, wallet address, rights & obligations, value of one token, token sale date,specific time duration after which the investor will receive the tokens, etc.
- In our example: We specify a hard cap of $200,000, at which point we will discontinue fundraising, and a soft cap of $100,000, which is the bare minimum required to move the project forward; otherwise, the funds will be returned. We set a two-week deadline (first round) to get the funds in our wallet. We further emphasize that we will release 6% of the tokens during the token sale (TGE), with the remainder deposited over a 12-month period (linear vesting period).
Last but not least, we calculate the total supply of tokens to be $200,000 at $1 per token. If you invest $100 (USDT), you will receive 100 park tokens.
Note: There are no specific rules for the value of a single token; this is simply an example for the sake of clarity. There are other approaches to structuring an ICO beyond the scope of this article
Step 3: Running PR-Campaign
- The PR campaign is straightforward. Company make every effort to contact as many people as possible through presentations, podcasts, forums, and social media accounts such as Telegram (particularly), Twitter, and Instagram.
- In our example: We hold multiple face-to-face meetings, set up Telegram and Twitter accounts, engage in podcasts, and present our idea on our local radio.
Step 4: ICO Sale
- The big day has finally arrived. On this date, a token sale will take held. Companies may first secure the soft cap before launching the Tokens. Following that, the Tokens can be distributed among various investors based on the amount deposited.
- In our example: We will ensure that we reach the soft cap, and then, in accordance with the contract, we will release the tokens for public usage and exchange.
Note 1: This is an example of a pre-sale round; you can participate on the same day as the ICO sale, but your entry price will be higher.
Note 2: The token offering can be used to fund any project, that may or may not have monetary value (not used for investment). For instance, park tokens are utility tokens to access the park and its facilities (e.g., restaurant, gym, etc) or to pay those who contributed to its construction and preservation. They might appreciate in value over time (if the park is successful) but the primary function is to access, fund, and sustain the park.
Types of ICOs: ICO vs IEO vs STO vs IDO vs ISPO
The rise in scam projects and Ponzi schemes towards the end of 2017 caused a sharp decline in the popularity of ICOs. As a solution to the shortcomings of ICOs, new fundraising mechanisms such as IEO (Initial Exchange Offering), STO/tokenized IPO (Security Token Offering), IDO (Initial DEX Offering), and ISPO (Initial Stake Pool Offering) emerged.
However, before diving into them we need to understand what is a traditional IPO.
An IPO (Initial Public Offering) is the process through which a private company becomes public by selling its stock on a stock exchange. Private corporations hire investment banks and other participants to push their shares to the public market, which demands extensive due diligence, marketing, and regulatory compliance. The SEC has strict requirements, and only companies with a private valuation of $1 billion, also known as unicorns, can raise and scale their business.
Here’s a breakdown of ICOs, what they are, and how they differ:
3. ICO Advantages and Disadvantages
Since 2017, ICOs have vastly improved, and more secure methods of financing have arisen. However, the ICO market is still, for the most part, unregulated, regulatory agencies in various countries classify cryptocurrencies and crypto-assets differently. It is recommended that you analyze the legal aspects of launching an ICO, as well as the benefits and drawbacks (risks) of participating in an ICO as an investor.
|Anyone can launch or participate in an ICO. Democratizing the world of venture capitalism and providing the opportunity to support or advance companies that you like.||ICOs (for the most part) are not regulated and do not provide investor protection unless they are regulated by the SEC, like STOs.|
|High liquidity. Early contributors can have access to and will have more liquidity in early-stage enterprises. Being early enhances the possibility of rapid capital growth.||Pump and Dump Schemes: This is a pretty common problem for projects that issue IDOs. In IDOs, token trading is available right away, a group of people can buy a large number of tokens, inflating the price, and then selling off those tokens for huge profits, resulting in a sharp price decline.|
|Rapid execution thanks to DLT technology and less to no bureaucracy.||No stable price (high volatility): Early-stage tokens are the most volatile assets; investors should expect quick price appreciation as well as dramatic falls, which could result in a total loss of investment.|
|Accessible online. All transactions are done online. Everything can be easily investigated and traced online, run background checks, and pull vital information for the project.||Potential for fraud: Despite the fact that the ecosystem has vastly improved, not every investor is well informed enough to distinguish one good ICO from a bad and fraudulent one.|
|A high-risk, high-reward asset that is (to some extent) disconnected from the stock market and the economy, providing investors with more ways to diversify.||May lack accountability: Because anybody can raise funds through an ICO, there is no assurance that the companies can deliver on their promises, which means that investors may not always get what they expect.|
How to participate in an ICO?
The steps may differ based on the project, however, the general steps are as follows:
- Sign up for a Cryptocurrency Exchange. To participate in an ICO, you must have cryptocurrency, often Ether, Bitcoin, or a stable coin such as Tether.
- Exchange your fiat currency for Bitcoin, Ether or Tether.
- Transfer your Coins from the Exchange to a Crypto Wallet that you own.
- Set up your Cryptocurrency Wallet.
- Buy ICO Tokens. Don’t forget to set up a gas limit (in case of ETH) and have the infrastructure/platform token (entry fee) to make the transaction.
- Keep your Tokens secure
Note: We recommend following ICODROPS to see active, upcoming as well as ended ICOs.