A Framework for Airdrops
How to distribute Tokens
Airdrops have been a constant companion in crypto since Auracoin in 2014. The hype surrounding them and the expectations in teams have been increasing, especially after the CRV and the UNI airdrops.
On the other hand, there are many examples of airdrops which didn’t meet the expectations of teams and/or users. Issues range from non-existent governance contribution, low motivation due to inferior price performance, to dissatisfied users because of (in their view) restrictive airdrop conditions.
While focusing on price for moon math reasons is likely not advisable, it can be an indicator that something went wrong with the airdrop, or the context in which the airdrop took place in. For example, maybe the airdrop didn’t end up in the right hands. Or the tokenomics are unable to create demand for the token. Unfortunately, this seems to be a common issue, with 74% of projects trading below their Day 1 after 100 days. People don’t seem to want to hold their airdropped responsibility.
The tokenomics example shows: Airdrops have to be designed as part of a broader system, taking into consideration project goals, revenue models, and tokenomics, among other factors. An airdrop isn’t the almighty savior for a project. It can lead to short-term attention but will ultimately enhance the underlying strengths or weaknesses of a project by adding financial incentives, opening processes up to the community, and making it all visible via the price of a liquid token trading on the open market. An airdrop marks the start, not the end. It requires other systems to be in place to achieve its goals. For example, if the main goal is to decentralize governance, the basic governance processes, documents and tools should be in place already, and the foundational community culture should be established, as otherwise it’s unreasonable to expect participation.
Setting Goals for the Airdrop
There’s a multitude of potential goals for an airdrop, encompassing front funnel to back funnel objectives:
- Awareness
- User acquisition (airdrop as CAC)
- User retention (reward the community)
- Bootstrapping network effects
- Decentralizing governance
- Aligning communities (e.g. when expanding to a new chain)
The goals should be set in context with overall business goals. Doing so allows teams to also be aware of other actions to plan. For example, governance systems may need to be set up. Or, a team decides to use the created awareness for a community fundraiser (like Cowswap did).
Based on the determined goals, teams can then start designing the airdrop:
- Who gets the airdrop?
- Which metrics are used for calculation? What are the restrictions?
- What does the distribution curve look like?
- Are rewards vested?
- How big is the airdrop (in % of total supply)
- How is the airdrop designed over time? Is it a one-time event or distributed over multiple occasions? For example, Optimism is doing a multi-stage airdrop to incentivize recurring participation.
- How is the airdrop communicated to the outside?
Who to airdrop to & based on which metrics?
First, teams need to decide who to reward with an airdrop to achieve the goals stated in step 1, as well as the overall business goals. Afterwards, one can think about the appropriate metrics the airdrop should be based on.
Who
In general, the following groups exist:
Supply-side users
Basically all markets have two (or more) sides. Sometimes the line between them is clear (e.g. lenders on money markets are supply side), other times it is more blurred (e.g. LPs on DEXs, options writers). In the latter case, it depends on how a product’s value proposition is defined. For instance, a DEX can be framed as “an avenue providing traders with liquidity” (LPs as the supply side, e.g. Uniswap) or “self-rebalancing crypto ETFs” (LPs as the demand side, e.g. Balancer).
Two simple rules of thumb are generally applicable:
- The supply side reacts to the demand side and is therefore usually more passive (e.g. LPs on a DEX fill the orders of traders). There are different degrees of passiveness (JIT LPs < Uni v3 LPs < Uni v2 LPs) but all of them have in common that they react to traders’ requests.
- The side bringing revenue is the demand side (e.g. option buyers pay premium and a fee)
Bootstrapping networks (e.g. liquidity) is often the first bottleneck new services face. For example, the AirBnB founders went around NYC personally to make apartment owners sign up. Crypto networks provide us with a new way of incentivizing the supply side — tokens.
When a product benefits from network effects, it’s sensible to let early users take part in the network value they helped create. Normally, early adopters take on more risk but extract the same value from the network as latecomers. For example, the first buyers of a telephone made an expensive investment without much value at first (not many people to call). Over time, costs to acquire a telephone decreased and new users came in. At some point, everyone owned a telephone. People now had an efficient form of communication, everyone in a group could call each other. Everyone has the same value, while early adopters took the initial step and therefore the bigger risk. Tokens help to re-distribute the network value on a risk-adjusted basis. An issue arises when the first users only help to bootstrap the network for monetary gains and can easily leave after extracting value, thereby destroying the built-up network value.
Demand-side users
Tokens can also be used to create attention and acquire users on the demand side. Issues arise when the product has no actual product-market-fit (PMF). Airdrops or yield farming incentives distort market signals and revenue expectations (remember, we defined the demand side as the one bringing in the revenue). Mercenary capital exploits the system as long as the incentives > costs. As protocol revenue is just a part of the costs for demand-side users (e.g. protocol fee on the borrowing rate), teams only get back cents on every $ spent.
Incentivizing the demand side can still be worthwhile if there’s a user lock-in resulting in Protocol Revenue > CAC. A special case is if there are demand-side network effects at play. For example, higher trading volume on Cowswap increases its value proposition for all traders as it becomes more likely to match traders directly, leading to better pricing for all.
Overall, demand-side incentives should be used more cautionary than supply-side rewards.
- They can give teams the wrong signals
- If a product has PMF, attention from other airdrops (e.g. to the supply-side) may be enough to also acquire demand-side users
- Combining supply- and demand-side can lead to exploitative strategies like recursive lending
While airdrops have unpredictable rewards and are therefore less exploitable than yield farming rewards, the challenges stated above still apply. Especially as airdrops may be expected, so teams might need to proactively communicate and get people away from the idea that demand-side usage will be rewarded generously.
We recommend launching a liquidity mining program only after a product has found initial traction without it. Ideally, a product gains the first superusers because it solves their pain points.
Users of other protocols
Airdrops can also be used to get the attention from users of similar or complementary protocols. Such an airdrop becomes more effective with action-based vesting. For instance, a user gets 20% unlocked after the first transaction, another 20% after 100k in trading volume and so on. This motivates people to try out the product and keeps costs related to user acquisition effectiveness. Furthermore, by making users come back, they might form a new habit of using the product regularly. The last point is more relevant for products with high-frequency usage.
Just airdropping a random token to people’s addresses doesn’t work, which is why teams need to ensure that the airdrop gets talked about. One option is to make the airdrop too valuable to ignore. Vesting is a great tool here as well: The potential airdrop can be big but is tied to per-user and total KPIs. The latter can, for example, be total trading volume on the platform, meaning users are incentivized to tell others to get a bigger airdrop themselves.
Governance participants of other protocols
If the goal is to have token holders as active governance protocols, teams may choose to include governance participants of other protocols.
The good thing: These people have shown to be interested in governance. That’s already a signal.
The bad thing: This doesn’t mean they are interested in YOUR governance.
Teams can approach this by being more selective. There’s a better chance people are interested in your governance if there’s already some relation between the protocols. Teams can even post proposals on the other protocol’s forum/snapshot to check if there’s engagement. Or go even further and retroactively airdrop to everyone who voted on that proposal. Problems arise if one group from another protocol holds a significant amount of votes in your protocol as well, as conflicts of interest may come up. Consequently, teams will likely need to include a number of different protocols on their airdrop list.
Teams also need to evaluate the holder distribution of other protocols, and between protocols.
Community value-addoooors
The logic behind rewarding engaged community members is that these people already showed interest, so chances are high they will contribute to governance and help drive a project forward. This seems logical but requires the correct execution to ensure that tokens end up in the right hands. Nowadays, every imaginable gameable metric gets automated and gamed by bots. Instead of focusing on the number of Discord messages, we need to focus on value and actions which require human effort. This requires manual work from community managers, which is difficult to scale. However, that work is worth it: Community members are putting in effort to contribute, so teams should be willing to put in effort to identify and reward them. As we strive for progressive decentralization, it’s fine to scale the number of governance contributors slowly. The early community acts as the foundation for the future community, so building a strong and aligned base is key.
A positive side effect of such a non-scalable system is that it automatically leads to airdrops in chunks over a longer timeframe, making rewards more equitable across time. While early contributors are the basis, community members who join later can also add value and therefore should be onboarded as governance participants. Projects require different skill sets along their path, so they should remain flexible to onboard new members. For example, managing an organization of 10 is vastly different from trying to align 500 people divided into 10 sub-groups to work on a common goal. However, projects may want to apply a reward multiplier for early contributors, as they take more risks (higher opportunity costs), similarly to how founders and early employees hold more company equity than later employees.
Alternatively, projects could set aside a portion of the tokenomics supply for Community Development, of which a portion can be assigned to contributors. Public knowledge of a project’s willingness and available funding to compensate community contributions is a great reason for people to get involved.
One thing to keep in mind is that these groups shouldn’t be looked at separately. An airdrop will likely include several groups (broad), or a Venn diagram between groups (narrow), based on its goals. As a general rule, it’s better to have a close community that cares rather than too many users who don’t.
Metrics
Two general rules of thumb apply:
- Reward people based on added value to your specified goals. Measure this quantitatively and qualitatively. This can be providing liquidity, dApp use and generation of protocol fees/volume, participation in community calls and Discord discussions, helping in Business Development or many other ways.
- Focus on metrics that are hard to game and require human effort.
Airdrop distribution curve
Teams have to make two decisions
Metric thresholds
The minimum criteria a user has to fulfill to receive an airdrop.
The main reason is to not spread the token distribution too thin and to remove sybil attackers from the distribution. On the other hand, an airdrop that is perceived as too restrictive can lead to negative sentiment within the community. The challenge for teams is to identify if the feedback is coming from the “real” community or people that engaged in sybilling and got disappointed. Transparency and communication with the community is important here. Hop Protocol took an interesting approach, incentivizing their community to filter out sybil attackers. Another approach to prevent bad blood from the community is to keep minimum requirements low and manually remove sybillers (even though they fulfill the criteria), rather than setting the minimum requirements high for everyone.
Spread of rewards
How much do the amounts of rewards differ between recipients?
For most metrics (e.g. TVL), we believe that identifying a good target group based on the goals for the airdrop and distributing tokens relatively equally among recipients helps to build an aligned community and reasonably decentralized governance system. For metrics that require more human effort (e.g. contributing to the community), a bigger spread in rewards between contributors is warranted.
Airdrops in chunks
While each airdrop has different goals, the overarching purpose is to find aligned parties that can add value. It’s not to give dividends to users.
Community members can and will have to add value over long time frames for a project to be successful. A continuous process of rewarding contributors with airdrops is helpful for that. Airdrops become more like continuous liquidity mining, but dynamic (not set from the start), flexible (include value-add apart from LPing) and discretionary (manual process). Another analogy is an open grant system, but with a focus on a “career path” for contributors rather than one-time jobs.
While a one-time airdrop may discourage new contributors to join as they feel like they missed out and are too late, continuous incentives adequately reward newcomers, who can add just as much value as early community members. This allows to effectively scale the contributor base, and with it, the project.
Again, transparency is key. People need to know how they can contribute, and what the main individual and overall KPIs are to evaluate their value-add. We advise teams to also keep a share of tokens without pre-determined distribution to remain flexible. A purely KPI-driven token distribution may turn out to be difficult, as some tasks are better judged on qualitative factors. When decisions are made by the team or a committee, they have to be mindful of their ethics and ensure processes are in place to prevent misuse (for example, favoring some users over others).
Vesting and Vouchers
Vesting
Vesting adds a long-term horizon and spreads out sell pressure over time. Instead of a one-time event, it keeps people engaged for a longer time. However, only a small subset of people is willing to stick to a project for longer, increasing token holder centralization. But it may be worth it when the remaining participants become high-value contributors.
Vesting can either be:
- time-based, which has the risk of being arbitrary
- action-based, meaning a user unlocks tokens based on their actions over time, measured by metrics such as their trading volume
- KPI-based, meaning airdrops unlock based on overall goals, such as TVL
We recommend teams to make use of action-based vesting for the most part. The actions should lead to outcomes which add value, which can’t be controlled in time-based vesting. As a result, the airdrop efficiently controls expenses (in tokens) in relation to value received. Action-based vesting also gives people a sense of control and autonomy. In KPI-based vesting, people have to rely on others and factors that are outside of their control, which can result in frustration. Used sparsely, for example as a bonus on the airdrop, can however create a sense of belonging and motivate community members to work together.
Vouchers and Public Investment Round
Instead of giving away tokens for free, vouchers provide people with a discount on a token. The goal is to let people self-select. Only who values the token will make use of the voucher. For this to work, direct arbitrage with the market price has to be prevented, for example by introducing vesting. Vouchers can also come in the form of options and have been used by protocols such as Keep3r Network and hold resemblance to OHM bonding.
The main question is why contributors should spend money after they have already added value? Therefore, vouchers are more applicable to lower effort-levels of contribution, such as providing liquidity.
Another alternative is tying an airdrop to a fundraising round, where teamsyou may set aside a portion of the round for investment by the community. Cowswap did such an initiative, where a party’s airdrop allocation resulted in a whitelist for the community fundraise, which was done at a similar valuation and vesting terms as the private round. We think this is a great way to further distribute the token supply into a broad base of holders with high odds of remaining engaged and holding your token.
Making the token non-tradable at first can also drive self-selection, with tokens ending up in the hands of strong contributors.
Airdrop size
How big should the airdrop allocation be as % of total token supply? There’s no generally applicable answer to this question. Whatever added how much value informs the size. For continuous airdrops, teams should reserve a larger quantity of tokens for rewards.
Further considerations
Aside from the questions posed in the article, there are also tech-related decisions to make. For example, it’s better to have people claim the airdrop instead of distributing it.
- It brings people to your website and you can use the attention to educate them.
- You can burn unclaimed tokens.
Conclusion
While being thoughtful of the different mechanics of an airdrop and their effects is important, the context in which the airdrop is taking place ultimately decides the outcome and the fate of a project. An airdrop has a part in the user and contributor funnel, but for it to be effective, the rest of the funnel needs to be reasonably developed. That means, the product, tokenomics and governance systems need to be in place.
Planning your airdrop and found this helpful? Or are you working on your tokenomics? Deus Ex DAO provides advisory services and would be happy to discuss your ideas and needs. You can find us on Twitter or on our website!
