An initial coin offering (ICO) may be the investing world’s new and in some sense, improved initial public offering (IPO). IPOs, if you are unfamiliar with the term, are when a company seeks funding from the public market and become available to the average person to invest in their stock.
The general public usually doesn’t know much about upcoming IPOs, and instead they only tune in for the heavy hitters. Since the turn of the millennium, most of that hype has focused only on the biggest tech companies around: Google, Amazon, Facebook, etc. On a typical IPO, shares go for about $5 – $20, which makes it easy for a casual investor to join in the frenzy for a few hundred dollars. This has worked fine for a long time, however, investors are seeing smaller and smaller returns on investments as interesting companies are not offering IPO until much later in their life cycle.
Similar but different
Let’s dive a little deeper, and take a look at Amazon’s IPO in 1997 which launched at $400 million market cap. If you put $5,000 at IPO you would now have $2.4 million. A few years later, Google IPOed $23 billion. If you also invested in their IPO, the same $5,000 would now be worth $110,000. Now let’s look at Facebook’s IPO of $38 and a valuation of $104 billion. Your $5,000 investment in Facebook would mean you now have about $22,000. As you can see, over the last ten years, investors are getting in later and later on amazing companies, and seeing smaller returns on their investments.
It may be the lack of interesting investment opportunities in traditional markets that have investors turning to the burgeoning ICO market. ICOs work similarly to IPOs, but rather than shares in a traditional securities sense, ICOs work with shares in the form of cryptocurrency tokens (coins) — and the average return has been 1320% in the first year. That is far and beyond what is typically seen for an IPO, even amazing companies like Amazon and Google took years to see significant returns. ICOs are a tempting proposition, however, they aren’t a certainty (if they were, everyone would be doing them), and they come with their own set of risks. Let’s take a closer look at the difference between ICOs and IPOs
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Easier for smaller ICOs
Speed: IPOs are planned ahead of time with a thorough and fairly rigid process. The amount of logistics necessary to properly roll out an IPO could take up to six months (in addition to the pre-planning stages). An ICO, on the other hand, can bypass many of those steps and swiftly come to market. Similarly, transactions are made near-instantly because of the coins existing in a decentralized digital space. The result is that transactions are completed without the many layers of bureaucracy between a public buyer and the company.
Regulation: IPOs have been overseen by the SEC for decades. There’s a tried-and-true process that, though laborious at times, creates a number of safety nets for all parties, but particularly the public buyer. ICOs were largely self-regulated until this summer, when the SEC said that it would start treating ICOs as securities. The problem with that stems from ICOs being out in the proverbial wilderness before; getting a successful ICO through regulation was a lesson for all involved. Smaller (less than $5 million) ICOs can still come to market faster, as they bypass standard regulation through Regulation A. Those small ICOs represent a fast way for investors to join in, but they open the door to fraud due to a lack of regulation.
International Purchasing: Because of SEC regulations, ICOs that aren’t compliant will be locked out of raising funds in the United States. They are, however, open to coin purchases internationally. Remember, ICOs run through decentralized systems, making purchases swift regardless of where parties are physically located. Because of this, investors have a greater opportunity to purchase coins in overseas companies and vice versa.
Keep an eye out!
Shares: When you purchase a coin offering, it isn’t like purchasing shares in a company. Shareholders get notified about major decisions, receive regular conference calls, and can steer and influence the direction of the company. With an ICO, it is a speculative investment. There are some ICOs that offer profit-sharing or voting agreements, but this is not regulated in the traditional fashion.
ICOs are certainly tempting investments, especially given their reputation as a bold new frontier in the finance industry. There’s a lot of hype for investors to jump on the train while it’s still speeding along quickly — basically, before the SEC eventually slows it all down and reforms it into a traditional process. Remember, that finality isn’t necessarily a bad thing, as it does protect investors in the end. However, if you’re willing to play with some of the risks of ICOs in their current state (which includes fraudulent ICOs, so keep an eye out), the current state of ICOs represent strong profit margins and fast transaction times. At some point, this will all settle into tried-and-true processes, but for now, the sky’s the limit. Just remember, it’s a wild investing world out there, and knowledge is your best defense.
This article was written by Tiana Laurence, Author of Blockchain For Dummies (a #1 Bestseller on Amazon). She is also an investor, and co-founder of Factom Inc., a blockchain as a solution (BaaS) company.