Initial Coin Offering Use Case

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An Initial Coin Offering (ICO), sometimes called a token sale, is the process where a new company raises funds by offering their ECR20 tokens for sale to the public on Ethereum.  Generally, they explain their concept on a website with a whitepaper and a git hub showing code development.

This isn’t Dragons Den where you need to demonstrate a real product to a panel of skeptical experts.  Many ICOs succeeded with little more than a concept, rough code and a good website.  There are so many industries that Ethereum can potentially dis-intermediate that it is easy to build hope and enthusiasm with little more than a concept and marketing.  The marketing channels are reddit, YouTube and a few websites that review ICOs, such as ICO Dragon or Concourse.

There is little to no regulation.  The smart contract to enable a token sale is almost trivial.  You set up some rules for the token sale, set a price and watch the Ethereum role in.  It sounds unbelievable but $1.1B Billion (at least) was raised in 2017 to date.

Many are earnest companies that are trying to develop technologies.  Some are surprisingly open in their disclosure of spending of their new found multi-million dollar companies (such as district0x).  Others are justifying the Lambo jokes. (Lamborghinis).  It has made a number of young programmers suddenly quite rich.  It has also caused some lawsuits, such as Tezos where the token owners are suing the company that offered the tokens for failing to deliver as expected.

The SEC are getting involved and many countries regulators are now struggling with the question of weather the ICO ECR20 tokens are securities or not.  You must buy the tokens and they can be traded on open exchanges but often the token are also a used as the companies perform their service.

Much has been written about ICO’s already so I do not plan to go into great detail in this article.

Maturity

This is one of the most mature use cases within the Ethereum eco space.  It has been among the biggest users with respect to number of transactions for Ethereum in 2016 and 2017.

Problem Being Solved

An ICO allows a company or organization to raise funds via the Ethereum network.  They raise Eth or Bitcoin in exchange for their ECR20 tokens.

How it works top level

The first part of an ICO does not involve the Ethereum network.  You develop your website and build interest in your concept via reddit, youtube and the web.  There are now several websites that review all the companies that are considering an ICO.  There are also several consultancies that assist new entrepreneurs in the process of executing an ICO.  One of them Rocket.io recently performed their ICO to finance the consultancy.  Once you have enough enthusiasm on the concept, the token sale begins.

The actual ICO takes place when the buyer sends Eth to an Ethereum address specified by the seller. This address has a simple smart contract that sends a specified amount the ECR20 tokens to the buyer in exchange.  The number is specified by the price of the token.  The number of tokens sent is always an integer.  There are no half tokens.  The sale may have a fixed time limit such that it will no accept Eth before or after.  The buyer receives the ECR20 tokens in their Ethereum Address.  The address can hold both Eth and tokens.

How ICO’s work in 2017

Since the contract is so simple, the token issuer can make their rules on price and duration of the token sale at will.  This has driven a number of behaviors with the goal of driving the amount of money raised as high as possible.  These include;

  • A fixed duration of the token sale.  The issuer makes this duration short so people have to be willing to buy during the sale
  • A market cap.  Once this cap is reached, the sale stops.  This drives people to buy early before it is all gone.  I have noticed some successful ICO’s remove the market cap if they reach it quickly, they just extend. Why stop money from rolling in, after all.
  • An increasing price.  As the amount of tokens are sold, the price per token increases.  This drives people to buy early.

This creates a FOMO (Fear of Missing Out) atmosphere and causes people to buy

How ICO’s may work in the Future

Vitalik Buterin and Jason Teutsch have made suggestions for future ICO’s to remove some of the FOMO aspects.  They mostly involve removing the market cap and allowing anyone to refund their tokens during the sale.  But of course, they cannot force anyone to follow these rules.  A token sale smart contract is just simple code written in basic Solidity language.  All that can be put forward is best practices that perhaps follow regulatory guidelines.

Under the Hood

ICO’s are a popular and a mature use case because the actual smart contract is very simple.  It exchanges Eth for tokens at a price.  The price is set by the seller, the company performing the ICO.  They advertise the price before the sale on their website so the buyer is aware of what they are getting.

The ICO contract is just used for the Initial Coin Offering.  After the sale, the contract is no longer used.  It may be destroyed by its creator

Governance

This contract is so simple and limited that there is no effective governance of the contract.  The resulting company will have its own governance issues but that is outside of the token sale.

Ideal Use Case for Blockchain?

According to Vitalik’s 5 Points how well does this use case suit a blockchain application?  Score 20/25, 80%.  Awesome!

Censorship Resistant  (5/5) – An ICO is often a big money public sale.  Bad actors would interfere if the Ethereum Network was not censorship resistant
Fraud Resistant (5/5) – This is vital here.  The network protects against fraud.
Transparency (5/5) – It is vital that all the transactions can be seen to ensure that they are all fair, within the rules of the code.
Robustness – (4/5) – While some early sales clogged the network with so many transactions, the network no going down during the sale is also vital/
Interoperability – (1/5) – Since an ICO is a short term closed event, it is not so vital.

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