Note: This is an evergreen article and e27 thought readers would enjoy a second look. It was originally written in on July 19, 2017.
This article was co-written by Justin Hall and Jeffrey Chua of Golden Gate Ventures.
Coins are disrupting venture capital.
At least, that is what it seems like.
Similar to Initial Public Offerings (IPO), in which shares of a company are sold to the public at a predetermined price and are then allowed to float based on supply and demand, Initial Coin Offerings (ICOs) allow companies to fund the development of their blockchain-leveraged services through the sale of tokens, which essentially guarantee coin holders the right to participate in and benefit from the blockchain.
However, there is one crucial difference: issuing shares is dilutive, whereas issuing tokens is not. Suddenly, fast-growing technology startups can raise tens — if not hundreds — of millions of dollars through ICOs, leaving venture capital funds helplessly on the sidelines, cheque books in hand.
Since January 1st 2017, over US$200 million has already been raised through ICOs, and the trend continues unabated:
- Tim Draper-backed Bancor (ICO Symbol: BNT) had the most successful ICO this year, having raised over US$150 million in a highly-publicised offering earlier this month;
- The decentralised mobile messaging platform Status (ICO Symbol: SNT) raised near US$90 million the same month
- There are at least eighteen other ICOs planned for the remaining half of the year, filed by companies as diverse as decentralised exchanges for mobile data (Dent) to online event ticketing solutions (Aventus).
One of the fastest growing and most exciting companies in Golden Gate Ventures’ portfolio, Omise, a leading online payment gateway for Southeast Asia, launched its own ICO earlier this month to fund development of its universal value transfer and remittance service, which allows any kind of currency, asset, even restaurant chain loyalty points to be managed and exchanged on their platform.
Over the past three weeks, we’ve gone through the necessary steps to participate in their upcoming ICO, and we thought now would be a good time to share some of our own thoughts and learnings in this emerging space.
Initial Coin Offerings: Combining Kickstarter and NASDAQ
Before I begin, I should briefly explain the concept of tokens.
In the most simplistic terms, tokens exist as entries on a blockchain, and owners possess a key that allows them to reassign ownership to another if they so wish.
Tokens fall into two categories: utilitarian or asset-backed.
Without going into much detail, the utilitarian tokens possess some functional value, usually within the context of their respective blockchains. For example BTC (Bitcoin) incentivises users to validate transactions on the Bitcoin blockchain while ETH (Ethereum) tokens allow for the execution of smart contracts on the Ethereum blockchain. XRP (Ripple) serves as a bridge currency to provide liquidity for entities operating in the Ripple Network.
Alternatively, asset-backed tokens are simply claims on an underlying asset, usually gold or fiat currency, with the original issuer serving as ultimate redeemer.
Like Kickstarter-style crowdfunding or equity sales, Initial Coin Offerings are a way for companies to raise funds through the issuance of proprietary digital tokens. By and large, the vast majority of ICOs thus far have been used to raise funding for a technology projected related to cryptocurrency, blockchain, or some other form of decentralisation.
Because tokens either provide some utility for or are ultimately redeemed by the issuer, tokens share similarities with both Kickstarter-style crowdfunding and more traditional equity sales: they provide token holders with proprietary access to a functional product or redemption at some point in the future, but with the additional expectation that they will grow in price proportionate to the success of the underlying project or issuing company.
As more smart contracts are established on the the Ethereum blockchain, or more banks are added to the Ripple network, for example, the underlying tokens undergirding those networks become more valuable.
For example, imagine a mobile gaming studio that wants to develop a freemium game supported by in-game microtransactions, similar to how gems are purchased and used in Clash of Clans. In this scenario, the mobile gaming studio could pre-sell gems before the game is even launched in order to finance the development of the actual product. If the freemium game is an unmitigated success, early gem buyers could either redeem those gems when playing the game, or sell them to other players for a premium.
Participating in ICOs
Typically a company will set a fundraising goal they want to raise and test to see what the market is willing to pay, or stipulate the price themselves and explain the use of the proceeds to justify the asking price.
Afterwards, the amount raised from the ICO would primarily go to the technical development outlined in their white paper (read: prospectus), related investor documents, and the daily operational expenses of the company.
As of today, most tokens are backed by more mainstream cryptocurrencies like Bitcoin or Ether, which provides a fixed value of the underlying token and a far cheaper method of exchange than remitting fiat currency.
Hence, to participate in any upcoming ICOs, chances are you’ll first need to set up a cryptocurrency wallet to buy and store Bitcoin or Ether.
For someone to participate in an ICO, they would need a wallet service, such as MyEtherWallet, Mist, Parity, or imToken. Wallet owners are issued public and private keys, which can be anywhere from 32 to 65 bytes long: public keys serve as the recipient address for incoming bitcoin transactions, while private keys are used by owners to unlock their wallet and send.
Suffice to say, private keys must remain private, otherwise the wallet can be emptied and its contents transferred to another wallet.
Once ready to participate in an ICO, and after they’ve made the requisite purchase and transfer of Bitcoin or Ether into their own account, the investor would send their deposit to a token sale address, usually found on the company’s crowdsale website, along with some identifying information, the most important being the public address of their wallet.
Once the transaction has gone through, easily verifiable via the respective blockchains, the company tokens are transferred to the investor. This entire process can take anywhere from one day to several weeks, but the actual transfer of cryptocurrency and tokens can be verified and approved in a matter of seconds.
It should be noted that while many ICOs thus far have been legitimate, well-managed transactions, there is absolutely no regulation: white papers and other investor documents may not be peer-reviewed or worse, convey exaggerated or falsified data; investors can be anonymous or non-accredited; and there is little to no recourse for investors in the event of disaster, mismanagement, or even outright criminal activity on behalf of the token issuer.
Omise GO’s token crowdsale
Omise originally began as a payment gateway in Thailand with merchants across Southeast and Japan. But that’s not what led them to launch their ICO.
Instead, Omise sought to raise funds for its Omise Go network. The Omise Go (OMG) network comprises a decentralized exchange, liquidity provider mechanism, clearinghouse messaging network and asset-backed blockchain gateway.
OMG seeks to create a platform managing fiat, cryptocurrency and other assets within its wallet SDK, allowing intra-B2B payments. An application example of the technology would be paying for your Mcdonald’s meal with Singapore Airline’s miles: no bank accounts needed, no cash, just the Omise wallet.
Also Read: Share and use public data with DataPlanet
Omise set the ICO price of their ‘OMG’ tokens at 1 ETH to 1,000 OMG, and issued 65.1 per cent of all OMG tokens in their crowd sale. Like other similar offerings, the tokens were tied to the value of the network, established through the ICO cap of US$25 million for all tokens outstanding, giving the implied market cap of OMG a value of US$38.4 million. At of the time of this article, Omise does not plan on releasing any additional tokens.
Omise’s ICO for their proprietary tokens differed from the traditional ICO process outlined above in that it deviated from the typical crowdsale campaign to a pre-sale model more akin to a traditional IPO. The Omise ICO set an allocation cap of US$21 million to be managed solely by Bitcoin Suisse: they would be responsible for registering and validating investors, establishing minimum thresholds on investment, and ensuring the process went smoothly and transparently. An additional US$4 million was allocated to ICOage purely for Chinese investors, increasing the total amount raised to US$25 million.
As we’ve seen, investor validation and transparency is not the norm, but Omise opted for better oversight. Upon registration, investors were required to submit a KYC questionnaire, subject to approval by Bitcoin Suisse.
Only once compliance checks were passed was the investor allowed to participate in the Omise’s token offering. The minimum subscription amount was US$5,000 with maximum of US$100,000 per person, ensuring fair allocation of tokens and preventing “whales”, who place orders in the millions of dollars to edge out smaller investors, a common occurrence in traditional ICOs.
The arbitrary cap on the amount raised was also unusual, especially in the context of larger, more recent ICOs, like Bancor or Tezos, which raised US$150 million and US$200 million, respectively.
Ultimately, Omise determined that it simply didn’t need that much funding to develop and launch its Omise Go network, opting instead for a relatively modest raise of US$25 million.
ICOs going forward
It’s clear that ICOs cannot continue unabated without eventual oversight and regulation. Among most pundits in the cryptocurrency industry, it is not a question of ‘if’ but ‘when’ regulators will begin directing their focus on ICOs to protect investors. There is simply too much money, too little transparency, and too few rules governing behaviour.
But what’s equally important is the ability for technology companies to issue tokens to fundraise. This is not the same as equity, which requires a subsequent transfer of ownership. Instead, tokens do not possess any of the same rights or clauses that define a single share (to the detriment of the investor, of course).
When pegged to cryptocurrencies and traded on multiple cryptocurrency exchanges, both token-issuers and owners not only have the opportunity to meaningfully support the development of blockchain projects, but profit from their exchange.
ICOs are most likely a new fundraising phenomenon that is here to stay. This would only have been possible after the development of blockchains like Ethereum and Bitcoin, but now that these two cryptocurrencies are well-established, it’s made it far easier to launch and scale ICOs.
How this will affect other industries — including venture capital — has yet to be determined, but it’s safe to say that the real consequences of initial coin offerings are only just beginning.
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