If you are new to cryptocurrencies, you’ve probably come across the term “ICO”. Today, it’s on everybody’s lips. So, what is an Initial Coin Offering, and why this practice causes such controversy in the community? Read on to get these and other things clear.
ICO is a fund-raising mechanism that blockchain startups use to get funds for project development. Normally, a project offers its own tokens to investors in exchange for well-known cryptocurrencies like Bitcoin.
During such crowdfunding, projects sell utility or security tokens. Utility tokens are sold during ICOs that are largely unregulated. Security tokens are sold in regulated Security Token Offerings or STOs.
let’s have a look at the history of ICOs. How did it all start?
Ripple organized the first Initial Coin Offering. In 2013 the Ripple team created 100 bln XRP tokens and offered them for sale. They promised to use the funds to develop the project.
One of the most famous cryptos, funded by an ICO, is Ethereum. In 2014, the Ethereum Foundation was selling ETH tokens for 0.0005 BTC each. The team raised an impressive amount of over 18 million USD. It was one of the most successful crowdfunding campaigns ever, starting the era of ICOs.
ICO Popularity in 2017
Seeing Ethreum’s success other projects soon followed suit. As a result, 29 ICOs raised a whopping combined amount of $90,250,000 in 2016.
ICOs reached a peak of their popularity in 2017 and the 1st quarter of 2018. In 2017, the total number of campaigns was 875. Collectively, they managed to raise over 6 billion dollars. The champions were Tezos ($230 mln) and Bancor ($153 mln).
in 2018 projects raised over 7 million in 1253 ICO campaigns.
It was a dream come true for many projects. You could raise millions in a matter of days and scammers took advantage of the opportunity.
Data shows that over 80% of ICOs in 2017 were scam projects. They had very high successes because investors were ready to back any project that presented at least remotely viable whitepaper.
Many investors were chasing golden opportunities to invest in tokens in the hopes of receiving thousands of percent of profit.
Finally, the market matured and investors realized the dangers of unregulated crowd sales. By the end of 2018, the number of ICOs sharply decreased.
The rise of ICOs was partly caused by the growth of the Ethereum blockchain, which allowed to create new tokens easily. As a result, any startup could potentially raise millions of dollars with just an exciting concept and a White Paper. It would not be possible if these developers were seeking support from accredited investors.
Let’s see why most ICO projects chose to issue tokens on the Ethereum (and not the Bitcoin) blockchain, without going into complicated technical details.
The Ethereum and Bitcoin networks are different in their configuration. The BTC blockchain facilitates online value exchange, while the Ethereum blockchain is built around the concept of smart contracts.
Smart contracts are programs that self execute when they see that pre-determined conditions are met. An ICO uses a smart contract to collect funds and distribute tokens to the campaign participants or return the initial investments to the backers.
Because this process is automatic it ensures that investors get their tokens and that if an ICO is considered unsuccessful, all investors get their money back.
Ethereum provides a special standard for the creation of a new token on its blockchain. It is called ERC-20 standard and represents a set of guidelines, developed to make integration of a new token easier and faster. Before the ERC-20 standard appeared, crypto tokens used their own systems that could be incompatible. If you wanted some interactivity between them, you had to do much work to reconcile those systems.
Due to the ERC-20 protocol, tokens based on Ethereum can be interchangeable, as they are similar in terms of functions and rules. Since 2015, this standard has been widely used by developers. Since September 2017, Ethereum made it necessary for all the tokens, created on their platform, to comply with this standard.
The concept of a token is central for any ICO, as it is basically a new token sale. In most cases, the project developers offer their tokens to individuals either for fiat or for a well-established digital currency like ETH or BTC. When the funds are raised, the developers list their token on an exchange.
There are 2 types of ICO tokens — security tokens and utility tokens. Let’s consider them briefly to understand the difference.
If you want to get deeper into the subject, read our article about utility tokens vs security tokens.
Utility token is the most popular token class. It represents your right to use the services, provided by the blockchain platform in question. Utility tokens motivate people to perform the actions rewarded with such currency. For instance, your users may get some in-house tokens for sharing or creating quality content (Steemit), or just for complying with the rules. Utility tokens help the ecosystem to function and develop.
Security token more like a traditional asset in the tokenized form. Unlike utility tokens that give you no real rights, security tokens represent something tangible, like the company’s profits or material assets. Security tokens are offered through STOs (Security Token Offerings) that are often considered a more mature form of ICO.
Do not confuse tokens and cryptocurrency coins. Projects issue tokens as internal units in their ecosystems, while cryptocurrency is a means of value exchange in a cryptographic network.
If you want to learn more, read our definitive cryptocurrency guide.
Imagine, that you are a head of a crypto startup seeking to raise money using through an ICO. Normally, you start with writing a White Paper to tell people about the project and the challenges it addresses. You also offer an approximate plan of development (Road map) and mention the amount you seek to raise, the ICO time frame and what type of currencies you will accept.
If you find enough supporters ready to invest in your project, they do it by buying your tokens for fiat or cryptocurrency. These tokens are somewhat similar to shares a traditional company sells when it runs an IPO (Initial Public Offering).
If you fail to collect enough funds, the money already raised returns to the investors. If you manage to reach the minimum amount you need, the money is spent on the development of the project, according to the initial plan.
As an investor, taking part in an ICO, you should have a cryptocurrency wallet for BTC or ETH and a wallet compatible with the token you buy.
Note, that many ICOs are over-hyped and have no real value. To avoid wasting money on their cause, learn more about the team of developers and read their documentation very carefully before getting on-board.
Like everything in life, ICO has its advantages and disadvantages, which are interconnected.
To start, this model makes raising funds easier, as a company can create a token in a matter of minutes.
Furthermore, if you manage to persuade enough people that your token has a great value and its price will skyrocket. Then, like it was in the case of Ethereum or Ripple, the early investors will achieve massive gains. This is what makes ICOs so attractive — an opportunity to get rich just because you were in the right place, at the right time.
A token is easy to create because it has no value of its own and means no legal obligations. Anyone, including frauds, can create it and then talk many people into buying it. According to the report, over 80% of all the Initial Coin Offerings, conducted in 2017 failed. But still, there were over 400 successful campaigns.
Lack of regulation that let ICOs thrive and made many scam projects possible, resulted in sanctions imposed by many governments.
For instance, China banned ICOs altogether.
Is ICO legal in the first place? The answer is both yes and no. In fact, Initial Coin Offerings exist in the grey zone. Because tokens have no status of ‘financial assets’ many countries don’t regulate ICO-based funding. This is what makes it so easy and paper-free.
But the times are changing, as regulatory bodies start paying attention to this funding model. Recently, Ripple has been in the middle of a lawsuit, that accused the company of selling unregistered securities. The SEC (Securities and Exchange Commission) insists that most ICOs were actually offering securities, and as such should have been regulated by the corresponding laws.
It’s obvious that ICOs will be increasingly regulated. It’s a measure to make markets and investors protected, as regulators declare. The opinion of the crypto community is mixed. For instance, Brad Garlinghouse, Ripple CEO takes a regulation-friendly stance — he thinks that it is inevitable and potentially beneficial. Others strongly disagree.
Though most ICOs failed, there were some really inspiring and widely famous ones. We made a list of several interesting projects that got generous funding from the community.
Note, that each of the startups we mention below, had some value for the ecosystem, aimed at solving an urgent issue and had the support of well-known IT entrepreneurs with a history of successful projects.
Ripple Labs are developing global financial solutions in order to make it possible to exchange value like information — in an easy and fast way. The goal of the company is to lower the cost of transactions, made by banks.
This network raised around 31,500 BTC with a pre-sale of 60 mln ETH in the summer of 2014. It was a massive crowdfunding event that started the ICO rush. The early Ethereum investors got huge profits.
Tezos is a blockchain platform for assets and Dapps which is capable of setting and modifying its own rules. It’s often presented as a self-regulated network, backed by the community of validators, builders and researchers. In 2017 they had a very successive ICO, raising over $228,190,000 within a month.
EOS seeks to become a solution to the problem of scalability of decentralized apps. Block.one started the ICO for this platform in June 2017. It lasted almost 1 year, raising the unprecedented amount of $4.1 billion. The key factor to the EOS ICO success was probably Dan Larimer — a famous crypto entrepreneur, who has started Steemit.
The private sale started by the popular encrypted messenger Telegram raised a record-breaking amount of $1.7 bln. The sale ended on 13th July 2019. The team’s plan is to create an ultra-fast scalable blockchain network capable of processing millions of transactions per second using infinite sharding and hypercube routing solutions.
For the last couple of years, Initial Coin Offerings have been a hyped phenomenon and as such, became a trampoline for good projects and scammers. Hopefully, after reading this article you have a better understanding of how ICO market functions and why Initial Coin Offerings were such a big deal in the crypto world.