ICOs – separating the wheat from the chaff
Newbies in the world of cryptocurrency are often unable to spot the difference between a promising investment opportunity and a scam its design they have. The differences between legitimate ICOs and those that are nothing more than an exit scam can be rather subtle so knowing what to look out for is of paramount importance.
An ICO is a perfect way for blockchain-based companies to crowdfund in a completely decentralized manner without having to rely on a third party or an intermediary. Typically, a startup depends on a crowdfunding platform such as Indiegogo or Kickstarter to help them raise the funds they need to get things moving. These funds are then passed through PayPal meaning that there is a minimum of two mediators in the crowdfunding process. This results in increased fees, possible delays, and the chance that funds could be misappropriated.
PayPal and government interference
Let us look at the privacy-focused email service provider ProtonMail who ran a successful $550,000 crowdfunding campaign via Indiegogo. Paypal then locked the funds that were raised, on the apparent request of the government.
The ProtonMail team stated:
“When we pressed the PayPal representative on the phone for further details, he questioned whether ProtonMail is legal and if we have government approval to encrypt emails. We are not sure which government PayPal is referring to, but even the Fourth Amendment of the US constitution guarantees this right.”
ICOs are however a great way for blockchain projects to raise funds with virtual currencies such as Bitcoin and Ether. The blockchain offers complete transparency as well as total financial independence – something that an intermediary cannot offer. Funds can be raised quickly and have been known to raise millions of dollars almost overnight from undisclosed investors.
Recently, Melonport, the Ethereum-based blockchain infrastructure provider managed to raise an impressive $11.3 as well as startup Matchpool raised $5.7m within 48 hours.
What about investors?
The problem with ICOs is that as they are startups it can be difficult to demonstrate the potential of a project or provide empirical or market data. Instead, investors are expected to gamble on the future price trend of a concept that has yet to be proven.
When it comes to the public market, a direct listing is the closest equivalent of ICOs, and recently Spotify, the worlds leading streaming company, announced that it would carry out a direct listing instead of an IPO. This means that they can target private investors as well as offer less equity.
When a company opts for a direct listing, they are asked to justify the value of the company. Spotify, for example, has over 100m active users and the company has paid out a whopping $5b to musicians, composers, producers and labels. Therefore, based on the size of their user base as well as the amount of royalties paid out, investors have a pretty good idea of how much the company could be worth.
Another issue when it comes to ICOs is the fact that many startups fail to provide any real, long-term roadmaps or strategies. Looking once again at Matchpool, investors were not notified of the fact that $1.7m of invested funds would be hedged to Bitcoin. This meant that many believed that co-founder Philip Saunders was running an exit scam. If Matchpool had communicated more clearly with their team as well as their investors, it would have been known that a large portion of the invested funds would be hedged to Bitcoin and such an issue would have been avoidable.
As Bitcoin and security expert Andreas Antonopoulos explained at the Singapore Management University on March 20th,
“I’m sure there are some [ICOs] that are very interesting but at least 95% of the ICOs out there have none/very few of the basic fundamentals. Does that mean we should have a regulatory agency decide which ones are good or bad? No. It will require more maturity among investors in identifying Ponzis. The best way to learn which ICOs are worth it is to lose money. Waiting for the wash-out. When these people promise great riches, they usually mean for themselves. If you have a viable product… build it first and they will come. I do not treat these technologies as investments but learning opportunities.”
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