Bitcoin, Ethereum, and ICOs

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A friend of mine asked me: what’s an ICO (Initial Coin Offering)? And how does it compare to the more well known term IPO (Initial Public Offering)? And what it has to do with cryptocurrencies, and Bitcoin, and Ethereum?

Snapchat’s IPO (Initial Public Offering) (image source)

I figured I’d write a blog post about it, since I expect more and more people to have the same question and doubts.
BUT — unlike most of what you can find on the “internetz” — I will try to keep it as simple and as comprehensible as possible.
In this post, I will quickly cover:

1. What’s Bitcoin?
2. What’s Ethereum?
3. What’s an ICO?

1. What’s Bitcoin?

I hope we all know by now what Bitcoin is… But I’m wrong! Most people actually don’t. Let me give you a refresher:

Bitcoin (with a capital “B”) is a network of computers that maintain a “public ledger”, called the Blockchain, which records transactions of bitcoin “money” (with a lowercase “b”) (ticker symbol: BTC) between wallets. Compared to traditional public ledgers, a blockchain is “trustless”, in the sense that, as long as at least 51% of the nodes running Bitcoin are honest, there’s no need for a central authority to govern it.
Who owns and runs these computer “nodes”? The so-called Bitcoin miners. Why do they spend money to buy and operate these computers? Because running these nodes earns them some bitcoins.
The network offers a functionality, and the operators of the network get rewarded (in bitcoin money) for running these nodes.

Bitcoin, launched in 2009, “inaugurated” the category “cryptocurrencies”, meaning currencies that are using some form of cryptography (among other mathematical constructs, such as Merkel trees and hash functions and mathematical proof) to enable the existence of a trustless and distributed public ledger.
The main innovation introduced by Bitcoin was the trustless mechanism; most other characteristics were already available (e.g. e-gold).

Bitcoin offers a few more things (e.g. Proof of Existence, bitcore, Streamium), but they go beyond the scope of this article here.

At the moment of writing, a BTC equates to about 2,500 US$, for a market cap of about 40 billion US$.

2. What’s Ethereum?

A young, talented programmer named Vitalik Buterin observed that Bitcoin’s smart contract functionalities were not enough, and decided to create Ethereum to fill the gap with a more complex, Turing-Complete platform.
Ethereum, which uses Ether (ETH) as a currency, is based on a completely separated Blockchain, and adds the following to what already existed with Bitcoin:

• Smart Contracts: You can write a “smart contract” (in the form of a programming language) and make it run inside an Ethereum Virtual Machine (EVM). You don’t have to worry about the EVM itself: you can let the Ethereum Blockchain take care of running your smart contract for you, by paying with what’s called “gas”. In fact, you can think of the Ethereum Blockchain as a distributed computer where smart contracts are executed.
  The Ethereum blockchain provides a decentralized (and difficult to censor or fraud) way to verify and enforce these contracts. Potentially, they can be more secure and cheaper than traditional contracts.
  An example of a useful smart contract? Alice sells a house to Bob; a smart contract secures Bob’s payment and will release it to Alice only after the confirmation is made by an outside party (an oracle), thus eliminating any need for a third party to oversee the “escrow”.
• Decentralized Applications (DApps): a user interface (UI) acting as the frontend (which could be hosted on decentralized storage such as Swarm or IPFS), and a decentralized backend, typically running on the Ethereum blockchain. In a way, a DApp is a frontend + smart contracts.
• Gas: to decouple ETH’s market value from the measure of computational use, Gas has been created, avoiding the need to change gas prices based on the fluctuation of the market value of one ETH. One Gas is currently about 1/100,000 of an ETH. The “gas” concept has been created in response to the discussion about fees structure in bitcoin.
• ERC20: A user can create its own token, based on the ERC20 ‘Token Standard’, a templated “contract” that describes the issuance, control and distribution of a new token asset. This is useful to understand why most ICOs are based on the Ethereum blockchain.
• A token standard allows for the ease of interoperability between DApps (decentralized applications built on the Ethereum public chain) and the tokens built by the programmers.

(if you like good drama stories, you might want to read about what happened with the DAO — Distributed Autonomous Organization)

Bitcoin and Ethereum are considered to be the two most prominent cryptocurrencies out there (there are thousands of others).
Ethereum was launched in 2013 and, being the “younger” cousing of Bitcoin, is considered to have both a bigger potential, but to also be more immature and less stable.
Ethereum was funded with a token pre-sale, in which people were able to pre-buy some ETH by paying with BTC. It was, in some sense, a rudimentary form of ICO (Initial Coin Offering). Back then, the Ethereum team raised more than 31,000 BTC, valued at the time at about 18 million US$.

At the moment of writing, an ETH equates to roughly 300 US$, for a market cap of about 28 billion US$.

3. What’s an ICO?

So, what’s an Initial Coin Offering?

An ICO is a fundraising tool that allows an organization (let’s call it XYZ Inc.) to get paid by investors with (usually) BTC or ETH, in exchange for an (usually) ERC20-compatible token. (the mechanism to based the token on the Bitcoin blockchain is somewhat similar, but it’s less frequently used).
This means that XYZ Inc. uses the ERC20 specification to create a new token, based on the Ethereum Blockchain, and then issues these new tokens to investors via smart contracts.
For XYZ Inc. there are a few advantages in doing this, namely that you take advantage of the security and the critical mass of the Ethereum protocol and network, without the technical complexity.

ICOs are a very hot topic today: recent ICOs have raised the equivalent of tens of millions of dollars, sometimes in a few dozen seconds!

I consider ICOs to be “the wild west” in terms of regulation, structure, and maturity. Some prominent people are proposing fairer methodologies for holding an ICO.

Final thoughts

I hope that this short blog post clarifies most of the questions you could have when trying to understand Bitcoin, Ethereum, or ICOs.

There’s a lot more to cover, and if you are still interested, hit Google and search for additional information.

If you are interested in the subject, I am working on a startup that “builds cities around the world”, and we will probably be the first ones to create a cryptocurrency and ICO linked to a physical asset. Follow me to stay updated on the progress, and let me know if you have questions or suggestions.

(If you like my writings, you might subscribe to “Fabrica”)