An Initial Coin Offering is a method used by cryptocurrency companies to raise funds for further development of their project by offering their new cryptocurrency at an appealing price to potential investors.
Think of ICOs as the cryptocurrency version of private investment rounds and IPOs (Initial Public Offerings). They’re nothing more than methods used by businesses to raise capital to develop their products and expand their operations.
Through this guide you’ll learn about the different types of ICOs, how to analyse a cryptocurrency project to determine if it’s worth investing in and what precautionary measures can you take to ensure that your funds are as safe as possible.
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Let’s get started!
So far, what we’ve heard of ICOs is that the friend of a friend got rich by investing $100 in some strange new coin and now it’s worth $100,000, right?
Well, the good news is you’re not crazy, this is 100% possible but what no one says is that it's also possible that those $100 become $0 and the worst part is when it’s not just $100 but far much more.
There are several ways to understand and mitigate the risks associated with ICO investing but it will require you to wear a nice hat and become a Crypto Sherlock Holmes version. Detailed analysis and trust issues will become your best friends.
Before we get to analyzing cryptocurrency projects, we need to get some basic concepts out of the way as they will be extremely necessary to differentiate good projects from bad ones.
Understanding the different types of cryptocurrency will allow you to understand what people are selling to you as not all cryptocurrencies are the same, a Coin is very different from a Token. Here’s why:
- Bitcoin or Ethereum have their own different Blockchains, they don’t depend on any other one to function. If the Ethereum network goes down, Bitcoin doesn’t stop functioning
- BAT (Basic Attention Token) is a cryptocurrency token native to the Ethereum blockchain, meaning that if the Ethereum blockchain ceases to exist then BAT will share the same fate
Thanks to the reasons mentioned above, we can conclude that there are two types of cryptocurrencies:
- Layer 1 - They have their own Blockchain and they’re not dependent on another one to operate
- Layer 2 - They’re built on top of another Blockchain and they depend on it to operate
Now you know! If someone is selling an Ethereum Token, they’re not building a Blockchain for it, they’re doing it on top of the Ethereum Network. Later on you’ll see the importance of this when we get to analysing projects.
Types of Tokens
There are several types of Cryptocurrency Tokens, the most common ones are Utility Tokens and Security Tokens.
Before we get into details I want you to hold something in your mind: One thing is the formal classification of Tokens (utility, security, etc) and one thing is the real intention of the team behind the token. I’ll pick up on this point right after the types.
According to Merriam-Webster dictionary, a security is:
- An instrument of investment in the form of a document (such as a stock certificate or bond) providing evidence of its ownership
So, using this definition we can conclude that a Security Token is nothing more than a token being used as a security (a share of a company for example) of monetary value.
A cryptocurrency project can create Security Tokens that act in the form of shares and pay dividends to investors every quarter, to be more specific in this case we could call them: Equity Tokens.
There are other types of Tokens such as tokens that are backed by assets and act as a mirror of their price, for example creating a Token that tracks the price of a Platinum ounce would be then an Asset-backed Token.
Another example of an Asset-backed Token would be the recent initiative that Binance took to allow trading tokenized shares of major companies, in simple words they are nothing more than Tokens that mirror the price of the real asset (shares in this case).
A utility token is a type of token that is not designed as a store of value but rather a functional part of an ecosystem which requires its use for several tasks. My favourite example of this would be the Basic Attention Token, here’s how it works:
- A web browser called Brave allows displaying some advertisements to its users
- In order to display ads, a publisher needs to purchase BAT and pay the cost of his campaigns
See? There is a clear use case for the token inside the Brave ecosystem, that’s why it’s called a utility token.
This is by far the most common type of cryptocurrency token, specially because setting up the legal framework for launching it it’s very easy in comparison to offering Security Tokens, so beware, a lot of companies offer “Utility Tokens” that actually have no real “utility” and they’re just doing it because it’s easy and allows them to raise funds. In many cases, those funds will go to mediocre projects.
NFT stands for Non-fungible Token, which is just a fancy way of saying: Unique Token.
Think about Bitcoin for a second, is 1 Bitcoin different from another 1 Bitcoin? Of course not, and the reason is that Bitcoin is a fungible coin.
NFTs are still at an early stage, but they present huge opportunities, such as being able to assign unique blockchain identifying records to things, for example:
- Title Deeds
- Identity Documents
There are millions of potential use cases, but at least for what it concerns us during this guide, NFTs don’t play a big role on ICOs, yet it’s still very important to understand the value behind the technology as perhaps, the company you are about to drop some cash into it’s a new NFT trading platform with their own native currency and a promising future.
Stable coins are tokens designed to mirror the price of fiat currencies inside the cryptocurrency markets. The most notorious one is USDT (Tether).
There are several types of stablecoins such as:
- Fiat-backed stablecoins: the ones that are backed by fiat currency such as (USD, EUR, etc)
- Crypto-backed stablecoins: the ones that are backed by cryptocurrencies such as (BTC, ETH, etc)
- Non-Collateralized stablecoins: the ones that are backed by nothing more than the algorithm that they’re built upon which automatically regulates and maintains the price.
In this category we can definitely put all coins that have no reason to exist but rather stupidity, fun, jokes, etc… For example:
- Dogecoin (A coin based on a meme)
- Dogelonmars (A coin created to mix Doge with Elon Musk and Mars….)
- Useless Ethereum Token: (I know, sounds like a joke but it’s real, someone built this long ago as a joke and raiked $200K)
These ones have no use case, yet it’s important to have them into consideration as remember that trading is not sometimes about what makes sense but rather about sensing stupidity in the masses and riding along with it.
The power of stupidity is so vast that if tomorrow 100,000,000 humans decided to use Dogecoin as their primary currency, we could end up in a world where DOGE is the new currency.
Now that you learned everything about the different Token types, let’s pick up again where we left. Remember what I said about being careful of the real intention behind the Token?
Well, the issue is that a lot of cryptocurrency projects create useless coins that look like they have a use case but in reality they don’t, they were just not able to come up with the requirements to create a security token.
Be very careful with understanding the real intention of a Token and if the use case makes any sense at all. If somehow you’re looking at a project where there is really no reason to buy their utility token, you’ll likely lose money.
How do ICOs Work?
This part is very straightforward and simple:
- Investors pays with fiat currencies (USD, EUR) or major cryptocurrencies such as Bitcoin or Ethereum
- The company receives funds and gives back to the investors their brand new coins or tokens
- At some point those new coins or tokens become listed in either centralised exchanges (Kraken, Binance, etc) or decentralised exchanges (Uniswap, etc) and investors have the option to sell their stake or hold it.
There is really nothing more to it. The complexity here lies on whether a project is legit or not and if they’re actually distributing their tokens, building their proposed idea, etc.
Keep in mind (specially if you’re new to ICOs) that most of the people invest in ICOs with the expectation of making money. In most of the cases they don’t care or are emotionally attached to any project even if the proposal is saving baby pandas. People want money, investors want money and all of them are dropping money on an ICO to be able to cashout at a later point, if anything, that’s the only objective.
Types of ICOs
ICOs are split usually in two phases (at least from the investor’s point of view, which is the one we care about):
To give you an idea of what happens with a Private sale, here’s an example:
If I decided to launch an ICO, i’d do this:
- Write a Whitepaper with my idea
- Define my cryptocurrency’s specifications
- Set up a website
- Open a company
- Start calling investors and close a deal with them to offer them tokens at a discount
As simple as it sounds, in a few steps I'm already running a Private Sale with a few acquaintances.
Next, after getting some cash, I'll deploy an ICO dashboard on my website and launch paid marketing campaigns, which would allow me to bring in revenue. This part is nothing more than a public sale.
After selling out the predetermined amount of tokens for both private and public sales, I'll proceed to list the token on either a centralised or decentralised cryptocurrency exchange.
Analyzing a Cryptocurrency Project
And we’ve made it to the most critical part of this guide, the part that ensures you can objectively determine whether a cryptocurrency project is worth it or not.
Let’s start by the list of most important aspects you should consider and any tips associated to them:
- The Idea (Whitepaper)
- Use cases
- Business plan (if applicable)
- The team
The Idea (Whitepaper)
Some ideas are amazing, others are just plain stupid and sound nice. Let me give you a nice example of what this would look life in a real life scenario:
- I had a brilliant idea! I will create a platform that allows people to send each other encrypted messages and they will pay using our own ethereum token a monthly subscription fee of $5.
This idea is plain stupid, here’s why:
- WhatsApp is already doing this for free (through a centralised platform of course..)
- The brilliant idea is not a blockchain project, it’s just a website with an app on the back (exactly like Whatsapp) that instead of using normal payment processors to accept U.S Dollars, is choosing to accept their own token.
What is this project? A simple answer: garbage! It’s literally just giving money to a bunch of anonymous broke kids that are trying to get rich through an ICO.
Some ideas are stupid, others aren’t. Now let’s try to smartify this idea a bit:
- I had a brilliant idea! Let’s create a new blockchain that serves as a decentralised messaging application. Miners will get paid to process encrypted messages, users will be able to send messages without relying on Mark Zuckerberg reading their whatsapp chats and they’ll finally have privacy. Messages will have a cost of $0,00001 to send and miners will process them at that fee.
See how it sounds better now? It’s still not a good idea and requires a lot of improvement, but look at the difference between both:
- Our first idea is just a bunch of kids that want to get rich and simply write a couple lines of code in the Ethereum blockchain, issue a token and start taking people’s money!
- Our second idea is a well thought project with the intention to change the world and give people privacy, build a whole new blockchain, etc.
Bottom line, pay attention to the idea, some ideas are brilliant, others are stupid and others are just designed to look brilliant while being incredibly stupid with the sole purpose of taking your money.
Here’s where things get complicated, and a lot.
A use case means that you can actually do something with the token, right?
Well, yes and no. If the action you can perform is completely useless and irrelevant, it still has a use case, but we could call it then “useless case”.
Remember that when it comes to Utility Tokens, we’re talking about the easiest type of ICO project to set up, literally you could go and set one up in 3 hours and make it look a bit “decent”. You gotta be careful with this one.
Let’s use our negative / positive example approach to understand what a good use case looks like:
- One of my favourite use cases is found in BAT (Basic Attention Token). It’s use case is simple: are you a person interested in advertising through our browser? Well, buy the damn BAT token to pay for your Ads! You’ve got no choice if you want to reach our 30 million monthly active users.
That’s a smart use case and actually FYI, internally, there are far more use cases for BAT within their Ecosystem, but I just picked this one because it’s brilliant from a business standpoint as it ensures demand for the token.
Demand, Demand DEMAND! That’s the keyword here. The use case is responsible for driving the token’s demand.
It’s more than clear that the advertisement industry is huge, and advertisers are interested in reaching highly targeted audiences at the best cost possible, having said that, ask yourself: If you’re an advertiser and you need to run a Blokchain campaign, wouldn’t you want to reach Brave’s 30 million users? Well! HELL YES! So go buy BAT then, and BAM! That’s a use case.
Now, let’s look at a completely stupid use case:
- I had a brilliant idea! Let me create a blog where you need to pay $5 a month to read it but you can only pay it using my own token, and the blog will have the same content as any other blog.
Get the point? Some ideas are stupid and won’t drive the demand of a token. No demand, equals no price action, which in the end, equals a token losing all of its value.
The business plan can be heavily tied to use cases most of the time, especially when a token is mostly meant to be used inside a platform or interface.
A token with a solid use case will drive demand, but if the business plan is not solid as well to allow the platform to scale efficiently, then you’re back at square one, the token will lose it’s value.
If you visit the cryptocurrency project’s website and see that they’re just a bunch of kids with no prior experience, then here’s what can happen:
- Their idea is so amazing that eventually some experienced minds will join and hep build and amazing project
- Their idea is crap and no experienced minds will join, they’ll try to build it themselves and struggle during the process
In some cases they will succeed, in others they won’t.
An experienced team is a MUST when investing in new cryptocurrency projects at this current stage of the industry. Don’t be afraid to investigate all the members of a project.
Tokenomics is the crypto jargon for Token Economics. It’s nothing more than an overview of the specifics behind a particular coin. Here are some of the standard values that you need to evaluate:
- Maximum Supply
- Current Token supply
- Future Token supply
- Token Distribution
- Big Holders
- Vesting Rules
Let’s get started:
The importance of understanding token supply can be appreciated by using an economical standpoint. Scarcity or rareness tend to make any resource far more valuable than something easily found everywhere.
If you check your right ear, will a pound of gold fall off it right now? Well, sadly it won’t! Gold is a precious metal with a high demand and is scarce, hence it’s elevated value.
When applying this logic to cryptocurrency we can easily understand that:
- The higher the maximum supply of coins, the lower the potential value
- The lower the maximum supply of coins, the higher the potential value
Let’s take a look at two real cases using data from CoinMarketCap:
See the difference?
When investing in a cryptocurrency (regardless of it being active or an ICO) have the following consideration:
- Is the maximum supply multiplied by my expected target price realistic?
For example, I've heard people say that Cardano could be worth $1000….
For that to happen, we need to ditch all currencies on the planet, make sure that Cardano is the only payment method, commodity, all of it and well, maybe then we could reach $200 price.
Having Cardano at $1000 would mean that the total market Capitalization of the coin would equal to this number:
When you need scientific notation to express it, you know that something went wrong here, as this means that Cardano’s market cap would need to be larger than the whole value of planet earth’s economy.
So remember, the lower the maximum supply, the better the price potential and always calculate realistic numbers by checking the total supply of any coin.
Now you know, when investing in an ICO, if you see the maximum token supply is 45 quadrillion tokens, don’t expect the price of the token to reach $50, it doesn’t make sense.
Future Token Supply
So far we reviewed the maximum total supply of a coin, but in some cases, the maximum supply is not capped, meaning that more coins can exist in the future for whatever reason the project chose.
Be sure to investigate if your cryptocurrency or token has any plans to increase or decrease the supply in the future as this can affect the value drastically.
In the cryptocurrency space one of the most beloved actions is token burns, which simply means the destruction of a particular amount of coins to decrease supply. Such activity tends to have a positive impact on prices and it increases scarcity.
In nearly all cryptocurrency projects, you’ll always see some sort of pie chart that explains the distribution of their token, for example:
In a project with a total supply of 10 million tokens, they may choose to use 2 million for the public sale, 3 million for marketing and 5 million for recreational activities.
The last part of the previous example is a joke, if you see a project saying that… Run away!
Taking a look at how a project plans on spending the money can give you an efficient overview of whether their head is positioned correctly or up their rectums.
- A 40% token spend on marketing for a project that doesn’t require marketing over the long run but rather development can signal a company that is not looking to build a product but rather make money with their ICO.
- A public sale amount of 10% of the total supply should scare you as it means that the company is in control of over 90% of the token, which means that they can crash or pump the price as they please, there is no democracy.
Remember, an efficient token distribution signals healthy business planning which in the end results in amazing projects being built.
Remember to trust your intuition, when something looks stupid, it’s because its stupid!
In the previous point, we mentioned we wouldn’t want to be dealing with a company that keeps 90% of their token supply as this would mean they hold total control over it, right?
Well, the same applies with investors!
If you see during an ICO or a recently launched project that the majority of the token supply is being held by 3 wallets, then you’re definitely in trouble!
You want to make sure that you’re investing in a project that decided to set a rule to not allow massive investments in their token sale, otherwise whale investors can crush prices when selling their positions.
The same logic used for big holders applies for the team and big investors. In all cryptocurrency projects, team members tend to receive tokens at a discounted rate as their compensation for working and believing in the project. The rules are simple for this case:
- The longer the vesting, the safer the project
- The shorter the vesting, the riskier the project
If you see a project that has a 3 months vesting period and then all tokens of investors and team members become released, you’re in trouble.
The moment their tokens are ready to sell, if all of them decide to execute an order they will crash the price of the token.
To stay safe, check the vesting rules as in the end, the longer the vesting, the bigger the commitment of the team and investors in the project.
There are many more aspects to watch out for when choosing a project such as:
- Social media presence
- Telegram Community
- Which influencers are talking about it?
- Where is the company based?
You can find thousands of soft spots to press on and investigate a project as much as you can, remember, the more investigation, the safer the outcome for yourself.
Nonetheless, even if everything sounds right, you can still make a mistake and get scammed as sometimes scammers can go a long way to trick people into giving their money away.
There is only 1 strategy against this and it’s called:
Never, NEVER, EVER go all in one cryptocurrency project. Just because an ICO looks nice and ticks all the boxes it doesn’t means you should invest your life savings into it.
You should only invest an amount of money that you could throw out of your balcony and watch it burn while smiling (meaning, you don’t care about losing this money).
To be a successful investor you must use all your senses to evaluate a project and deem it worthy of your money or not.
As a final thought, remember, a stupid idea, will remain a stupid idea and it’s not worth your time. Even if you see 10.000 people excited with it, it doesn’t mean you need to join the club, when it comes to ICOs just walk away and find a better place for your money.
Needless to say there are people that traded Dogecoin and got rich, and yes, that is possible. If the whole world goes crazy and says that DOGE is the future then you might as well take the risk, but it’s only recommended to diversify that risk and ensure that you know what you’re doing once you have the right level of experience to profit from stupidity through trading.
When it comes to ICOs, it’s never a good idea to walk into stupid ones as cashing out, may not even be possible.