How to raise money in the cryptosphere: Let us count the ways

21 September, 2019

At the time this post was written, Bitcoin was enjoying a market capitalization of more than $171 billion. That is a lot of money. Moreover, Bitcoin is just one project. Combine them all together and you could easily have a market cap in excess of $300 billion. Where did all that money come from?

Market capitalization is a representation of the total monetary value of a particular asset. It is almost always represented in U.S. dollars for the mere fact that the dollar is the world's reserve currency. So when we say Bitcoin's market capitalization is $171 billion, we are saying that the total value of all of Bitcoin's assets equals that amount.

Now, you need to know that market capitalization represents an aggregate value. Bitcoin's current market cap does not merely represent the amount of money invested in it. It also reflects the current price of Bitcoin itself. Combine all of the money put into Bitcoin with the current price of the asset and you have market capitalization.

We mention this because Bitcoin is a perfect example of why so many organizations create blockchain and crypto projects. The potential for incredible profits is there if you can push the price high enough. For a lot of project developers, the only question is how to raise the money to get a project launched.

There are currently four different means of raising money for crypto projects without going outside the cryptosphere. These are:

  • Initial coin offering (ICO)
  • Initial exchange offering (IEO)
  • Security token offering (STO)
  • Initial DEX offering (IDO).

This post will detail each of the four funding options. If you find all of this confusing, you are not alone. Funding is one of the most complex aspects of cryptocurrency and blockchain investing to grasp.

Initial Coin Offerings (ICO)

The ICO is the oldest of the four funding options. At one time, ICOs were all the rage for people looking to make a fast buck off the cryptocurrency craze. 2017 saw some 875 ICOs raise upwards of $6 billion. That is the same year that Bitcoin soared to $20,000 per coin. So what happened to the ICOs? More on that in a minute. First let us talk about what an ICO is.

An ICO is the cryptocurrency equivalent of an initial public offering (IPO) in the stock market world. Rather than offering shares of stock, the ICO offers coins. Investors looking to get in on a new project purchase coins in the hopes of realizing a significant return on investment (ROI) down the road.

What makes ICOs so unusual is that, unlike IPOs, the entities behind them do not have to prove that they are running a legitimate business with a legitimate chance of actually succeeding. They are a virtual free-for-all in which project developers can launch ICOs as easily as investors can buy the coins.

This freewheeling way of doing business eventually led to the downfall of ICOs. During the first half of 2018, more than 1250 ICOs raised some $8 billion. But that was it. Then the money dried up. Through the first three quarters of 2019, investors have only seen 84 projects raising a total of $350 million.

The problem with ICOs is that they are often fueled by greed and the desire to get rich quickly. Too many investors have been burned since 2017, so they are more cautious. Any new project hoping to raise substantial amounts of cash with an ICO now has to bring its A game. Investors have to be convinced beyond all doubt before they will put their money into an ICO.

Initial Exchange Offerings (IEO)

The IEO is built on the premise of a funding a cryptocurrency exchange by asking investors to contribute the money to get it up and running. However, the startup exchange does not initiate the offering itself. Rather, it is fronted by an existing exchange willing to help out. This sort of arrangement is designed to reduce some of the fear caused by so many ICO scams.

Let's say you wanted to start your own exchange. You might contact the company behind the Binance exchange in hopes of getting them on board. You would present your white paper and your business model. If they liked your plan, they might agree to fund your exchange. This can be done in several different ways.

Binance could provide the financing straight up using its own funds. They could also solicit funds from investors who regularly do business on Binance. They could even combine the two to create a hybrid financing project.

In exchange for the funding, your startup would have to agree to pay listing fees and a percentage of your sales for the length of the IEO. This could mean paying a fairly heavy price to get up and running, but it might be worth it if you think you can create a profitable exchange capable of competing on the open market.

Security Token Offerings (STO)

STOs are often described as a hybrid product that combines the best of ICOs and IPOs. They are a bit complicated to explain, so bear with us as we attempt to present it in a way that is relatable.

If you were to invest in an ICO, you would be purchasing tokens or coins. The record of your purchase would be entered into the blockchain and made permanent. The tokens you purchased would be stored by you in the form of keys that give you access to them. Everything would be done on the blockchain network with no need for a paper trail.

If you were to invest in an IPO, you would be buying shares in a company. Your ownership of shares would be represented by a paper certificate or its digital counterpart. That certificate verifies your ownership. It also represents that portion of the company you now own.

An STO combines these two principles. When you invest in an STO, you are not buying a coin per se. You are buying a token. That token has no monetary value in and of itself. Rather, the token represents some other asset being used as a backing for the project. The asset could be stock, bonds, a real estate fund, or just about anything else.

Unlike an IPO, no certificate representing your ownership is generated. Rather, your ownership is recorded in a blockchain ledger just as if you had purchased cryptocurrency. Your ownership of the tokens, and the assets they represent, would be controlled by possession of the keys related to your purchase.

Initial DEX Offering (IDO)

The new kid on the block is the IDO. This is a hybrid funding option based off the IEO. Its purpose is to raise funds for new exchanges, though there is a difference here. Your typical exchange is a centralized organization owned and controlled by an individual or business entity. What we are dealing with in IDOs are decentralized exchanges (DEXs).

A decentralized exchange is one built on a blockchain platform with no central ownership or authority. The blockchain, its network, and the computer nodes on the network maintain the exchange and facilitate transactions. The exchange exists to benefit all those who participate in it rather than a single owner.

Unfortunately, there isn't a lot of support for decentralized exchanges right now. The few that have tried to raise funds via an IDO have succeeded to some degree, but they haven't taken off as quickly as some expected. The good news is that all hope is not yet lost.

The small number of decentralized exchanges now in operation are at least holding their own. They face stiff competition from privately owned exchanges for obvious reasons. But private exchanges are well on their way to being heavily regulated. Once that regulation arrives, it could give decentralized exchanges a big boost.

ROI: The Common Denominator

You have learned about four different blockchain funding options for getting a crypto project off the ground. There are other options that fall outside the purview of blockchain - like venture capital, for example - but they are a subject for future discussion. The take-away from this post is that all four blockchain-based options have a common denominator: ROI.

The whole point of investing is to earn a return. It doesn't matter whether an investor is looking at stocks, commodities, precious metals, or blockchain projects. If the chance to make a return is not there, investors are not going to risk their money. This is a lesson every software developer with blockchain dollar signs in his/her eyes needs to learn.

It has been said that Bitcoin's fall from its $20,000 peak has done quite a bit to temper new projects looking for funding. The evidence suggests such assertions to be true. Anyone planning to launch a new project in the near future should realize that investors are more wary today than they have ever been. It is not necessarily impossible to raise funds, but you really have to know what you are doing, and you need to have a good idea to work with.