Ethereum and the ICO: Fundraising Gets Wild
TL;DR: ICOs are crazy — check their Github, Whitepaper, and team history before investing.
Alright, let’s say you’re trying to get rich. Great idea! Maybe you want to get involved with this wacky Ethereum thing. You’ve heard a lot about it, but don’t know where to begin.
Well, right now, there’s a lot of talk about the potential of Ethereum. The ways in which Ethereum could eventually change the world or disrupt dominant industries like banking and finance. Many don’t realize, however, that Ethereum’s first industry-shattering development has already arrived: the ICO.
But Monsieur Blockmason, what is an ICO?
Alright, blockhead (my new name for blockchain aficionados — blockheads) here’s a quick refresher.
ICO stands for Initial Coin Offering, and is analogous to company selling shares as part of an IPO (get it, it rhymes!).
However between ICOs and IPOs, there are a number of important differences. While small companies sometimes initiate IPOs hoping to raise capital for early development, IPOs are generally completed by larger companies with established revenue streams and a visible product. ICOs, on the other hand, are more often employed by still burgeoning companies, many of whom have yet to launch a product, based on concepts that may or may not have been tested.
In this way, IPOs bear more similarity to Venture Capital, only instead of funding coming from one or two firms, the funding is comprised of smaller donations from a large pool of individual investors.
Excuse me *cough cough* but how is this different from Kickstarter?
Scale, my lozenge-needing friend, scale! Consider this: Kickstarter is the world’s most popular online crowdfunding platform. It’s most successful project, the Pebble Smart Watch, raised over $20 million. Impressive! In second place, the Coolest Cooler, which raised over $13 million. Wow!
But now check out the big boys. Tezos, operator of the largest ICO in history, raised over $250 million. Bancor raised over $150 million in a matter of hours. EOS, whose ICO is ongoing, is on pace to break all blockchain fundraising records.
Kickstarter funds cool little gizmos to give to your dad on Father’s Day. ICOs launch mega-companies bent on revolutionizing major industries.
Another practical difference is that IPOs are highly regulated. ICOs, by contrast, live in the Wild West: no rules, few heroes, and lots of gore.
This lack of regulation has its positives and negatives. On one hand, a freer fundraising system allows new companies with legitimately awesome ideas to bypass a lot of bureaucratic red tape and immediately begin using funds to build and manage their product. Additionally, ICO crowdfunding gives the public much more say in what sorts of products and applications they become a part of the Ethereum network as it grows. Imagine if everyone could vote on what sorts of groceries showed up at the supermarket — we’d have more mango and way less honeydew.
The West, however is as known for its heroes as its mustachioed villains. When the business world starts noticing quick profits, the bad guys come calling, and it’s not always so easy to tell the difference between legitimate companies and cartoonish Mr. Burns-esque profiteers. The symptoms of our current ICO-fever include more than one scam or “pump and dump” (incidentally, a good laxative slogan), when purported entrepreneurs run away with their cash upon the completion of the ICO. Even worse, all the attention has lead to several major hacking scandals, including CoinDash, who recently lost $7 million during an ICO malfunction.
The interesting thing about the current climate in the Ethereum community is that there is a ton of new money in the network, without many places for people to spend it. With the absolutely bonkers increase in ether value this year, it’s possible for early investors to simply cash out and live like kings, but many aren’t so interested in bowing out of the network. While some are just HODLing for more profit, the coolest thing about Ethereum’s early advocates is that they truly believe in the future of the blockchain. Sure, with USD you can buy lambos and moon rockets, but with ETH you have the potential to build the NEXT BIG THING.
That’s why many people invest in ICOs — sure, they want profit, but they also want to create something exciting and potentially vital to the network’s development.
How do ICOs work?
One really cool thing Ethereum enables is the relatively easy creation of new coins, tokens, and currencies, a process standardized across the blockchain. These standards, known as ERC-20, ensure that new tokens created by the agreed upon guidelines are usable on currency exchanges and in cryptocurrency wallets with minimum implementation hassle.
Any company planning an ICO must first create their own token (the coin in Initial Coin Offering). These coins are then offered for sale at a specific time for a specific duration, during which investors can purchase tokens using ETH (if the ICO is running on the Ethereum network—other ICOs may take BTC or other currencies). A smart contract will act as escrow, holding the tokens and releasing them to individual public addresses upon receipt of payment.
Note that tokens are not simply a stake in a company, which is important for both financial and legal reasons. At their most basic level, tokens act as both a currency and a method for interacting with the particular platform. This design incentivizes early investors to use the platform, driving growth and increasing token value. Others may opt to simply keep their tokens and sell them after value rises, treating them as a currency.
This matters because ICOs and cryptocurrencies don’t currently fall under SEC regulation. Though ICOs certainly involve speculation about the growth and adoption of advertised platforms or applications, which drive up token value, ICOs offer investors no way to purchase actual equity in a company. The SEC more or less treats Bitcoin and ether similar to fiat currencies, which are outside the department’s regulation — particularly as cryptocurrencies are globalized. ETH is then used to buy another currency during the ICO–the newly generated token–which also falls outside of the SEC’s scope. Regulating these sales would be akin to the SEC regulating amusement park fun money in Disneyland.
This lack of regulation, as mentioned above, has both positives and negatives, and some people are calling for self-regulation by companies issuing an ICO. Backlash at certain extremely lucrative ICOs has led to a change in how companies conduct themselves, including fundraising caps and companies keeping a larger portion of original tokens for company founders to ensure aligned incentives. Others have experimented with adjusting token supply and dynamic pricing, with some advocating for regulated, continuous token sales instead of ICOs with limited durations. Without a doubt, ICO deployment will continue to evolve to guarantee greater accountability.
Performing Due Diligence
No matter their weakness, ICOs aren’t going away anytime soon. We at BlockMason believe ICOs present an exciting opportunity to democratize the development of the Ethereum community. However, investing in–and even discussing–new ICOs requires some due diligence. Here are a few simple recommendations to follow when checking out a new, exciting ICO.
Look at platforms like TokenMarket, which keeps an updated calendar of (somewhat) vetted ICOs, and ICO Rating (still in beta), an independent, research-backed organization dedicating to evaluating the risk, potential, and validity of upcoming ICOs.
Even cooler is the Ethereum community’s own dedication to self-regulation and network supervision. There exist many, many forums for discussing ICOs, notably Bitcointalk and r/icocrypto, the de facto home of the blockchain community. You should also check out the main ethereum subreddit, as well as ethtrader, to see what people are talking about and what is exciting them (or worrying them).
Lastly, we recommend doing some personal research on your own time. Before investing in an ICO, make sure to read the company Whitepaper, which will include a product pitch, future vision, and technical explanation. Make sure to research the company’s past and its team of developers and executives. What is their history? Do they have a record of activity on tech sites like Github and are they engaged in the Ethereum community? Do they have a paper trail longer than their Whitepaper and a few scattered product pitches? Even better, does the company already have a usable product you can explore before investing?
Of course, the future is in your hands. No matter how you spend your ETH and BTC, we at BlockMason wish many riches upon you. A lambo for all!, as we always say. To the moon!