What is an Initial Coin Offering (ICO)?

20 July 2021
Cryptocurrency is relatively new for many investors, and with this new investment product comes many new terms to learn, like ICO. So, what is it?

We’ve heard of IPOs, but what is an ICO?

If you’re not familiar with the stock market, an IPO is an Initial Public Offering. Leonardo DiCaprio fan? Try thinking of the name Steve Madden from the movie the Wolf of Wall Street. Simply, IPO offers shares of a private corporation to the public in the form of a new stock issuance to allow a company to raise capital from public investors. Investors then own a share of the company, which are usually purchased at a discounted price for initial investors, and the company goes public, allowing the public to buy and sell shares in their company on a stock exchange.

What is an ICO?

Initial Coin Offerings (ICOs) are a similar technique used by cryptocurrency start-ups seeking funding from potential investors. Although IPOs and ICOs are similar in that their goal is to raise funds for a start-up, ICOs can be perceived as a much riskier investment to IPOs due to the nature of cryptocurrency and the lack of regulation otherwise found in the Australian Securities Exchange (ASX). Investors of ICOs are essentially making a gamble that the coin that is being invested in will eventually be worth something, hoping that it will provide a return on the initial investment.

How do ICOs work?

To raise money through an ICO, a start-up first creates a whitepaper that outlines the project’s goals, the problem statement and solution that the project aims to fulfil, how much money is required for an investment, and how many tokens or the founders will keep coins. The whitepaper also outlines what kind of digital or fiat money will be accepted to purchase the coins or tokens, such as USD, Bitcoin or Ethereum.

An example of a comprehensive and in-depth ICO is e-Pocket’s whitepaper from its successful ICO launch in 2018. e-Pocket used an ICO to sell its native e-Pocket Token (EPT) to gain funding to develop its digital wallet and attached cryptocurrency exchange. This whitepaper provides all of the necessary information in a very guided and easy to understand way. It also includes clear and concise Terms and conditions in addition to the entire team that worked to develop e-Pocket, providing transparency on the team behind the technology and the legal expectations of the company and investors.

To be deemed a successful ICO, the amount of money raised will need to meet the minimum amount that the founders specify within the whitepaper. If the ICO is deemed unsuccessful, the start-up may return the money to the investors. However, this return is not regulated, unlike IPOs.

In a traditional IPO, investors receive shares of a company in exchange for the investment. Similarly, ICOs provide a portion of their coin or token that is native to the start-up. The difference between receiving coins rather than shares is that shares have an intrinsic value and have regulations implemented by the local stock exchange. In Australia’s case, this is the ASX.

Why consider an ICO?

Keep in mind that all altcoins on the Ethereum platform are essentially an experiment. ICOs attract investors due to their potential to provide considerable gains in a concise amount of time. Due to their volatile and experimental nature, these investments generally pique the interest of the investor who isn’t afraid of risk and loves the thrill of a gamble.

So, how do you make a profit from something that is essentially a leap of faith? If an ICO succeeds after the project is launched, the ICO token or coin value will increase, and hopefully, climb above the price set in the ICO whitepaper. This price climb leads to overall gains on the initial investment, giving potential for quick and robust returns that IPOs cannot typically compete with.

Scams in the ICO space

ICOs are largely unregulated, which means that government organisations such as the Australian Securities and Investments Commission (ASIC) do not regulate or oversee them. Additionally, due to ICOs being based upon cryptocurrencies, they are decentralised and vary in their structure and protocols. For this reason, it is important to undertake thorough research into the start-up and to evaluate the whitepaper critically.

This lack of regulation means that there are many fraudulent and scam ICO projects. These scams usually target poorly informed investors who are ready to take on a risky investment. It is essential to thoroughly read ICO whitepapers to ensure that it is understandable and straightforward with clearly defined goals and timelines to decide whether it is a fraudulent or legitimate ICO.

Should you invest in an ICO?

Like with any investment or contract, it is essential to read and analyse the terms and conditions set for the ICO. If you cannot find them, it’s most likely time to step away from that project. One hundred per cent transparency is of utmost importance when looking to invest money into a project if you are looking for a successful return on investment.

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This content was reviewed by Content Producer Marissa Hayden as part of our fact-checking process.

Kate is a Digital Marketing Specialist at the Australian cryptocurrency exchange, e-Pocket. e-Pocket's values surround acting as an ethical and responsible service provider to all customers and business partners, with a strong focus on making complex financial topics easily digestible.

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