The world of cryptocurrency is a vast one, featuring a wide array of coins that you may want to add to your crypto wallet. But while you can focus on buying XRP, Ethereum, Dogecoin, Bitcoin and other well-known options, you may also see a different kind of opportunity in the broader crypto landscape: initial coin offerings (ICOs).
Whether you’re new to cryptocurrency investing or simply haven’t looked beyond the popular, headline-grabbing coins that are traditionally available in exchanges, it can be a wise part of your investing strategy to explore new options. If you’re interested in buying coins as they’re released — and before their values have had a chance to skyrocket — check out this quick beginner’s guide to initial coin offerings.
What Are Initial Coin Offerings?
An ICO is essentially a capital-raising venture designed to help a company launch a cryptocurrency or blockchain environment. They’re traditionally used by startups that need to raise money for something. People buy into the ICOs, which gives these businesses access to funds to complete their projects and, ultimately, launch them. They allow companies to secure much-needed funding to ensure they have enough to see a project through and launch the blockchain environment or cryptocurrency they’re designing.
Generally speaking, there are two types of initial coin offerings. First, there are private ICOs. Only specific investors are allowed to take part in this type of ICO. In most cases, that means sales are limited to accredited investors, such as large financial institutions or individuals with significant net worths.
Second, there are public ICOs that anyone is allowed to invest in. Net worth or company size isn’t a limiting factor in participating. However, it’s important to note that public ICOs aren’t as common as private ones, mainly because of regulatory concerns and the desire to maintain high initial investment requirements.
How Initial Coin Offerings Work
As mentioned above, ICOs are a way to raise capital. The company that’s launching the ICO needs to have a business plan in place. It should also prepare marketing materials that outline what the business is hoping to accomplish once it has the required funds.
Along with attracting investors, companies using ICOs need to create tokens that represent assets or utility within the currency’s associated blockchain environment. These tokens don’t usually represent ownership stakes. Instead, they represent the ability to use the platform for its intended purpose at a later date — sort of like a reservation.
As the company attracts investors, it offers tokens in exchange for an initial investment of capital. Then, when the company has the needed funds, it can create its product or service and launch them, giving investors a place to make use of the tokens.
For example, imagine a company is launching a dog-walking platform. It plans to incorporate an internal payment mechanism that’s secure and proprietary to facilitate payments between dog owners and dog walkers. The company has decided to use a blockchain environment and is creating a crypto coin called PupWalk for payments.
However, to make PupWalk a reality, the company needs money to pay for everything in the development process. While it could look for investors using traditional approaches, the business doesn’t want to use ownership stakes in the company itself to make its dream a reality — that’s the way traditional stocks work. Instead, the business decides to go with an ICO.
After creating any needed business plans and marketing materials, the company can request payments from those interested in the service by offering PupWalk coins to people who opt to invest. By doing so, the company will be able to get some coins into circulation, generating interest and, potentially, increasing the value.
People who invest are essentially hoping that, by getting involved early, they end up with a coin that’s far more valuable than the price they effectively paid. That way, they can use it to accomplish more on the associated blockchain environment than they’d be able to do if they waited and had to spend more to invest in the coins after launch. Or, they can sell the coins for a profit if the new cryptocurrency rises in value.
While ICOs are typically launched by startup companies that need capital for a blockchain or crypto project, established businesses may also go down this road if they need capital for a similar project. That’s just rarer; companies that are already generating capital may have access to other fundraising options that are simpler to use and navigate.
ICOs vs. IPOs: The Similarities and Differences
ICOs and initial public offerings (IPOs) are both avenues for raising capital. Where ICOs offer tokens in exchange for invested money, IPOs are tied to stock shares. As a result, when you get involved in an IPO, you typically end up with an ownership stake in the company.
Additionally, the way you can acquire tokens is different than acquiring stocks in most cases. For example, stock purchases usually require you to spend fiat currency, like U.S. dollars. However, with ICO tokens, you may be able to spend certain cryptocurrencies, such as Bitcoin or Ethereum, to make a purchase instead.
There are also differences in the kinds of companies that can launch IPOs vs. ICOs. With an IPO, a company has to be well-established and have solid resources even if it’s relatively new. That means it isn’t a viable option for many startups, particularly those that are still developing their first product or service. For ICOs, companies don’t need the same kind of longevity, level of activity or even an existing product or service. In some cases, just proof of concept or proof-of-stake is enough.
As a result, ICOs are riskier investments than IPOs. There’s no guarantee that a token through an ICO will ever have meaningful (or any) value. That’s because the project may not even reach full completion even after the money is raised. Additionally, there’s nothing functionally backing the token. While an IPO allows you to buy an ownership stake in an established company, ICO tokens are mainly a reflection of your faith in an idea.
How to Participate in an ICO
If you want to purchase tokens through an ICO, there are two initial steps you’ll need to take. The first is doing research. Along with identifying upcoming ICOs, review any available documentation to learn more about the project, the company and whether either is generating any interest.
When you find one of interest, determine how you can make the purchase. You may need to sign up with a cryptocurrency exchange to acquire the right cryptocurrencies – if you haven’t already – and establish a wallet that can receive the tokens.
Once you’ve handled those preparation steps, you’ll need to sign up for the ICO. Exactly what you need to do to register can vary based on the project at stake, so you’ll need to review the company’s ICO documentation to find out more.
After registering, make sure you can cover the purchase using an approved crypto or fiat currency. When the time comes, you’ll initiate the trade using the procedures set forth on the exchange or platform. Ideally, the tokens will then move into your wallet, making them ready for future trading or purchasing the associated company’s products or services.
