What is an ICO or Initial Coin Offering?

Photo by NeONBRAND on Unsplash

In my last article, I spoke a lot about ICOs and its potential impact on startups valuation. Some readers told me:

This is well and good, but… what is an ICO? What are these coins about?

Very good question indeed to which I will do my best to respond in a simple way so that once I get these basic definitions out of the way we can delve into other relevant aspects of what the underlying blockchain technology is about.

What is an ICO?

Phonetically speaking the acronym ‘ICO’ seems closely related to its colleague ‘IPO’ which is an Initial Public Offering (a means for a company to offer its shares on the public market and receive a financing). While the latter is a multi-millenial (!) tradition, the former was born in the last few years and has clearly taken flight in 2017 as an alternative to the financing of technology startups focused on blockchain technology, raising collectively more than $3B in the process.

While an ICO does take from its big brother, the IPO, its key resemblance where an instrument (in this case called Coin) is offered to the public market to finance a company (the startup), some big differences also come into play.

What is a Coin?

This is a very good question we need to explore before going deeper into understanding the mechanics of an ICO.

A coin (or “token”) is an instrument, based on blockchain technology, designed by the startup looking for a financing that has specific properties and rights attached to it. A little bit like the Preferred Shares investors love to buy when investing in private companies (because it gives them preferred rights compared to other investors or founders.) Such rights or properties are defined by the startup when defining its ICO and they are coded by programmers in such token so that the said rights or properties are automatically applied for the benefit of the buyer of this token (techies call this “Smart Contracts”.) In other words, each ICO offers a different token: different financial logic, rights attached to it and even a different kind of use.

Furthermore, each ICO offers one or two types of tokens only: Security Tokens, or, Utility Tokens.

The Security Token is similar to shares or securities that you would find in an IPO as it offers a buy back condition or a revenue or profit sharing. Such token is regulated by the market supervisors, like the SEC for instance, and should be treated as such by the startup offering them.

The Utility Token does not offer any financial advantage related to the startup’s revenue or profit, and as such is not (yet?) regulated. It has specific rules and attributes that make it useful to the network that is being created by the startup including the same investors. To give you an example, if I was to launch a network of remote screens on which you could buy advertising, I could launch an ICO and offer a Utility Token that would give you some airtime (for instance) on these screens. You would then use purchased tokens each time you want to advertise. That is its utility, which can climb in value, as more and more demand shows up for the same airtime available.

Due diligence short list for ICOs

Now that you know what is a coin, you might wonder what is needed to be able to purchase some of them, right? 
Investing in a new ICO is no small feat; you must always check the following:

  • What are the rules attached to this token?
  • What is its type?
  • How many are issued? (In order for you to assess that there is a potential of uptake in the long term based on the availability of the token.)
  • Also you can trust a technology audit made by professionals or you can audit yourself the code of the token on Github, the de facto platform where all tokens are publicly deposited.

And then the usual due diligence questions:

  • What is the startup’s business model?
  • What is its go-to-market strategy?
  • Who is the team? Its advisors?
  • What is the capacity of the team to execute on their plan?
  • And many more questions related to understanding the model and scope of any company when investing in it.

How can I buy Coins? How is it offered?

When a startup is designing its ICO, it will create a series of documents and processes, engineering the different aspects of its campaign for a successful ICO. The stepping stone document upon which all the different dimensions of an ICO are based is called a White Paper. Such document will describe all the aspects of the offering from a financial, marketing, and business standpoint, with a specific focus on the description of the token and the underlying network being created.

The startup will also design a specific landing page where the project will be fully laid out, including the white paper, of course. This ICO is listed on several pages announcing future ICOs.

When landing on such page and after a thorough due diligence you are ready to purchase your coins using a cryptocurrency like BitCoin or Ethereum (or any other crypto that is being accepted in that ICO.)

If you do not have any cryptocurrency left in your crypto-wallet, you can always go to your favorite online exchange, open an account (if you do not already have one) and buy with a credit card or bank account some BitCoins or Ethereums. It is as simple as purchasing a foreign currency!

So, like millions of Japanese who have now integrated in their day to day lives the use of the BitCoin currency, it is now time for you to take the first step towards the amazing potential of ICOs.

Now, please be aware that not all ICOs are created equal and are bound to succeed. Most will fail. So pick yours well.

Even if it might seem a bit complex at first, it is getting easier every day as the profession is getting more and more structured. So have a look, give it a try, and… happy crypto-investing!