ICO Basics Guide – a Worthy Investment?
What is an ICO and how can I invest? Is it worth an investment? And what do they mean by offering these so called tokens? What is a token? These and many more questions arise on an almost daily basis and I thought it might be a good idea to put some things together. The basics and explanations in this posting are not new, so I won’t invent the wheel from scratch but it is a collection and summary of you will find on the web, just that I put it together in one single post in my own words.
If this post serves you well, feel free to spread it and leave a comment or even start a discussion. So let’s get started.
[su_box title=”Disclaimer” box_color=”#df1515″]Please note, this article is not an investment advice but a reflection of the authors personal oppinion![/su_box]
The cryptocurrency world has a lot of associated terms that were able to get into the mainstream over the past few years. For most, the word “blockchain” is no longer new, and people already know about “Bitcoins”.
However, there’s one particular term that has gained more popularity these days. This is the “ICO” or Initial Coin Offerings. It has managed to raise more than $1.3 Billion for blockchain based startups. People were quick to consider it as “revolutionary” while some are convinced that it’s a rip off scheme or scam. Right before we dive deeper, let us first know anything there is to know about ICOs.
How the ICO was created
In a real world setting, companies normally approach venture capitalists and angel investors in order to secure funds. However, this would mean sharing a portion of their equity in the process. What companies really want is a way to secure funds without the need to share their equity, and this is only possible by going public through an IPO (Initial Public Offering).
Basically, a private company offers its private shares for sale to the public in an IPO. This means that anyone can become a shareholder in that company by buying shares. These shares are often sold at very low prices. If the company manages to make it big, then your shares can skyrocket to incredibly high prices. There have been news of the masseuse who was able to get a stroke of fortune when 500 of her “useless” Google stocks gain enough maturity over time.
People then started thinking what will be the effect if the same concept is applied to the blockchain environment. This idea has resulted to the concept of ICOs. Typically, ICO shares the same concept with IPOs, except that there are 3 key differences:
The ICO is decentralized, meaning it is not ruled by any central authority. Two, ICOs don’t have the red tape that is common in most IPOs. Lastly, ICOs are not regulated as compared to IPOs which are always placed under strict rules. Now, a lot of blockchain based companies faced a problem when it comes to ICOs. In an IPO, investors can get their shares as an exchange for their investment. However, a blockchain based company doesn’t have anything to give in return for a capital. For this reason, they have created “Tokens” – a share’s blockchain counterpart.
What is a Token?
An ICO is considered as a combination of an IPO and a crowd sale. If a certain blockchain project interests you, you can only access it by sending money to the developing team. This can be done through Bitcoin or Ethereum payments which in turn will provide you with the corresponding amount of tokens.
Ever since Ethereum was created, tokens were able to gain even more popularity. Ethereum offers a platform to allow you to use the blockchain for making currency and decentralized applications (DAPPS). Using these DAPPS will require tokens that are native to their particular environment. Tokens are categorized into two categories: Usage and Work tokens.
Usage tokens are those which serve as native currency in their specific environment. It is possible to exchange them for FIAT money or other tokens. In other words, usage token is a currency. On the other hand, work tokens are there to grant you certain rights within their particular environment. For example, if you’re a DAO token holder, you have the right to vote whether you allow a particular DAPP to get DAO funding or not.
How to make a token?
The process of creating a token is actually simple. If you want to go the easiest route, you can visit Token Factory and fill the necessary fields with information:
First of all, you can find the total supply field. It’s not recommended to have huge amounts of token available, as it can only kill their value.
Next is the name field where you can input any name you want for your tokens. A good advice is to choose a professional sounding name if you want a profitable ICO. Afterwards, decide on the number of decimal places for your tokens. And lastly, decide what symbol you want for your token. Click the “Create Token” button, and you’re done.
However, if you have some coding knowledge and are more of a DIY type, you can choose to code the tokens on your own. If you plan to make a DAPP in Ethereum, you can just use the solidity code for creating your own contract. This is an example of a basic token contract:
There are 3 parts that make up the code:
- The mapping
- Giving the creator all initial tokens
- Giving the required amount of tokens to the sender
Now let us elaborate the code and get to know what exactly happens and how it works. Though it might seem complicated, it’s actually really simple once you go deeper into it.
Ethereum is an open ledger; hence, it only makes sense that any token created through an Ethereum contract is displayed to the public. This is possible with the mapping function.
Giving all tokens to the creator
Once the token creation process is successfully completed, all supplies will proceed to the one who created the contract. He can then send them to anyone who decides to fund the project with ETH.
The transfer to the sender
This is basically the final part of the code. Depending on the initial value you set for your tokens, the sender will receive the corresponding amount depending on how much ETH they send you. Likewise, those tokens are deducted from your account and sent to the sender’s.
You can actually find tons of tokens out there. While it might sound like a good thing, it actually has one major drawback. If everyone decides to create his own tokens with their own unique features, it will be a really major issue to store them. As you can see, this could mean that storing tokens in a wallet will require a number of unnecessarily complicated and time-consuming steps. To solve the issue, a standard blueprint is required for all tokens to adhere to. The solution comes in the form of ERC20 token standards created by Fabian Vogelstellar, one of Mist Wallet’s founders.
Understanding the ERC20 token standard
The ERC20 token standard was implemented to regulate Ethereum tokens and make sure they follow a particular set of rules. Although this is not really an enforced rule, it is recommended for DAPP developers to adhere to the standards to guarantee a smooth flow for any token transactions that involve smart contracts, wallet, and exchanges.
With these standards, everyone is given an idea about the way future tokens behave. In fact, ERC20 tokens are widely accepted and most DAPPS on ICOs have tokens that follow the rules implemented by the ERC20 standard. But what are these standards I’m referring to?
There are 6 available functions that perform the following activities when executed:
- Obtain the total token supply.
- Get the current account balance.
- Transfer tokens from one account to another.
- Approves token use as a monetary asset.
How ICOs work
You now have a brief overview of tokens and how they work, let us delve deeper into ICO and why it is considered by most people as the new “Gold Rush”. The number of individuals who were able to become millionaires through ICOs in the previous year or so is astounding. This is illustrated in this graph:
During the course of 12 months, ICO has managed to raise over $600 million as compared to established Venture Capitals’ $140.30 million. But what’s exactly with ICOs that they managed to attract a number of investors?
In the investment world, ICO is considered the rock star who’s living with a group of conceited businessmen in tuxedos while he wears a torn shirt and ragged jeans. The ICO has something in it that makes it extremely appealing.
Picture this out: someone who has an idea for an interesting project can get incredible financial assistance from a group without being hindered by the dreaded red tape or politics. The fact that it is possible for anyone to obtain the financial assistance he needs without undergoing any rigorous regulations is a welcome idea for all. This means that investments are not just meant for those who are filthy rich. With ICOs, everyone can get the funds they need in order to turn their dreams into reality!
The procedure involving an ICO are as follows:
- First, developers will make an announcement regarding their plans to make the project in order to create awareness and interest. This is a really vital step since first impressions matter a lot.
- Afterwards, they will then create and issue a white paper, a document that showcases their project and its features that potential investors will find interesting. Although white papers are designed to act as a sales and marketing tool, it’s not as flashy as a brochure. They are created in an academic fashion and their purpose is to convince investors by highlighting its features and potential. On average, a white paper contains at least 2500 words and has content that is purely informational.
- After creating a white paper, developers will then show it to the prominent members in the blockchain in order to get their assistance. This is a vital step since this will allow them to get the credibility they need to push the project forward.
- For the next step, they have to create tokens which they will exchange for either Bitcoin or ETH during the token sale. The procedures involved in creating tokens have already been discussed earlier. They should decide the limit of tokens and how much a token costs. In most cases, tokens are priced very cheap at the launch of the ICO. By limiting the amount of these tokens, they will have limited supply which in turn increases the demand (this is in accordance with the principles of supply and demand).
- Aside from the limit of token supply, developers should also decide when they want their ICO to be held. They need to choose the time and duration of the ICO as these are very crucial for its success (we’ll talk about this later on). Moreover, they also need to set a limit on the amount of funds they want to receive.
- Once everything is concluded, developers will then choose which platform to advertise their ICO. Before, advertising an ICO is challenging because they have to attract people to their websites in order to give them information about the ICO. Nowadays, it has become a lot easier due to the presence of several websites that provide developers the platform they need to promote their ICO. Some of these websites include the following:
- Token Market
- State of DAPPS (limited to Ethereum Tokens only)
These sites can be considered as crowdfunding sites similar to Indiegogo or Kickstarter, except that they’re for the crypto world. Once developers were able to advertise their ICO, they can then do the ICO
This is a representation of how ICO works:
An investor will send his coins to the developer’s public address. In return, he will get tokens depending on the amount he sent.
To make it easier to understand, here’s a summary of how it works:
- The developers will make an announcement of an upcoming project.
- They will then write a white paper detailing the specifics of their project and a number of important information.
- They will then try to get backing from prominent members in the blockchain to act as “advisors”.
- After getting enough backing, they will then proceed to create tokens and set limits on the token supply, money to be received, and the time and duration of the ICO.
- With the help of one of the platforms above, they will advertise the ICO to potential investors.
- The ICO event then starts.
Basically, there are two types of ICOs namely Currency and Project ICO.
The currency ICO is when developers introduce a new currency system. They will provide tokens to investors which will turn into new cryptocurrencies in exchange for more established cryptocurrencies like Bitcoin and Ethereum. One of the reasons why people find ICOs attractive and worth investing is due to the fact that they have countless investment opportunities to offer. One of the most popular examples is the Ethereum ICO.
In the later stage of 2013, Vitalik Buterin created Ethereum. He used to work as a former developer for Bitcoin and found that things are getting more frustrating. He realized that there’s a massive potential behind the blockchain technology other than just being a currency system. He created Ethereum in the hopes of creating an alternate form of the internet. With Ethereum, people can’t just access a new type of currency in the form of Ether, they will also have the ability to create newer DAPPS on the platform itself.
The Ethereum ICO went on for 42 days between July to August 2014 and has managed to raise over $18 million. It might seem rather small, but it was actually the biggest crowdfunding event in history back then. Of course, those who were able to invest during the earlier stage of the ICO were able to receive massive ROI. Initially, investing just 1 Bitcoin will give you 2000 ether. For now, those 2000 ether investment is valued at ~$420,000. A sound profit for an investment which only cost $2500! Aside from the massive ROI, the biggest aspect of this ICO in the history of cryptocurrencies is the concept of Ethereum itself.
To see an advertisement about the importance of ICOs, just read the Ethereum ICO. This was the vision of a single man who is supported by a team of dedicated and talented individuals. He created the white paper, sparked interest in a number of investors, and ultimately created one of the most prominent platforms in the history of cryptocurrencies. This is what an ICO should be.
Meanwhile, a project ICO issues “work tokens”. By buying such tokens in a crowd sale, you can get certain rights and even vote inside the DAPP’s environment. One of the most popular types of Project ICO is the DAO.
DAO, likewise known as Decentralized Autonomous Organization, is a decentralized venture capital fund used for funding future projects in the Ethereum environment. Investors in the DAO give ether and are handed “DAO Tokens” in return. With these tokens, investors become members of the DAO community.
So for example, if Jill wants funds for her project from the DAO, she will need to introduce it to the DAO community. Investors who are now token holders will start voting. As long as Jill can get the majority of the votes, she can then get the necessary financial assistance from the DAO itself.
This was a groundbreaking idea and managed to get mainstream exposure in the media as well. In fact, it was regarded as one of the biggest ICO in history. It managed to raise a whopping $150 million worth of ether, which was equivalent to 14% of the total ether they issued during the ICO. Unfortunately, things took a turn for the worst when the infamous DAO Attack occurred. This event has caused the loss of approximately $50 million worth of ether.
This attack actually left a huge impact as this is the event that caused the Ethereum hardfork, which led to the creation of two different Ethereums namely Ethereum and Ethereum Classic.
Augur is also yet another excellent example of a Project ICO.
Nowadays, ICOs are managing to raise massive amounts of money in such a short period of time. For example, the Brave ICO, which is a browser-based on Ethereum, managed to raise a staggering $35 million in just 30 seconds! That’s equivalent to ~$1.2 million raised every single second. Another ICO that was included in the list of the largest ICOs in history just recently is the Tezos ICO by raising funds of more than $200 million.
This creates the question, “How can we ensure that the developers will properly use the funds you invested?”. What if they suddenly disappear?
What are the things you should do in order to avoid getting scammed?
Unfortunately, there are lots of scammers in ICOs due to the lack of regulations and the amount of money involved. If you invest in an ICO, you want to assure that your investments will be used properly. Therefore, what should you consider before you invest and prevent yourself from getting scammed?
- Before anything else, you have to make sure that the project developers can clearly state the aim of their project in simple sentences. If they take too much time and explain complicated words, it could either mean they have an unclear agenda or they have something up their sleeve. Both of these should act as a red flag.
- You also need to check that the developers provide accurate and authentic information. They should be transparent in terms of their names, locations, business plans, and more. They should also provide you with their contact information in order to get in touch with them and gather any information you want.
- A legal framework should exist between developers and investors, along with the terms and conditions for the ICO.
- Last not but least, you have to find out if the ICO funds are kept in an escrow wallet. Basically, an escrow wallet is a multi-signature wallet that requires several keys from several people to open. One of the private keys should be in the hands of a neutral third party.
By taking these points into consideration, you can easily spot any potential scammers and safely invest your funds into projects with massive potential.
Are we in an ICO bubble right now?
Due to ICOs gaining massive amounts of money in short periods of time, everyone has become interested in taking part of the trend. However, there are always fears of the ICO bubble being set to burst. To understand what bubbles are, let us take a look at one of the most infamous bubbles: the dot-com bubble.
It was around 1997 when the Internet experienced massive growth that tons of tech companies appeared like mushrooms. Seeing the trend, lots of investors started making investments and achieving results. Eventually, everyone who noticed the trend starts pouring their funds into companies without having a clear idea if the business had a number of potential or not. All of it was because of the fear that they will get left behind.
People start investing without putting some thoughts into it, and tons of random internet businesses were able to make huge sums through IPOs. According to Warren Buffet:
“The bubble market has prompted the emergence of bubble companies. These companies aimed towards making money off their investors rather than making it for them. In most cases, an IPO was the main goal of a company’s promoters”.
What he said was indeed true. Years later, most companies that raked in millions of cash from their investors experienced a massive failure while some were found out to be scams. Later on in 2002, the bubble burst.
This event has caused companies to crash and experience millions of losses in just a year. Among the most infamous examples is Pets.Com which lost over $300 million in just a span of 268 days! Although 1 out of 2 companies closed, the ones that survived managed to bring forth massive changes in our lives today. One such example is Amazon. Right before the catastrophe, Amazon stocks have a value of $100/share. However, it plummet to just $7 per share after the bubble burst! Eventually, as time goes by, it went up to $600 per share.
The similarities between the ICO and dot-com bubble are scary due to the possibility of it happening. Pretty much like the dot-com bubble, ICOs also attracted tons of investors who don’t want to get left behind. Just like the dot-com, ALL of the investments are made purely from speculations.
You should keep in mind that most companies you invested in ICOs don’t have anything laid out just yet. A lot of them don’t even have an alpha version of their project. Everything’s based on a lot of speculations and the project’s potential.
Just like anything, there’s the possibility that these projects will experience failure and can’t achieve positive results. The reason why Ethereum ICO was so successful was because it is composed of a dedicated team of talented and skilled developers who were eager to see the project succeed.
Another problem that plagues the ICO is the greed of some developers. There are those who take part in projects so that they can take advantage of a good ICO. They are not interested in seeing the project succeed, nor do they want to make profits for their investors.
The similarities are all too vivid, and the thoughts of the ICO bubble bursting is scary. However, we are not experts in this field, and all we can do is to speculate. We have no clear idea if we are in the “ICO bubble”. In fact, we don’t even have a clue if it’s a bubble that is set to pop. The only thing we can advise you is to invest wisely. Don’t get attracted by offers that are too good to be true, and always use your common sense.
Review the points I mentioned earlier in order for you to know if an ICO is a scam or not.
As a developer, what’s the right way to approach ICOs?
If you’re a developer, you should have a clear idea of your project along with your vision and agenda. You should clearly state your intention along with the future you plan for it. Additionally, you should choose which platform you want to promote your ICO (either in Iconomi, Waves, etc.), and you should design your tokens afterward.
Once you have completed your white paper and gotten enough legal backing from advisors in the blockchain community, the most vital action to take is to pick the right time and date for your ICO. You should keep in mind that timing can either make or break your ICO, and poor timing will give you poor results. In choosing the time and date for your ICO, you need to consider the following:
- Don’t choose dates when important people are away such as holidays. You need to create a lot of hype and get the best investors for your ICO. It’s not advised to hold your ICO during holidays, especially when most people and reporters are out of duty. Moreover, it’s not ideal to hold your event during a period when an important event is going to be held. As what Margaux Avedisian said, you should not hold your ICO during a period when your main investors plan to attend The Burning Man.
- Choose the right day of the week. You should confirm the schedule of your target investors then determine which is the best day for them. As much as possible, do not choose a weekend to hold your ICO.
- Consider your time cap. Although there are some successful ICOs that reached their target in just minutes or even seconds, such situations rarely present themselves. In fact, it even took the Ethereum ICO 42 days to meet its goal, despite the fact that it happened way before ICOs become popular. Therefore, it is important to decide the time cap and amount of time you want your ICO to run.
- Consider the time zones. If you’re targeting American investors, holding your ICO during midnight EST is the absolute worst decision you can make. Before you run your ICO, you should first decide where your target investors are from and pick a time that suits them best.
We cannot exaggerate how important time is for your ICOs. The starting period is the most essential since it will be the one to determine if your ICO will succeed or not. If you’re a developer, you should decide the time after a bit of research. You’ll find it useful in the end.
Advantages and Drawbacks of ICOs
It provides opportunities to projects with huge potential
Just think of what Ethereum managed to pull off. With sufficient funding, it was able to become the second most valuable cryptocurrency up to date. It also made it possible for DAPP creators to develop their projects using the platform itself. As such, Ethereum became the platform where future is built on. All of these were possible because of a successful ICO.
It doesn’t involve complicated and unnecessary paperwork
There have been a lot of projects that weren’t able to make it to the public due to the red tape. In order to raise funds or start a crowdfunding project, developers will need to process tons of paperwork. In most cases, they just don’t have the required documents in order to start collecting funds for the project. Meanwhile, in an ICO you only need a “white paper” that details the scope of your project and any other specifics. After that, the white paper is then made available to the public, and people will start investing if they find it interesting.
It encourages community building
With an ICO, the project developers are given the opportunity to create their own community around their projects. With an active community, their project can gain massive credibility. Moreover, those who are part of the community will have the ability to dictate where the projects will head to.
It offers project exposure
The hype that is built in an ICO can massively help a project’s exposure. Basically, the more exposure a project gets, the more number of investors will notice. This roughly translates to an increase in potential investors.
It provides access to tokens with significant potential
There are some tokens that have a huge potential of becoming valuable cryptocurrencies. With an ICO, investors have the opportunity to make token investments with massive potential at a relatively cheap price. For example, 1 Ether back then cost only 35-40 cents. At the time of this writing, 1 Ether will cost you ~$277.
It provides opportunity for innovation
The massive success experienced by various ICOs this past year has given developers the opportunity to develop more interesting projects with potential.
It’s a hot pot for scammers
Since ICOs involved so little paperwork and have an unregulated nature, scammers can just create a fake white paper and start making lots of money off it. There are also those developers who omit certain details on purpose just to make their project look more interesting than it actually is. The major consequence of these actions is the decreased faith that the public has in blockchain technology.
It’s purely speculation-based
Investing in projects through an ICO means investing in the project’s concept. You review the white paper, and if you believe the team is capable of pulling it off, you make an investment. You also have no assurance that the project will succeed or not. In fact, around 90% of the startups experienced failure, and blockchain projects tend to as well. Moreover, developers might even decide to abandon the project halfway. Also, there’s the possibility of hacks and attacks, as in the case of DAO.
Whaling can happen
Let us use the events that happened during the infamous BAT ICO as an example. In only 24 seconds, it was able to raise $35 million! However, only a few people were able to participate in the ICO since most of the tokens were monopolized by a few number of individuals. In fact, around 25% of the BAT tokens were purchased only by a single individual!
They are referred to as whales. Whales are those who manipulate the ICO game in their favor using lots of money and resources. They do it by paying high mining fees to help them become first in line and get the first priority during ICOs. This happened in the case of the BAT ICO. Whales invested as much as $2,200 in transaction fees in order to make sure they take first priority. Afterwards, they often sell them at a higher price to make profits.
There’s network congestion
Due to an increased activity during ICOs, massive strains were created in the blockchain which resulted in the network being congested. For example, the Status ICO has caused a massive backlog in the network when they made $100 million, causing a lot of eager investors to fail with their transactions.
There’s is an issue with the token storage
If you invest in ICOs, there’s the possibility that you won’t be able to save some of your tokens in any wallets. Although you can store your Ethereum tokens in your ether wallet, those tokens you earn outside of the platform can be difficult to store.
The government can interfere
Due to the increasing number of scams and huge sums of unregulated money involved, your government may decide to regulate the ICOs. Of course, when this happens, it could mean the death of cryptocurrency. After all, cryptocurrency is built on the concept of decentralization and the absence of the government’s intervention.
The Bottom Line
ICOs will continue as an essential part in blockchain and cryptocurrency. We just can’t seem to ignore the innovations and advancements they’ve brought us. They were the ones to give birth to groundbreaking technologies such as Ethereum, as well as giving DAPPS throughout the globe an opportunity to create innovations and develop more exciting technologies. We just can’t deny the contribution that ICOs offer.
That said, there’s also the possibility of ICOs being a “necessary evil”. After all, it is human nature to exploit any loopholes to take advantage of for their own benefits. ICOs just seems to be the avenue for lots of greedy individuals. For now, what we can do is to act more responsibly and conduct our own research. Take a look at the white papers, get in touch with the team developers involved in specific projects, and decide whether or not their ICOs are worth investing.
Also check Google and the entire media what you can find about the ICO you would like to invest in. Do they have any partnerships? Did they release already anything that serves a potential stakeholder? What about their public marketing in order to get known and accepted? Did they take part of any conferences as speakers?
If you can answer most of the mentioned arguments above with a clear “No” then it might be the best case to say also “NO” to your considered ICO investment.