What is ICO?
What Is ICO– ICO stands for “Initial Coin Offering”. In a nutshell, ICO is a process to raise fund for a specific project in terms of cryptocurrency, such as Ethereum or Bitcoin,Bitcoin Cash, Litecoin in return for its tokens that can be used in its specific services or applications.
And users, in their turn, can either spend digital tokens on the platform or sell them later on exchanges at x3-x100 the price. Tokens are basically like vouchers that you can exchange for goods or services on a certain platform. According to William Mougayar, author of ‘The business blockchain’, a token is “a unit of value that an organization creates to self-govern its business model, and empower its users to interact with its products while facilitating the distribution and sharing of rewards and benefits to all of its stakeholders.”
Similar to initial public offering (IPO), instead of money in terms of fiat currencies e.g. U.S. Dollars is being raised, cryptocurrency is raised to support the project for ICO. In return, a certain number of tokens that is built on its specific application blockchain technology will be allocated to the contributors instead of shares. These tokens can be traded on some private exchanges.
Alternatively, some may describe ICO as an alternative mean of crowdfunding to support blockchain-related projects by means of token sale, of which the tokens can be applied to their services and applications.
History of ICOs
Maybe the first cryptocurrency distributed by an ICO was Ripple. In early 2013 Ripple Labs started to develop the Ripple called payment system and created around 100 billion XRP token. The company sold these token to fund the development of the Ripple platform.
Several other cryptocurrencies have been funded with ICO, for example, Lisk, which sold its coins for around $5million in early 2016. Most prominent however is Ethereum. In mid-2014 the Ethereum Foundation sold ETH against 0.0005 Bitcoin each. With this, they receive nearly $20million, which has become one of the largest crowdfunding ever and serves as the capital base for the development of Ethereum.
The DAO was the first attempt at fundraising for a new token on Ethereum. It promised to create a decentralized organization that would fund other blockchain projects, but it was unique in that governance decisions would be made by the token holders themselves. While the DAO was successful in terms of raising money — over $150 million — an unknown attacker was able to drain millions from the organization because of technical vulnerabilities. The Ethereum Foundation decided the best course of action was to move forward with a hard fork, allowing them to claw back the stolen funds.
Although the first attempt to fund a token safely on the Ethereum platform failed, blockchain developers realized that using Ethereum to launch a token was still much easier than pursuing seed rounds through the usual venture capital model. Specifically, the ERC20 standard makes it easy for developers to create their own cryptographic tokens on the Ethereum blockchain.
Some argue that crowdfunding projects might be Ethereum’s “killer application” given the sheer size and frequency of ICOs. Never before have pre-product startups been able to raise this much money and in this little time. Aragon raised around $25 million in just 15 minutes, Basic Attention Token raised $35 million in only 30 seconds, and Status.im raised $270 million in a few hours. With few regulations and such ease of use, this ICO climate has come under scrutiny from many in the community as well as various regulatory bodies around the world.
How Does ICO Work?
From a creator’s perspective, a service or application is to be built based on blockchain technology with protocol, set of rules and white paper being established. Afterwards, the creators will bring forward the white paper, which will illustrate the details of the project e.g. project idea and mechanism, implementation schedule, capital required etc; and arrange token pre-sale, sale, marketing and listing through various communication means and private exchanges.
ICO will be opened for a fixed amount of token sales within a certain period, which usually varies from a few weeks to a month. Some may open for various rounds of token sales with limited amount of token to be sold during each phrase. Furthermore, some ICO may offer pre-sale for privileged or selected investors at a discount before the actual sales date. In general, the token issuers will be transparent regarding the token mechanism and token allocation, which will usually state in the white paper.
What is an ICO: What is a White paper?
Knowing what is an ICO is almost as important as understanding what is a white paper. A white paper is a document that presents the idea that the ICO is raising money for. It contains a lot more detail than the descriptions you will find on the ICO’s website.
You’ll find things like system architecture, the need for their idea (the problem it is solving etc.), the uses of the token, market data, and growth projections.
You will also often see a list of team members, investors, and advisors. Although, this is normally displayed on the website itself, too.
For an ICO to be successful, it needs a good, solid white paper. If you ever find an ICO is live but doesn’t have a white paper, I would recommend not buying any tokens from it.
Very few people will want to invest in a project that doesn’t have a white paper, or a good white paper.
A good white paper will also provide information on what the funds are going to be used for. The focus needs to be on the funds being used to grow the business and not for personal gain. This is important!
Types of ICOs?
Due to lack of regulation, developers have so far had total freedom on how to run an ICO. There have been different approaches on how these campaigns are set up. Hardly any ICO has been conducted in the same way as another and covering every possible ICO scenario is almost impossible.
However, the price of a token during ICO period often runs through different stages. In general, we can distinguish between four different pricing mechanism:
- Price increases: ICO runs in stages where the team sets a fixed exchange rate for the tokens. The rate could increase incrementally with time. This way early investors who take the biggest risk get the best price per coin ratio. Backers send Bitcoins or Ethereum to the provided addresses and get the new token.
- Price decreases: Another option would be a dutch auction as presented by the Gnosis team for the first time, where the sale starts at the highest price per token proportionally decreases until the end of the auction. Gnosis, for example, used a dutch auction mechanism to raise funds for their project.
- Price is fixed: If the exchange rate of the issued token is fixed, this gives investors the opportunity to get as many tokens as they like at that fixed price. This mechanism is appealing to large investors because they don’t have to worry about influencing the price by purchasing a big number of tokens. After a token sale ends, there is a cool-off period where tokens might be frozen (investors are not allowed to transfer their coins for a certain amount of time) or kept away from exchanges. After the end of the cool-off period, exchanges can start listing the token thus allowing other people to trade it at a market price.
- Price not determined. A developer might decide not to sell his tokens at a fixed exchange rate but rather let people invest in his startup and then distribute the new tokens proportionally by giving each person a percentage of the tokens corresponding to the portion of his investment which is part of total investments. In the EOS token sale, the total money invested got divided by a number of available tokens in order to determine the price. In this case, if a startup gets a single investor he/she will get 100% of the tokens.
As you can see from the examples stated above most token sales so far, have been time capped. However, some startups like Tau-Chain decided to leave their campaign running without a cap and an end date. So before you invest into an ICO make sure you understand how much tokens will be in circulation and what the pricing mechanism will be.
How You Can Participate In A ICO?
So you are interested in participating in a upcoming Initial Coin Offering (ICO) of a blockchain company, but you have literally no idea where to start. Here’s an easy step-by-step guide that you can follow on route to your ventures into the world of cryptocurrency.
Step 1: Obtain Bitcoin/Ether
Most ICOs are based on cryptocurrencies, usually either Ether or Bitcoin. So the first step is to obtain one of these cryptocurrencies. You can purchase Ether or Bitcoin through online exchanges such as Coinbase or Bitstamp (there is a whole range of exchanges that you can find here). Register an account with the exchange, and then transfer money (also known as fiat currency) from your bank account to your account on the exchange.
With your fiat currency, you can now purchase Ether/Bitcoin on the exchange that you are registered with. The cryptocurrencies that you have purchased will be sent to an online wallet provided by the exchange.
2. Establish your Cryptocurrency Wallet
Since most of the ICO or token sales are held on Ethereum platform, it is better to have an Ethereum-based wallet. Do note that not all blockchain wallets are suitable or compatible for ICO as some may only support Bitcoin storage but not Ethereum-based cryptocurrency.
Some popular desktop and web-based wallet are MetaMask and MyEtherwallet respectively. MetaMask looks like a browser that allows you to access the Ethereum network, which does not only allow you to store and transfer your cryptocurrencies, but also allow you to access applications that leverages on decentralized Ethereum network. MyEtherWallet is slightly different from traditional web-based wallets, which does not hold your private keys. Therefore, the wallet owner will have the control of the Ethereum’s private key. It is an open-source wallet with inbuilt blockchain and ethereum facility. The wallet can also connect with other hardware wallets e.g. Ledger Nano S or Trezor, which you can access to your funds in these hardware wallets via MyEtherwallet browser.
Step 3: Participate in the ICO!
Now that you are armed with cryptocurrencies in your personal crypto-wallet, and ready to dive into the ICO. All that is left is to send your cryptocurrency (Ether/Bitcoin) to the specified ICO address to receive the new tokens.
*Reminder: The transaction should be from your personal crypto-wallet to the ICO’s address, not through any exchanges
**Word of caution: Be sure to read the general terms of the ICO and the guidelines for token sale participation. It is advisable to also follow the respective news and social media channels concerning the ICO to be kept informed and updated.
Depending on the way the ICO handles the transactions, one of the following scenarios may happen after your transaction:
- You will receive your tokens immediately after then token sale ends
- You may need to wait for a couple of days for your tokens
- You may need to redeem your tokens manually
Step 4: Securing your tokens
Congratulations! You have received your new tokens. You should consider securing them with a cold storage wallet — for security purposes of course. The last thing you want is to lose your hard-earned tokens should your third party wallet experience problems with their servers, or even shut down.
There you have it, a simple step-by-step guide to participating in your first ICO!
5. Registered for ICO Whitelist
Some ICOs to require participants to register in their whitelist before the token sales launch date, which has become a common trend. If you do not enrol in the whitelist, you cannot participate in the token sales afterwards. Normally, only successful whitelist participants can participate in it.
In general, there may be some criteria for you to be able to participate in the whitelist and hence token sales, for instance, some may exclude participants from specific jurisdiction such as China, US etc. depending on the practice of each ICO. To apply, each participant may need to provide some personal information, which usually includes name, email, Ether wallet address etc., and some may also require passport copy for KYC purpose. Besides, you may also need to provide the target number of tokens that they wish to purchase during token sales. Generally, there is a cap for the number of tokens that each participant can purchase the participants may not be able to purchase more than the allocated amount.
6.Points to Note before Token Sales
After you have successfully registered in the ICO whitelist, you can participate in the ICO by purchasing its new tokens.
Before anyone who wish to proceed with the token sales, you should read carefully the general terms of the ICO including but not limited to the details of the whitepaper, the token mechanism and the token purchase agreement. Besides, there are usually step-by-step guidelines to advise you on how to purchase the ICO tokens as provided by the ICO initiator. To learn more about the latest news about the ICO and stay up-to-date, you can join their social media channels such as Telegram, Slack etc.
As mentioned earlier, there is a limited timeframe for ICO to be opened for token sales, which the ICO will either state clearly the specific time or block numbers. You should ensure that you are synchronising the same time-zone when a specific time is given. For specific block numbers being provided, you can apply Ethereum block explorer to check the block numbers.
7. Purchase ICO Tokens
If you decided to proceed with the token sales, you need to send Ether from your wallet to the address as stated by the ICO team once the token sale begins. In parallel, you are required to pay “gas” for the “transaction”, hence you will have to set a gas limit in your wallet.
Before we move on, what is “Gas”?
In a nutshell, when you transfer cryptocurrencies, engage in a Ethereum-based smart contractor do anything on the ethereum network, you need to pay transaction fees. The payment will be calculated in terms of “Gas” which is to be paid in terms of Ether. Since blockchain is a decentralized technology, it requires miners to validate and execute each transaction that you made through the Ethereum network. Therefore, you need to pay the transaction fee or computation cost to these miners so that they could validate and execute your transactions successfully.
After your transaction to transfer Ether is successfully validated, you may come across the several common scenarios regarding your receipt of tokens depending the mechanism of each ICO. For example:
- You may receive your tokens a few days after your transactions
- You may receive your tokens after the end of the token sales
- You may need to claim your tokens manually after the token sales
Extra Points to Note:
- After you obtain the new ICO tokens, it may be better for you to transfer to a more secure wallet such as hardware or paper wallet
- Be careful that the ICO wallet address as stated in the ICO website may be fake. This is because some hackers may hack the ICO websites and replace their own wallet address with the real ICO address.
Are ICOs Legal?
The short answer is maybe. Legally, ICOs have existed in an extremely gray area because arguments can be made both for and against the fact that they’re just new, unregulated financial assets. The SEC’s recent decision, however, has since managed to clear up some of that gray area. In some cases, the token is simply a utility token, meaning it gives the owner access to a specific protocol or network; thus it may not be classified as a financial security. On the other hand, if the token is an equity token, meaning that it’s only purpose is to appreciate in value, then it looks a lot more like a security.
While many individuals purchase tokens to access the underlying platform at some future point in time, it’s difficult to refute the idea that most token purchases are for speculative investment purposes. This is easy to ascertain given the valuation figures for many projects that have yet to release a commercial product.
The SEC decision may have provided some clarity to the status of utility vs security tokens; however, there are still plenty of room for testing the boundaries of legalities. For now, and until further regulatory limits are imposed, entrepreneurs will continue to take advantage of this new phenomenon.
Benefits & Risks
To the issuer:
- Access to seed funding, much faster and with fewer restrictions than via the venture capital route
- The opportunity to create new, decentralized business models
- A base of participants incentivized to use and test the service, and a boot-strapped ecosystem
- No loss of equity in the project (unless the tokens stipulated ownership sharing)
- A faster funding process
- More arbitrary limits to the amounts collected
To the token holder:
- Access to an innovative service
- Possible gain through an increase in the token’s price
- Participation in a new concept, a role in developing a new technology
For the issuer:
- Uncertain regulation (possible post-issue clamp-down, fine or even sentencing)
- Unstable investment (a sell-off by disgruntled users could affect the token price and the viability of the project)
- Little idea of who the token holders are (unlike shareholders)
For the holder:
- No guarantee the project will get developed
- No regulatory protection (investment at risk)
- Often scant information about underlying fundamentals
- Little transparency on token holding structure
Now that you know what is an ICO, keep in mind that ICOs are new, which means there are very few regulations. So, as mentioned earlier, you should always be careful when choosing an ICO to invest in. It is extremely important to do your own research!
You should understand the creators behind the ICO and the market that the ICO is entering. Always study and consider their ability to deliver on the project on time and on budget. Learn about what they are planning on doing with the funds that they receive and use their roadmap to see when they say their project will be launched.
Despite the risks, the demand for ICOs and cryptocurrencies is increasing. ICOs exhibit high risk/high reward and while some have been extremely profitable, other have failed, leaving investors with useless tokens. In an ICO there is significant trust that the project will be completed; however, if the project is not completed there will be a loss of invested capital. Therefore, it’s recommended to thoroughly review all available information and aspects of the ICO before making an investment decision.