Since the creation of cryptocurrencies, initial coin offerings (ICOs) have given startups and blockchain-based projects the opportunity to raise capital before they go live. However, for many crypto newbies, ICOs seem to be a mysterious process. If you find among this number, then we’ve got you covered. In this article, we will help you understand initial coin offerings and how they work. Make sure to follow through till the end to also know the factors to consider before investing in an ICO.
KEY TAKEAWAYS:
- Initial coin offerings are done by the developers of a new blockchain project to raise capital.
- ICOs work following these steps: project announcement and whitepaper release, token creation, pre-ICO, ICO campaign, post-ICO, and exchange listing.
- With ICOs, there are risks like regulatory uncertainty, technical problems, market volatility, and fraud without legal recourse.
- Look for green flags such as transparent team members, detailed whitepaper, and active community before investing in an ICO.
What Is An ICO?
An initial coin offering is a strategy that blockchain startups and companies use to raise funds. First, the organization sells tokens in exchange for fiat currencies and established cryptos like Bitcoin or Ethereum. These tokens can represent a utility like access to certain products and services when the project is officially launched. In some cases, they can represent a share of the company.
Some Key ICO Terms
Before we explain how ICOs work, you need to understand some basic terms that usually come up when discussing them. They include:
- Tokens: Refers to cryptocurrency or digital assets issued by a company during its ICO. It often comes with benefits like access to the platform’s services and voting rights.
- Whitepaper: This document outlines the project’s vision, goals, technology, and genomics.
- Pre-ICO: A stage before the actual ICO where tokens are sold to institutional investors or early adopters at discounted prices.
- Tokenomics: Includes details on how the tokens will be distributed and used, as well as how their demand and supply will be regulated.
- Smart contracts: Smart contracts are self-executing contracts written in the form of codes. It is the technology behind the automated, secure, and restless nature of a blockchain project.
How ICOs Work
Now that you understand the meaning of some ICO terms check out how they work below:
- Project announcement and whitepaper release: Because of the details that a whitepaper contains, it serves as the project’s pitch and blueprint for potential investors. It helps them determine whether the token is worth backing or not.
- Token creation: Most ICO tokens are created on platforms like Ethereum (ERC-20 standard), Binance Smart Chain (BEP-20), or Solana. These cons can either be utility, security, or governance tokens.
- Pre-ICO: This is often accessible to individuals who are closely involved with the project.
- ICO campaign: When the project is ready, the ICO is publicly launched. Crypto users can buy the token for fiat currencies and stable cryptocurrencies. This process usually runs for about 30 days.
- Post-ICO and exchange listing: After the initial coin offering, the token is listed on either centralized or decentralized exchanges. Its value can rise or fall based on market demand, sentiments, and how successful the project is.
Risks Associated with ICOs
While they are a lucrative investment opportunity, ICOs are usually risky because they are unregulated. Some of the downsides to initial coin offering include:
- Regulatory uncertainty: ICOs function outside the traditional financial regulations. As such, some governments are against them, which can lead to potential losses if they are discovered and banned.
- Fraud with no legal recourse: The uncontrolled nature of initial coin offerings has led to the development of numerous fraudulent projects. There have been cases of a project’s founders disappearing with investors’ funds (rug pull), never to be found again.
- Technical problems: Since most ICO projects are still in their early stages, there is the risk that the technology never materializes. If that happens, investors will be left with valueless tokens.
- Market volatility: Because the crypto market is volatile, a token’s value can fluctuate dramatically. Also, the price might not reach the expected height, which can lead to major losses for investors.
Success Stories and Major Failures Of ICOs In History
Initial coin offerings are like a two-edged sword with the possibility of success and failure. One of the most successful ICOs in history is Ethereum. It raised up to 18.3 million dollars in 2014 at the rate of $0.30 per token. Ethereum then went on to be the second-largest cryptocurrency by market capitalization.
On the flipside, BitConnect was one of the most infamous ICO scams. It raised up to 2 billion dollars between 2016 and 2018 from investors before it crashed after being exposed as a ponzi scheme
What To Look For In An ICO Before Investing
There are many crypto scammers out there who want to rip people off by creating fake ICO projects. Thankfully, there are some green flags that point to a potentially legitimate initial coin offering. They include:
- Transparent team members with verifiable identity, expertise, and track record of trustworthiness.
- A detailed whitepaper that clearly outlines the token’s goals, use cases, technology, and tokenomics.
- A strong and active community.
- Partnerships with established blockchain networks.
- Smart contracts audit by a reputable third-party
Conclusion
Initial coin offerings have proven to be useful in helping decentralized and innovative projects raise capital. Nonetheless, it comes with its risk for investors. As such, it is important to thoroughly understand what a token is about before hurrying to participate in its ICO.