ICO Guides: Introduction
Cryptocurrencies are the latest sensation of the financial world. The first cryptocurrency, bitcoin, was launched in 2009, the market currently has over 800 digital currencies and assets with their market capitalization exceeding $100 billion dollars. Initial Coin Offerings or ICOs are one of the popular mediums through which cryptocurrencies enter the market.
This guide will help you understand the basics of ICOs, their history, advantages, risks, evaluation and trading tips along with brief insights into the surrounding regulations and future of ICOs.
Section 1: What is an ICO?
Initial Coin Offering a.k.a ICO is a fundraising tool used by startups working on new blockchain projects. An ICO is akin to an IPO, but with some notable differences. An ICO provides a chance to trade future crypto-currencies against crypto-coins having current liquid value such as bitcoin or Ethereum. Most new digital assets and currencies mainly traded against bitcoin and ether. They also trade against other digital assets and fiat (USD, EUR, GBP) as well.
Crowdsale, crowdfunding and token sale are among other popular terms for ICOs.
See also: What is an ICO Pre-Sale?
Section 2: How are ICOs created?
Unlike at the earlier initial periods when the concept of ICOs was introduced into the space, the launching an ICO itself was sufficient. But recently as the ICO concept takes shape and matures, the success of an offering in the current cryptocurrency landscape depends largely upon how the company presents its to-ken, builds community trust, and offers value to the investors.
The process starts with pre-announcement of the cryptocurrency project. This is followed by the publica-tion of a white paper or an equivalent project summary, discussing every detail about the project inclusive of its business model, development roadmap, integration of the currency within the project, the team behind it, and how it benefits the community.
Pre-announcement is done on the core community platforms such as Reddit or Bitcoin Talk. The community responds to the project, allowing the project team to implement improvements and upgrade it to generate traction among investors.
Offering comes after the pre-announcement. The project team offers a contract, describing the terms of the transaction, life cycle of the project, target investment amount, and project deadlines. It will also in-clude the financial instrument to be traded, which is usually a digital token in case of cryptocurrency projects. The offer further defines the rules governing token usage and investors’ rights. The project team announces the start and end date of their respective token sales, which can be in multiple stages.
Marketing Campaign or PR Campaign is the key to conducting a successful ICO. The past couple of years have seen a surge in the number of ICOs conducted annually, making marketing a real challenge. There are specialized marketing agencies in the cryptocurrency landscape, helping companies market their product to the target investors.
Once the marketing phase is complete, the actual sale of cryptocurrencies or tokens commences. The two popular sale channels chosen by the companies include currency exchanges or special project sites organized by the investor’s office. A majority of the companies offer an early-bird discount of up to 25%, which in case of multistage offering decreases gradually. According to the current market trend, compa-nies accept payment in the form of other cryptocurrencies, bitcoin or Ethereum, or in some cases, fiat cur-rencies are accepted as well.
Section 3: History and evolution of ICOs
The first reported ICO was conducted by Mastercoin in 2013, with the fundraising event running for almost one month.
Mastercoin raised close to 5,000 bitcoins, valued around $500,000 at the time.
Since the first ICO in 2013, there has been a flood of ICOs with a new ICO launching every other day. In 2016 alone, 54 major ICOs raised close to $103 million dollars, with ICONOMI ($10 million) and SingularDTV ($7.5 million) being the front runners. The current year, 2017, has been phenomenal for ICOs, rais-ing around $1.25 billion in 92 ICOs.
Tezos and Bancor are among the top ICOs of 2017, with the earlier raising $230 million and the latter raising $153 million.
Section 4: ICOs Vs IPOs: What is the difference?
At the face value, ICOs and IPOs may sound familiar, especially in terms of their use for raising capital by companies, but they differ significantly in terms of their mechanics and regulatory frameworks.
IPOs are organized by established private companies that have proven track records. ICOs, on the other hand, are organized by startups to raise seed money, and in a majority of the cases, these startups don’t even have a ready product. They conduct ICOs based on their product idea and utility, described through whitepapers.
IPOs have to stick to strict regulatory guidelines and obtain regulatory approvals from different authorities such as the Securities and Exchange Commission in the US. ICOs, on the contrary, are conducted on decen-tralized platforms and are not even restricted by international borders.
In terms of returns, IPOs offer dividends to their shareholders, whereas ICOs offer a promise of increased value in future. Several companies conducting ICOs allow tokens to be used for the purchase of their services. Some cryptocurrencies have received worldwide acceptance, and are now being used as in-app currencies.
Section 5: How to participate in an ICO?
The first requirement to participate in an ICO event is the ownership of cryptocurrencies. Start by register-ing an account on a digital currency exchange. The next step is to load fiat currency such as USD, EUR, or Yen, in your account, and purchase the desired cryptocurrency, bitcoin or Ethereum etc. After the purchase, you can store your digital currency in a web wallet or choose a hardware cryptocurrency wallet.
At the time of an ICO, start by carefully understanding the ICO agreement, which includes the details such as target price per coin, timeline, and other rules governing the transaction. Every company recommends specific wallets for the transaction, so go ahead and download the wallet. The norm is for ICO projects to provide a receiving wallet address on the ICO web page that people can send their contributions to. Investors are encouraged to send any amount they are comfortable with provided it corresponds with the price per project token. The project team then in-turn delivers corresponding token amounts to the investor’s wallet. The tokens can be stored on web, mobile, or hardware cryptocurrency wallet.
Several ICO listing platforms such as ICOWatchlist.com offer a list of upcoming ICOs, allowing investors to find out more about the project. These listing platforms do some form of vetting before listing projects so one could to a larger extent rely on their information.
The key takeaway is to understand the offerings up front and read the industry outlook of every project before investing.
Find out the risks and benefits of the project, and do due diligence before investing any amount of money.
Section 6: Advantages of investing in ICOs
One of the foremost advantages of investing in ICOs is the chance of investing in a new or upcoming technology. Every single ICO is established to revolutionize an industry in one way or the other. A careful analysis of ICOs could help investors get on board to the right startup.
Most of the ICOs price their tokens modestly, allowing even small investors to participate in the sale. Un-like a traditional IPO, small investors have a chance to invest little money, and in the event that the underlying project does well, the investor reaps tremendous returns in the future.
ICOs follow the limited supply-demand principle, allowing their cryptocoins to gain value in the future. Its initial investors could leverage the economic prominence of the principle, increasing their chances of profiting exponentially.
In the current cryptocurrency environment, you can use crypto-tokens to purchase the services offered by the underlying company. If the cryptocurrency gains popularity and market trust, chances are that you can use it for third-party purchases, just like Bitcoin.
Section 7: What are the risks of investing in ICOs
Starting with the risks involved in ICO investing, first one is the complete or absence of regulations. Unlike IPOs which are monitored by regulatory bodies, ICOs neither follow any regulatory requirements nor is it easy to regulate them. ICOs do not fall under any particular geographic location, making it a challenge to regulate them.
ICOs hardly go through professional due diligence or vetting. In the financial industry, due diligence is the first step taken before making any investments at all. It helps investors understand the investment risks, offers a comprehensive view of the company's financial condition, and analysis the business model of the company. ICOs, on the other hand, have an equivalent of an investment prospectus in the form of a website or whitepaper.
Most ICO projects do not have a proven business model and in most of the cases, not even a ready product. The industry experts agree that most of the ICOs are a longshot at best, which makes it risky to invest in them. ICOs are not restricted by geographical borders; in this case, if the issuer absconds with the money, there is very little an investor can do to retrieve their funds.
If you have plans to invest in ICOs, understand that these are high-risk investments with little or no guarantees.
Section 8: How to evaluate an ICO?
The best way to evaluate an ICO is to analyze every single aspect of the project and narrow it down to its precise execution strategy. Some critical factors to consider include:
- Business model: Identify the strong points and weak links of the business model. Does the company real-ly need an ICO with its own currency? How does the company integrate crypto token with its business model? Can you use the crypto token outside its ecosystem? Enquire from people who understand the technology and discuss these points with them.
- Project team: Find out every single detail you can about the development team and the advisory board. Look for ICOs that have teams with proven track record in the crypto-asset and blockchain industry.
- Community feedback: ICOs are announced on community forums and the marketing part kicks in after-ward. Check the community feedback for the project and how the project team responds to it. Visit the Reddit, Twitter or Facebook pages of the projects. Be aware of paid reviews or bounty posts that pay participants to spread positive information about the project.
- Current product state: ICOs that have a product near completion or halfway down the development track have higher chances. Find out the current project stage and whether the development team is on schedule or not.
- VC involvement: The involvement of a big crypto VC is a positive sign. Find out if the company has VC support or better if they have a VC on board.
- Market niche: How intense is the competition in the selected market niche? Research on any previous businesses working in the same industry, and match their fundamentals with what the company is work-ing on.
Section 9: How do you spot an ICO scam?
The current ICO frenzy has attracted unwanted elements in the cryptocurrency ecosystem. With an ICO happening every day, it’s imperative to be able to differentiate between a good opportunity and a scam.
- Lack of open team profiles: If an ICO doesn’t provide social profiles of the team members, it’s quite likely to be a scam. Try to find a team that has at least one member having a successful crypto project under his/her belt.
- Compromised or missing escrow: Absence of an escrow account is the biggest red flag to look out for. Similarly, if an escrow releases 100% funds to the project team after ICO, it’s a bad escrow, and should be considered as a red flag. Fund releasing should happen gradually such as 20% after token distribution, 40% after beta release, and similar milestones.
- No technical details in the whitepaper: If an ICO promises to disrupt an established industry without providing any technical or operational details, it qualifies as a scam. Good whitepapers have charts, calculations, specifications, and even code at times.
- Unrealistic goals: If an ICO makes bold claims without an economic plan or roadmap to support it, it’s best to avoid investing. Further, even if the team has offered a roadmap, you have to do your own research and judge the feasibility of the project.
- Missing code repository: This is another sure shot method to spotting an ICO scam. If the company is unwilling to release its code to public repositories such as Github, avoid the ICO altogether.
Section 10: How to trade ICOs
One of the popular options to trade regulated ICOs is through cryptocurrency exchanges. Before trading on these platforms, be wary of their transaction/withdrawal limits, transaction and conversion fees, history of the exchange, and its reputation. If an exchange had multiple security breaches, find out how they dealt with it and it is best to choose an alternative. Some of the popular cryptocurrency exchanges are listed below:
It is advised to stick with the regulated or popular cryptocurrencies such as Bitcoin, Litecoin, Bitcoin Cash, Ripple, Ethereum, Dogecoin, and ZCash. Considering the presence of over 800 cryptocurrencies in the market, trade in new crypto-coins only when you understand the industry's in-and-out.
Section 11: What are the regulations in the ICO world?
When it comes to regulations in the ICO world, there are no strict laws regulating ICOs. In lieu of legal regulations, ICOs are bound by public vigilance, promoting practices such as the blockchain technology to offer transparency. The industry experts have long expected the government to step in and regulate ICOs. One of the recent regulatory developments in reference to ICOs has come from the US Securities and Exchange Commission (SEC).
In its latest ruling on July 25, 2017, the SEC described some of the “coins” offered through ICOs as securities, and hence the applicability of the agency’s regulations. The SEC further released their investigation of an ICO conducted last year, the DAO, addressing the primary issues involving ICOs. Some of the key findings of the investigation were:
- "This Report reiterates these fundamental principles of the U.S. federal securities laws and describes their applicability to a new paradigm—virtual organizations or capital raising entities that use distributed ledger or blockchain technology to facilitate capital raising and/or investment and the related offer and sale of securities."
- "The automation of certain functions through this technology, “smart contracts,” or computer code, does not remove conduct from the purview of the U.S. federal securities laws"
However, the SEC further mentioned that whether the issued coins qualify as securities or not will depend on the specific "facts and circumstances" of the individual ICOs.
Section 12: Should you invest in ICOs?
Is investing in ICOs right for you? To answer this question, it is important to notice that investing styles vary from individual to individual, and it is primarily triggered by their financial requirements and understanding of the investment landscape. Coming back to ICOs, if your financial life is in shape, and you are planning to leverage this growing asset class (cryptocurrencies), this could be the right opportunity for you. Here are some tips to invest in ICOs:
- Establish financial expectations: The first and foremost important step is to establish your expectations of cryptocurrencies or digital asset investments. Set an investment goal and prepare a purchase strategy accordingly.
- Research and knowledge of ICOs: A majority of the ICOs are based on blockchain technology, which is relatively new, so it’s important to do ample research and understand what you are investing into. Secondly, a complete vetting of the ICO is a must before investing any amount at all. Some of the key factors to research include the business model of the ICO, project team, community feedback, product stage, and expert opinions.
- Legal risks: Unlike the current regulatory environment surrounding ICOs, government agencies might scrutinize ICOs in future and ICOs may not be conducted the same way as is currently done. It is advisable to choose ICOs that follow the government’s regulatory guidelines.
- Only invest what you can afford to lose: Do not fall into the current Wild West run surrounding crypto-currencies and ICOs. Invest only what you could afford to lose. Start with a small amount and move gradually forward.
Section 13: How to set up your own ICO?
Unlike the earlier days of ICOs, when launching an ICO with some basic preparation was all you needed, the ICO market has matured. There are some informal standards in place and a successful ICO must adhere to all of them. Here is a step-by-step guide to launch your ICO:
- Should you conduct an ICO for your business? The first question you’re going to be asked is why you want to launch an ICO for your business. Spend some time evaluating the benefits of launching an ICO in the first place and figure out how you plan to integrate the cryptocurrency in your business. Present a meaningful way by which your cryptocoin integrates with your business.
- Define business goals and benefits for the contributors: Have a clear vision of your business goals and how it will benefit your contributors. It is critical to explain these goals explicitly. The key here is to have realistic goals and offer value to your investor.
- Focus on an experienced team: Having an anonymous team for your cryptocurrency project is the sure shot way to fall short on your fundraising targets. Start by forming a team that has at least some crypto-currency industry experience; Investors trust familiar faces. When marketing your project, offer complete information about your team with their photos and social media profiles. In case you do not have any industry expert in your team, reach out to relevant industry professionals and get them on your advisory board.
- Prepare a roadmap: Starting with realistic goals for your ICO, prepare a roadmap for the project. You will require a whitepaper that clearly explains your business goals, what you intend to achieve with the project, and how you intend to achieve it. Discuss the technical aspects of the project in detail and it is even better if your project is under development. Investors prefer a project under development at some stage. Having a working prototype is the best play. Your entire ICO will revolve around your prototype.
- Investor security: One thing that investors deter above everything else is losing money. Provide an investor guarantee by using a multi-signature escrow wallet. Offer discounts to your early investors, decreasing them gradually as the ICO progresses. Mention a mechanism to return investor money in case of a failure.
- Get the word out: The success of an ICO depends hugely on its marketing and PR campaign. Spread the word out on all the primary ICO forums including Reddit and Bitcointalk along with a consistent promotion on social media platforms such as Twitter, Facebook etc. Be consistent with your ICO, communicating before and throughout the offering.
- Established ICO platforms: To make the complete ICO campaign easy to manage, you can choose among established ICO platforms to launch your project. Some of the popular options include Ethereum, Waves, Not, and NEM platform. These platforms have all the tools to launch a successful ICO campaign.
Section 14: What might be the future of ICOs?
There is no doubt that the ICO market has seen nothing but success yet, and there are some fundamentally strong projects in the market, but a correction is due in time. One of the key factors fueling the ICO frenzy was a lack of regulations, but that is changing gradually.
We could expect some red taping around ICOs in the coming years. A strict framework is not necessarily bad news as it will help in separating good projects from bad ones and potential scams.
For the regular investor, it is important to weigh the benefits, risks and potential legal upswings of the ICO landscape before investing.