ICOs boomed in the year of 2017. However, ICOs are not the only way for developers to fund themselves. In this article, I will discuss two funding methods (ICO and treasury system) and compare the advantages and disadvantages of each funding method.
In an ICO funding, the development team sells coins/tokens directly to the public. The public can pay in other crypto assets (Bitcoin or Ethereum for being relatively stable crypto assets) or even in fiat currency.
One argument that ICO sponsors often make is that a coin/token is not a security. In the U.S., the Howey test is used to identify a security. One of the most obvious characteristics of a security is the expectation of receiving investment profits.
That’s why most ICOs claim to sell “utility tokens.” A utility token can be compared to a Chuck E. Cheese token because the token is used for buying a service (pizza or arcade games) or accessing an exclusive content. However we all know the real reasons that we are buying various tokens now is for speculation. (In the extreme volatility of Bitcoin/Ethereum price, the developers can remove the volatility by cashing out as soon as they received the fund in crypto.)
However, the ICO model also poses flaws for both the developers and investors. For the developers, the ICO process is usually a one-shot deal. Unlike a company’s stock which might have follow-on offerings, crypto assets cannot have follow-on offerings due to the technical restriction of the blockchain technology.
If an ICO is issuing a token, or a proof of stake coin (i.e. Cardano), the total amount of coins are predefined at the launch of the project. In this situation, the total amount of coins is written in the smart contract/protocol. There won’t be additional coins being created even if an ICO is oversubscribed, thus preventing follow-on offerings.
If an ICO is issuing a proof-of-work coin (i.e. Electroneum, Ethereum), the coins being sold are pre-mined by the development team. Pre-mined means the development team is mining the coins before the mining operation is open to the public. Because there is no public computational power during the pre-mine period, the development team can mine enough coin with relatively small effort (which translates into extremely low electricity/ computational power costs). Then, the team will sell these pre-mined coins during the ICO or save some for later sale on the exchanges.
Once an ICO is finished and the mining operation is open to the public, the mining difficulties will increase. If the development team decides to join the mining operation, the team will face the same mining difficulties as the general public. Therefore, there won’t be follow-on offerings either.
The lack of follow-on funding can only exacerbate the uncertainty behind the crypto project. If the development team did not plan well on the uses of the funding, a project might run out of cash for hiring talents who can finish the product.
2. Treasury Model
Treasury model is a solution that provides successive funding for the further development of the project. Dash is a good example of this model. The mining rewards for Dash are split into three parts: 45% goes to the miners, 45% goes to the master nodes, a 10% goes to the treasury system. A member at Wolverine Crypto Trading explained master nodes in this video. The treasury system is an escrow account that stores Dash coin. Owners of Dash coin can vote on how to use the funds in the treasury system, whether it is to hire new developers or launch a marketing campaign.
However, this system is not without a flaw. The treasury system can only store Dash coin, and pay Dash coin to the aforementioned developers/marketing specialists. The price of Dash is highly volatile, thus the purchasing power of the treasury funds is highly variable and depends on the overall crypto market.
Democratic, fair, and transparent. While the concept of a Decentralized Autonomous Organization offers us plenty of good virtues, it is also extremely hard to design an incentive system that can promote sustainable growth for the organization. While we celebrate the technological breakthrough and business use cases we developed, it is critical for us to design an incentive system that can foster sustainable growth for the DAOs.