Initial coin offerings (ICOs) vs initial public offers (IPOs)

One of the interesting innovations coming out of blockchain is known as the initial coin offering or ICO in short.

It is in many ways similar to the traditional IPOs (initial public offerings) that happen in our stock markets when private companies decide to raise money from the public by selling a stake of the their company through shares.

In the end, the private company raises money for expansion while giving the public an opportunity to own a stake in the company.

The whole process is well established and in our country it happens through the Nairobi Securities Exchange under very tight regulatory watch from the Capital Markets Authority.

The regulator ensures that both the company and investors’ interests are safeguarded from common risks such as fraud by demanding stringent licensing requirements from the players in the market.

ARBITRARY VALUE

Whereas this is good, it has the disadvantage of shutting out a huge number of potential investors as well as smaller companies from exploiting capital from the public.

Initial coin offerings seem to have the solution to this challenge.

ICOs are IPOs – without the centralised management and regulatory frameworks that we are familiar with in the stock markets.

Powered by blockchain technology and cryptocurrencies, new startups are accessing huge amounts of funds from both local and international sources in very short time spans.

What one needs to set up an ICO is simply to create a new blockchain-related project and a new cryptocurrency. After that, one needs to convince investors to buy into the project by acquiring shares through crypto-payments.

Since the new crypto would not have any value at the initial stage, the project owners would propose an arbitrary value pegged on existing cryptos. Once in operation, the project would find its true market value through the normal supply and demand dynamics.

GLOBAL REACH

For example, I could set up a “Walu_Project” powered by a “Walu_Coin”. I would then ask investors to buy one Walu_Coin at the price of, say, Sh100 - but payable online through some existing crypto like bitcoin.

So the investor simply needs to be convinced that the Walu_Project has some promising future – based on whatever it is the project has set out to achieve in its prospectus, commonly known as the Whitepaper.

Since the ICO process is online and global, one can potentially source funds from a very wide audience, with the possibility of raising billions of dollars in capital.

Of course, ICOs come with their own inherent risks.

For example, the project owners may decide to shut down the company and head to Mombasa or the Bahamas for holidays after a very successful ICO. Investors will have nowhere to go for compensation, since the whole process is non-regulated.

KENYAN STARTUPS

But, on the other hand, if one invests in a solid ICO project, it can become a win-win situation for both investors and the startup company. The company would have an easy way to access financial resources needed to expand or scale up to better serve a global market.

There are a couple of Kenyan startups that have gone the ICO way, and this is encouraging. However, investors must do due diligence on the nature and viability of the project as well as its team members.

Additionally, investors must interrogate the project by asking whether what it aims to achieve cannot be achieved WITHOUT blockchain and cryptocurrencies.

In other words, could the project be a scam shrouded in high-tech buzzwords or is it indeed the next Google or M-Pesa waiting to happen?

Mr Walubengo is a lecturer at Multimedia University of Kenya, Faculty of Computing and IT. Email: [email protected], Twitter: @Jwalu