The Evolution of Digital Capital
So software is eating capital now.
This article is meant to serve as a brief introduction to how the process of raising capital has evolved, including how cryptocurrency has turned an entire industry on it’s head.
Launching an ICO has become popular way to raise capital. Venture Capital, which was seen as almost the only route to raise capital before 2015 has since been turned on its head. Venture Capital in particular was tough to raise because of the amount of diligence required and the actual pool of capital available was limited. Prior to working in the cryptocurrency space I had worked closely with VC funds and startups, witnessing how much of a time suck and arduous process this was on both parties. On top of all this, the average person couldn’t get involved in projects unless they were A) An Accredited Investor or B) Family and Friends. The compliance requirements behind these laws exist to protect the vast majority of people from investing in fraudulent activities and/or getting involved in unnecessary risks (which is also called regulation, and is a very good and necessary rule to avoid fraud). Crowdfunding was the next fundraising tool to get popularized. Tens of thousands of projects were launched on sites such as Indiegogo and Kickstarter. Fraud was also rampant, and quickly regulations were put in place in those arenas as well.
Then, slowly but surely a new way to raise capital appeared. The initial coin offering. It always seemed like a child of Crowdfunding and Venture Capital. Because these companies were launching “utility tokens”, anybody could contribute to these projects without having to be an accredited investor or family/friend of the founding team. And then the fraud started. ICOs allowed companies to raise cryptocurrency for their projects, more often than not before they were even built. Hiding under the guise of a utility token, these projects aimed to raise money using distributed ledger technology known as the blockchain to create their own cryptocurrency. In layman’s terms a blockchain truly is just a ledger. The decentralization layer was added as a way to ensure transactions could not be duplicated by involving a group of third parties to verify each transaction. Blockchains themselves do not simply = cryptocurrency, they’re just a ledger of transactions. The immutability of public blockchains is managed by consensus mechanisms such as Proof of Work and Proof of Stake. This is the “Crypto” (cryptographic) aspect of the technology. The currency term gets put into place because of the inherent value of the token within the market.
Proof of Work is where the term “mining” comes from, where third parties are using high powered computers to approve each transaction. Proof of Stake on the other hand relies on a large holders of the cryptocurrency itself known as “Validators” to ensure each transaction is logged accordingly. There are other cryptographic consensus mechanisms, however these two are as of this writing the most used on public blockchains. There are pros and cons to both, but we’ll address that in another article. Back to the evolution.
Many, if not the vast majority of cryptocurrency projects, currently launch their token off of Ethereum in the form of ERC20 Tokens, which are essentially Smart Contracts. Smart Contracts are how every ERC20 token is created. To simply explain a Smart Contract, look at a vending machine as a popularized example. You deposit 1 bitcoin into the vending machine, and your preselected item falls out. When ICOs launch off the Ethereum Blockchain they are simply saying… By giving me 1 Ethereum, you will receive 500 Tokens that have utility value on Network X. There are other distribution models for tokens that ICOs like EOS have leveraged, but the above example should give you an example of what smart contracts can do.
Now as the SEC continues to voice it’s displeasure for the utility token, and the vast majority of ICOs completely ignoring the United States (let’s be honest, out of fear of repercussions) a new type of offering has emerged. The STO, or the Security Token Offering. A Security Token Offering are actual financial securities. This means you’re actually buying a tangible security when purchasing an STO. This is an asset backed by external, tradeable assets. The key difference between the two is that security tokens include ownership rights. Whereas an ICO instead is simply giving you a utility token that will be accessible on their network.
So you’re probably asking, why are Bitcoin, Litecoin, and Ethereum not being stopped by governments such as the United States? How can Coinbase operate? Aren’t they (Bitcoin, Litecoin and Ethereum) obvious securities? The answer here lies in the reality that they are being viewed as a commodity. Now we won’t get into the debate of what is a commodity versus what is a security, let’s leave that for another blog. This comes from a controversial ruling you can read all about right here. As of this writing the SEC recently announced that both Bitcoin and Ethereum are not securities. Good news for the crypto community.
So we’re heading for a crossroads ladies and gentlemen. If you’re versed in crypto this will all seem very simple and straightforward. If you’re new to crypto, this should serve as a very brief overview of how this industry has evolved rapidly over the course of a few years. What is clear is that software is eating everything, and now software is eating capital. Wealth is being created at a rapid rate and the evolution of digital capital is moving at breakneck speed. As Coin & Tokens become more mainstream, it’s natural that regulations are being put in place to protect the vast majority. Many ICOs will soon be proven to be pie in the sky ideas that raised a lot of money, and produced very little of value. Because of this reality there is a convergence slowly happening. Regulation has come to the cryptocurrency industry, which is a good thing, but cryptocurrency is here to stay.
Now the question is, how are you transitioning your business to capitalize on the evolution of digital capital?