In 2017, Initial Coin Offering became widely known as a business financing mechanism. Back then, only lazybones weren’t talking about Initial Coin Offering development. In 2018, according to ICOdata, companies raised just under $8 billion through ICOs. Immediately after that, financial regulators in various countries became interested in this mechanism, making business people think that participation in ICOs is complicated and risky. So, let’s find out how ICOs work now and what the law says about them to dispel all the myths and fears.
What is an Initial Coin Offering?
An Initial Coin Offering is the equivalent of an initial public offering on an exchange. An ICO involves raising funds to issue a new crypto coin, application, or service in the cryptocurrency world. In practice, the term means that a particular company puts its coins onto an exchange, sells its first issue, and then the sold coins start circulating in the market. So, they are sold and bought by people who want to invest in them. Sometimes ICOs are run by companies offering crypto services or applications rather than the tokens themselves. In that case, people are offered to buy the issuer’s shares. Issuer’s shares are a stake in a company. To participate in an ICO on the investor side, you will need to purchase cryptocurrencies with which you can buy new tokens.
The ICO usually takes place on a special platform. First, you get offered to buy a token for a specific price or for the “best value” offered in a conditional auction. In that case, the number of coins is limited, and the value of the unit gets determined by the market, not the issuer, but not always. Along with the offer to buy comes a white paper — a brochure in which start-ups spell out what their project is about, who it is for, what it gets based on, what it raises funds for and how investors will benefit from its financing. It is important to note that this paper is explicitly for investors, not regulators.
The coins may be considered shares in the company, or they may be tokens which you will then resell. The definition of ICO does not specify what type of campaign the issuer will use. If the company fails to raise the total amount of funds planned, it will return the money to investors, but it all depends on the platform on which the ICO gets implemented.
ICO types explained
- 1rivate. It involves a limited number of investors. These investors may be financial institutions or individuals who have invested millions of dollars in the crypto market. Such an ICO is not held publicly. Instead, investors receive invitations.
- Public. In this case, everyone can participate regardless of if they have previously invested in crypto instruments. Most likely, when you hear the term “ICO” in the news, they are talking about its public format.
ICO vs IPO
So, how are the two offerings different from each other? An initial coin offering is about cryptocurrency. An initial public offering is about raising funds for a company by selling the first issue of securities (shares, for example) not on the cryptocurrency market. An IPO investment involves owning a stake in the issuing company, as the very specifics of the shares are consistent with that. Investing in an ICO does not guarantee you will have a stake in the cryptocurrency company that puts the coins on the market. That opens the door to fraud, which is being fought hourly in every existing cryptocurrency market.
The Advantages of an Initial Coin Offering
First, liquidity of purchase for the investor. It means selling the asset quickly and getting back the money you spent on it or doubling or even tripling your profits. You will be selling the coins on market terms, which automatically allows you to gamble on the difference between the purchase and sale prices.
The second is decentralisation. Since the ICO belongs to the cryptocurrency world, decentralisation works on the same terms as with coins and other crypto projects.
The third is transparency. All ICO services get monitored in real-time. You can see how much money has already been invested in the product. You can also see how many coins are still being sold as part of the initial offering and how much is being bought by market participants. The company informs you how the fundraising is going, what it plans to spend it on, what products it wants to put on the market, and so on.
The fourth is low competition and a real opportunity to get funding. An ICO can come to the rescue if you find traditional financing methods unsuitable. Thanks to this form of fundraising, you will launch your own company with products you have long dreamed of producing! But of course, you will have to try hard — you will hardly be offered money for a pretty face, but rather a great idea with a clear implementation plan. Competition in the ICO niche is relatively low because companies fear entering the cryptocurrency market or choose more “stable” financing instruments.
How to set up an Initial Coin Offering
What should you do before launching an ICO? What needs special attention? We have put together some essential points.
- Decide what you want to offer. Just coins? Is it a possibility to buy coins as shares in your company? Can you purchase coins as charity for a small gift after the launch of your products? There are many options in today’s market. You can pick whichever you want.
- Select a jurisdiction for the ICO. America? Europe? Asia? Look into the legal and regulatory framework, searching for information on the amount of taxes to pick the most appropriate place to register and conduct an initial coin offering.
- Research the laws governing the ICO in the country where your company will be located (legally). Will you need to disclose information about the company? Will you have any restrictions? Will there be any fines? Take the time to read the laws or ask lawyers to help you with this question. At the end of this material, we’ll bring you up to speed on the legal regulation of ICOs.
- Create technical documentation. The technical documentation describes your technology and what you offer. The documentation will also explain why it is beneficial regarding the functioning of the mechanism you have chosen, invented, etc. It is a legal document that potential investors can read. Not a prospectus, i.e., an extensive brochure about the coins you issue, but essential documentation, violations of which can lead to a severe fine.
How to launch an Initial Coin Offering
And here’s how to launch an ICO if everything has been ready for a while:
- Create an MVP (Minimum Viable Product) to raise funds for your product. It is vital to show that you are not a scammer, freeloader, or someone seeking a quick profit, but an honest businessperson looking for funds for an actual project. Investors are frightened by the massive number of scammers in the market! Show them that you are not like that and that you care about security and transparency.
- Create tokens you will sell during the ICO. They can be any tradable commodity in a crypto coin “package”. Before you start working on coins (the token creation process is a separate story), determine how many tokens you want to issue. Also, decide how much they will be worth, how many tokens you will keep for the project team and how many you will sell within presale, that is presale of coins before the start of ICO. Presale is a standard marketing tool used by companies going into the ICO. The number of coins can be unlimited, and so can their value.
- Get confirmation of the tokens’ legality. It would be best to verify that your tokens are not considered securities by various jurisdictions. The legal opinion gets issued by special companies dealing with ICOs. Potential investors react very positively to it. If you make a mistake, the company’s representatives will advise you how to correct it to avoid being penalised later.
- Create a community around your product. Spread the word on the Bitcointalk forum, Reddit or Quora. List the upcoming ICO on Coinschedule, CoinGecko, ICOCrowd, ICOCountdown, Coinlist, and ICO-List. Create your Slack and Telegram channels, LinkedIn page, and Facebook group, and post content for potential investors. Ask people who have already invested in your initiative to tell about it on their social media. Or, offer them special “perks” for taking photos of your project — for example, more coins than they have bought, access to exclusive content, gifts of some kind, or the chance to be the first to try your product. You can also connect paid display advertising through social media and search engine targeting, which works well.
- Apply for token registration on exchanges. Check out Best Bitcoin Exchange and CoinList to see which exchanges best suit your specific case and get started. To apply, you will need to provide a name, description, logo, launch date, link to GitHub, and information about source code verification by a party not interested in the project’s development. In some cases, you may get asked to pay a fee.
Regulation for an Initial Coin Offering
So, how are ICOs regulated? Well, frankly speaking, not very well. For example, in 2017, the US regulator SEC issued a report naming DAO tokens sold in ICOs securities, which automatically applied taxes on the ownership and sale of these types of assets. Before that, initial releases of service tokens, which were not equity-like investments, were freely traded on the market. Also in 2017, the SEC fined Munchee, a company that conducted ICOs of service tokens, on the pretext that the coins were securities. Consistent with these (and several other) precedents, most lawyers believe that ICOs get considered by US law to be securities issues. Therefore, large companies intending to conduct ICOs are more likely to register the procedure in other jurisdictions.
Examples of ICO
So, what are some examples of successful ICOs? In fact, there are quite a few such cases, and if you follow the crypto market closely, they will not be new to you.
- NEO is a Chinese blockchain project promoting smart contracts, a new version of Ethereum. The Chinese government has even backed its ICO. The token’s value went from three dollars to one hundred and eighty and then dropped to forty.
- Ethereum. Yes, the world’s second most capitalised cryptocurrency also once held an ICO. Initially, the coins were selling at one-third of the dollar value, and a few years later, the quotes rose to over three thousand dollars. Many altcoins, i.e. alternative currencies to Bitcoin, are now based on Ether; they improve on the technology used by Ether’s developers and use it to produce smart contracts.
- Stratis. It is a platform for large companies to develop their applications. Microsoft actively supported its ICO, thanks to which the project took off and raised a thousand Bitcoins for its implementation in just over a month.
- Ark is a digital currency service that supports many cryptocurrencies and integrates them into its own blockchain. As a result, financial corporations can use it to enhance their services. Initially, its tokens were worth only $0.04, but then their rate rose to $11 per unit.
- NXT was created as a currency back in 2013, and its ICO can be called one of the first initial token offerings in the world! NXT now operates as a blockchain platform for implementing financial services, and its tokens still get traded on some exchanges.