What is an ICO? (A Beginner’s Guide)
You’ve probably heard of ICOs by now – it’s a red-hot market, with hundreds of startups selling unique virtual currencies. 2017 has been crypto’s breakout year, and there’s a lot of noise in the press about ICOs.
This article attempts to answer some of the more fundamental questions about ICOs – what are they, why are they so valuable, can they be trusted, and what does the future hold?
- – What is an ICO?
- – How popular are ICOs?
- – Aren’t ICOs just a new internet scam?
- – What makes investment in an ICO worthwhile?
- – What is “ERC20”?
- – Notable ICOs
- – Are ICOs legal? Are there any regulations around ICOs?
- – What’s in store for ICOs?
- – Conclusions
What is an ICO?
In simple terms, an Initial Coin Offering (ICO) is a fundraising mechanism for blockchain startups – very similar in structure and objective to an Initial Public Offering (IPO).
During an ICO, the startup will offer a set amount of their project’s unique token for sale, usually accepting payment in both fiat and more cryptocurrencies. Early investors typically get first-mover benefits, like discounted tokens or other bonuses.
Investors anticipate that the project will be successful, and that the value of the tokens will increase over time – much like stock in a listed company.
How popular are ICOs?
As of 15 November 2017, according to TokenData.io: There have been 341 successful ICOs since August 2014, raising a combined total of $3.74 billion – with $3.64 billion of that being in 2017 alone.
The single largest successful ICO to date was conducted by Tezos, raising just over $230 million through a combination of Bitcoin and Ether.
New ICOs are coming up every day, and the space shows no signs of stopping anytime soon.
Aren’t ICOs just a new internet scam?
Any market that can attract $4 billion in new investment essentially overnight is bound to attract a few shadier elements, and ICOs are no different.
Every investment involves some element of risk, though, and in this regard, ICOs are ultimately no different to Kickstarter campaigns. With just a bit of homework, it’s easy to verify that the team behind an ICO is capable of delivering on their promise.
The upsides are potentially enormous though, and this is what’s attracting the frenzied investment right now. Every Silicon Valley VC hopes to back the next billion-dollar unicorn, and Bitcoin’s the unicorn of the cryptocurrency space.
There’s no telling where any one of these ICO-backed projects could go, and it’s likely that we’re only seeing the start of this trend now.
What makes investment in an ICO worthwhile?
In two words: digital scarcity.
In the real world, materials like platinum and gold are used as stores of value, since they’re very difficult to produce, and impossible to forge. Their scarcity makes them valuable.
In the digital world, though, information is cheap. Data can be copied infinitely at essentially no cost, making it worthless as a store of value, or a medium of trade.
This is where blockchain technology comes in. Using a distributed ledger, cryptographic verification and extensive proof-of-work, a single blockchain can be used to create a virtual token that’s every bit as scarce as gold or platinum.
Bitcoin is one of many cryptocurrencies out there (1330 and counting), but is functionally identical to traditional stores of value. It’s:
- – Very difficult to produce: Nodes work very hard to run the necessary cryptographic proofs.
- – Impossible to forge: A decentralized, consensus-driven network means there’s no central authority, no weak link that can be exploited to tamper with the distributed ledger.
- – Artificially scarce: The Bitcoin algorithm set a cap on the maximum number of coins that can ever be produced.
Traditionally, this is what we understand as currency. Thanks to this technology being open-source, anyone now has the ability to create a new cryptocurrency with all the characteristics of Bitcoin.
This is the really revolutionary part of all this. Formerly the exclusive domain of governments, anyone can now spin up a brand new currency which, in many ways, is a substantial improvement over present-day fiat currencies.
What is “ERC20”?
In 2015, Ethereum launched to the public with an interesting twist on blockchain technology. Instead of just maintaining a distributed ledger, Ethereum allowed users to write bits of code (called Smart Contracts), which would then be executed by the network.
This yielded all the benefits of existing blockchain technology (decentralization, scarcity, immutability), but opened up the doors for all-new capabilities. One of the most popular applications: The creation of new digital tokens on Ethereum’s existing blockchain.
Ethereum makes it very easy for developers to create new currencies on their platform. Pick a token name, follow the step-by-step guide, and you’ve just laid the building blocks of your own virtual currency.
This has made it a popular choice for ICOs, and has led to Ethereum creating a standard for a token structure: ERC20. The standard simply specifies the minimum viable set of instructions that need to be incorporated into your custom token.
By making your token ERC20-compliant, it becomes interoperable with other tokens on the blockchain. This is what makes it possible to convert Ethereum-based tokens, and trade them on decentralized exchanges.
In the real world, it can take governments and reserve banks months to work out the necessary protocols for the trading of currencies. On the blockchain, that’s literally a few lines of code.
This is an exciting new space, and there are new ICOs opening for investment every day. Here’s a quick overview of some of the larger ones, and what their startups will achieve.
Tezos is a new decentralized blockchain that aims to address some of the shortcomings of existing blockchain projects – among them, the inadvertent centralization of Bitcoin mining activity.
EOS is the spiritual successor to Ethereum. Where Ethereum provided the ability to run decentralized code (in the form of Smart Contracts), EOS aims to provide an operating system-like construct upon which applications can be built. This will include all the modern application components: accounts, auth, databases, asynchronous communication and scheduling, and can potentially be scaled to run millions of transactions per second.
Filecoin is a new distributed storage system that lets users rent out unused hard-drive space in return for earning coins, which can be traded for Bitcoin, Ethereum, or USD.
SALT offers blockchain-backed loans. Using your cryptocurrency holdings as security, SALT allows you to borrow your fiat currency of choice.
Grid+ is a smart energy startup with the aim of driving green energy. They hope to incentivize uptake of energy generation (solar panels) and storage, by creating an automatic marketplace for energy. Using GRID tokens, households can buy and sell energy at market-based prices.
DomRaider is building an open-source blockchain dedicated to the decentralization of auctions. Live auctioneers, escrow facilitators, appraisal experts, delivery services and online auction providers will all be able to join the network.
Are ICOs legal? Are there any regulations around ICOs?
At present, a few markets have banned ICOs, but it’s not a globally-enforced rule. In most countries around the world, ICOs remain unlegislated, and it’ll be some time before the legality of ICOs are tested in court.
In the meantime, however, a best-practice standard has emerged. CoinList (a marketplace for startups to list their ICOs in a SEC-compliant environment) has teamed up with Protocol Labs (an R&D lab for network protocols), AngelList and Cooley to launch the SAFT Project.
A SAFT (Simple Agreement for Future Tokens) is a commercial instrument that conveys rights to future tokens, prior to the development of the token’s functionality. It enables startups to raise funds for their projects, then issue functional tokens when the project launches, without straying into the gray area of US securities law.
What’s in store for ICOs?
This is a rapidly evolving space, and the pace of innovation is likely to keep increasing through 2018. The first ICO-backed projects are scheduled to be delivered, and that will be the true test of this new frontier.
There are encouraging signs though, and with self-regulation measures like the SAFT being introduced, questions around the gray areas between blockchain technology and US securities law are beginning to be answered.
Outside the US, the platforms offered via Bitcoin and Ethereum allow startups to raise substantial capital from a global marketplace in an almost-frictionless manner. This fact alone is possibly the most exciting – traditional VC fundraising across borders is a byzantine nightmare of regulations and by-laws.
Done well, this could change the way we think about investing. Strong startups with good technical and business capability, strong visions and proven ability to execute could now have access to what amounts to a global, borderless capital market.
This is a red-hot space. New concepts, frameworks, and tools are being invented and refined on a daily basis, and it’s almost impossible to say what the next year (or even the next six weeks) will hold.
One thing that’s sure? Bitcoin is starting to go mainstream, and the massive interest in ICOs have a lot to do with that. 2018 will be the year of watersheds in the cryptocurrency space, and ICOs are poised to lead the charge.