Cryptocurrencies Are Changing Capital Raising Process for New Companies

Initial Coin Offerings (ICOs) are becoming the new IPO

Answers can be revealed in a Bitcoin price chart. Getty Images

The traditional way of raising money for new companies involves creation of a business plan, (wealthy) angel investors, rounds A,B and even C, and then an exit strategy for those initial investors through typically, an IPO (initial public offering), in which the shares go “public”. The internet boom saw many companies that were little more than an idea embracing the capabilities of internet technology, being able to find their way quickly through the funding process and appeared (and for many, quickly disappeared) on the NASDAQ through shares that any investor could buy (and either win or lose in a big way).

Capital Markets and IPOs

The capital markets of Wall Street have long been the path that companies have taken to raise money and reward the investors and creators of these companies with equity or debt offerings. Working with firms like Goldman Sachs and Merrill Lynch has been the chosen path that most innovators have taken to make these offerings available to the general public. 

Through these relationships and with the investment bank’s due diligence, new companies offer their stock to the public at prices and in amounts that address the public's interest in these new equities. Many times during the internet and technology boom, the days that shares are initially offered to the public can see significant increases in the price of the ‘initial public offering’ that ultimately rewards those private investors in a company, the company’s creators and those investors who were fortunate enough to gain stock from their stock broker before the sale to the public.

The placing of an IPO, or initial public offering, onto the market has been the way that the average investor can gain access to high growth companies such as Facebook and Google. Additionally, there have been many other investors prior to them who have also been rewarded well for the risk they took in these companies before they went public.

Angel and Accredited Investors

Prior to going public and typically when the companies are little more than just an idea, entrepreneurs reach out to “angel investors” to raise the initial cash for their idea. The “angel investors” are usually “accredited investors” who are wealthy and fit a criteria that identifies them as investors who can “handle” a loss of capital. As most of these early investments typically lose money and never make it to an IPO or even the reality of turning a profit, angel investors and venture capital firms take on a significant risk for the opportunity to invest in companies that can reap them a fortune such as Uber, Tesla or Amazon.

The identification of these investors as “accredited investors” is a way that protects the company and informs the investor of the risks associated with these investments. It’s also a way that keeps the average investor away from these early stages of funding, when the most profit can be made for an investor. It also reinforces the old adage that “money goes to money.”

The Growth of 'Crowdfunding'

A few years ago, a new way to get involved in the startup funding for companies began to not only open the investment channels to more investors, but it allowed more entrepreneurs to “fast track” their ideas through these funding channels.

The creation of “crowdfunding” has allowed average investors to place investments in ideas and products that they feel are needed and can provide a reward for these early investors as well. Now the average investors can have their own “Shark Tank” experience and choose business ideas with an opportunity to invest and profit from them.

New products, companies, and even films and music projects have been funded by this channel. The growth of “crowdfunding” is trending to forecasts that it will soon pass venture capital as the primary source of funding for new companies. 

In May of 2016, the Jumpstart Our Startup Businesses (JOBS) Act was implemented to recognize the economic potential of crowdfunding and provide guidelines and regulations for investors to play a larger role with funding startup businesses.

Although there are income and new worth provisions as part of the Act, they are less restrictive than those regarding “accredited investors” and the rule allows for an easier path for companies to gain the alternative financing method of “crowdfunding.”

Initial Coin Offerings (ICOs)

These developments in alternative financing for new ideas and companies has not been lost on what may be one of the biggest innovations to hit our financial system, which is the growth of cryptocurrencies and alternative digital currencies. For the last few years, those in this “world” of cryptocurrency innovations such as bitcoin and blockchain technologies have been able to invest in what are called “initial coin offerings” or ICOs. 

They are similar to IPOs in that the original investment funds in these ICOs are used for funding a startup or new project, and after the fundraising, the “coins” created are then available for exchanges where they can trade for more or less than they were originally bought for. And you can think of many of these coins as being comparable to equity in a typical company.

There have been many ICOs conducted before and since the JOBS act went into place. One of the more successful ICOs has been the $18.5 million raise of capital done by Ethereum. The company conducted a sale, for their token called Ether to raise money for the technology and software, which has been the leading alternative to Bitcoin and provides a blockchain platform that many companies are implementing their applications on. The value of Ether had risen 1000% since its ICO and it continues to be a favorite of cryptocurrency investors.

A less successful one was the record breaking ICO raise of $180 million for The DAO. Seen as a powerful use of blockchain technology that created a decentralized organization that would vote on the creation of new applications on the technology, it was soon hacked after its creation. This hack required a “hard fork” from Ethereum that caused much discussion among the cryptocurrency community but which also returned much of the funds back to the original ICO investors.

The continued creation of ICOs to fund new blockchain and digital currency projects can be seen in the reality that there are now over 800 cryptocurrencies now trading on exchanges throughout the world. Many of these currencies mirror the hype and value proposition of companies from the internet era such as Pet.com and Books-A-Million, which rose to astronomical valuations during the dot com boom and which are now worthless.

However, there are also many worthwhile ventures that ICOs have funded that are providing value to the initial investors and have funded growing companies.  Factom is an example of a successful company that sought early stage funding with an ICO and through a channel called BnktotheFuture, which provides a way that appropriate investors can invest in both ICOs and equity with companies in the blockchain and bitcoin space. After an initial funding on BnktotheFuture, a second funding through its A round yielded positive results for those who invested early and the value of their FCT currency has grown over that time as well.

Creating New ICOs Easily

One of the biggest proponents of using ICOs to fund new companies and ideas is Ronny Boesing, who runs the Initial Coin Offering Openledger (ICOO). The ICOO is actually its own crypto token (traded via the CCDEK/OpenLedger platform) and also what is referred to as a "Crowdfunding 3.0" model that allows for businesses to create an ICO to fund their idea and for investors to gain returns from these tokens.

Boesing's concept is unique as he points out that when "Investing in the ICOO, you are in fact investing in all ICO's introduced on CCEDK whether they are external ICO pre-launches or ICO's on OpenLedger." It has been compared to The DAO in that it provides a decision-making process for those applications to be implemented under his concept. Boesing expects "4 ICO's monthly" and feels that by "picking the best," through this process, "there is a good chance an ICOO investor will quickly realize the value of holding this limited token."

"You do not only benefit from being an investor in numerous ICO's," Boesing points out, "you are also a holder of a token receiving revenue streams from the profits CCEDK is generating as well as the ICO subscribe services connected to each ICO."

By taking an innovative approach to ICOs and implementing a decision-making process that seems to be working, Boesing has been able to bring applications such as Obits, HEAT, and DOAHub to market. Boesing seems to be well positioned to further expand the "crowdfunding" platform along with ICOs into even more opportunities for company creation and investor opportunity.

Skepticism and Analysis Required!

Although ICOs can be an effective way for new companies to be created, grow and reward early investors, they require a healthy dose of skepticism. This means that an investor should not simply jump into an ICO based on the potential high growth that may exist in this space. Let’s not forget the dot-com bust and companies such as Pets.com.

Any investment in an ICO should be done with the same due diligence and rigorous analysis that any investment for one’s portfolio should have. An ICO should have financial projections and analysis that seemed realistic and properly compiled. The team associated with an ICO and its company should be evaluated with a view to finding proper management skills among the team as well as any past involvement with past successful ICOs and are valued and respected players in this space. This includes not only the direct employees but the list of advisors as well.

Once an investor makes an investment in an ICO, there are numerous applications that allow them to continue to track the performance of these ICOs. One of the best is Lawnmower.io, which has a mobile application that not only tracks the price of cryptocurrencies on exchanges, but it provides detailed and updated research on many of the leading currencies.

Just because there is now an easier way to invest, and potentially profit from early funding of companies through ICOs shouldn’t mean that an investor should drop their guard and invest blindly into these investments. Any time you invest your hard-earned money into an investment, whether it be a stock or ICO, due diligence and analysis are required. The good news is that the information to evaluate investments such as an ICO is available and should be consulted before any investment is made. 

NOTE: Tatar is an angel investor in various startups and ICOs including Lawnmower and Factom.