There are many ways in which companies raise money for growth and expansion. An Initial Public Offering is perhaps one of the oldest methods.
Recently, the cryptocurrency industry introduced a new method of fundraising; the Initial Coin Offering.
Let’s critically look at these methods of raising capital to see what they are and how they stack against each other.
What is an IPO?
An initial public offering, IPO, is the first sale of stock by a company to the public. The sale of stock means that the company ceases from being a private one and becomes a public one.
IPOs raise lots of money that can be used to grow or expand the company.
What's an ICO?
An ICO is a fundraising mechanism used by blockchain startups to raise capital.
In an ICO, new cryptocurrency projects sell their cryptocurrency tokens to investors in exchange for fiat, ETH or BTC.
They use the raised funds to actualize their business plans. ICO investors hope that the project succeeds and the value of token rises to give them a good return on investment.
Our personal love of ICOs is going to be biased simply because we nailed our strategy and it's given us returns that we wouldn't normally see in the public share markets.
The information provided here is for informational purposes only and should not be seen as investing advice. Our opinions on this site are only that, if you are considering an investment into cryptocurrency or anything we speak about on this site, please advise a trusted financial professional first, before doing so.
ICOs are largely unregulated because most are not considered to be securities. With their increased popularity, regulators from all over the world are starting to clamp down on ICO projects, a good example being the US Securities and Exchange Commission.
The SEC announced in January that most ICOs are issuing securities and are subject to regulation.
It also clamped down on ICOs which it deems to be fraudulent.
It’s worth noting that each country has its own attitude towards cryptocurrencies.
While some clamp them down, others are unperturbed. In some jurisdictions, regulators allow them to operate.
Track record and credibility
When investing in ICOs you are literally putting your faith, trust and confidence in their white paper. ICOs are usually ideas on paper with no working product to talk of.
With IPOs, companies that qualify to issue public securities are usually well established with a track record of finances that has been confirmed by a professional audit firm.
So the differences are vast but of course, the upside potential can be greater with crypto simply because the risk is also higher.
Equity vs utility
ICOs sell tokens to investors in exchange for fiat or cryptocurrencies. Investors bank on the hope that the company will succeed and its token will appreciate. This way, they stand to make a profit when selling their tokens.
In contrast, IPO investors buy stocks which are legally binding financial instruments and the investors get voting rights. IPO investors also get dividends as a share of company profits.
Although we're still in the early stages of ICOs and the terms are continuously shifting, even some offering dividends and equity as well.
Just with digital equity and 100% digital dividends.
Duration of offering
An ICO is the fastest method that blockchain startups use to raise capital.
Ever since the first ICO by Mastercoin in 2013, blockchain companies have raised billions of dollars in capital. The duration and simplicity of ICOs is what makes them tick.
Most run for a month, although a good number of them hit their funding targets within minutes.
Access to offerings
Blockchain startups using the ICO model to raise funds have the advantages of accessing the raised funds immediately after the ICO is completed.
Once the project hits its funding goal, the company will distribute the newly minted coins. It then lists the coin in an exchange for live trading.
With IPOs, it takes longer to for the company to access the raised funds due to the rigorous processes involved.
Role of VCs in ICOs
Venture capitalists have their place in IPOs. They tend to invest early as seed investors and sell their stake after the IPO.
In the ICO space, venture capital funds are starting to see the efficacy of crowd sales. They are not joining in as typical investors but as value add investors.
In fact, projects are looking for VCS to connect them with strategic investors. In other instances, VCS provide advisory services.
What are the major differences between ICO and IPO?
An IPO is technically different from an ICO. It’s basically a funding mechanism for established companies that have years of experience, a track record and a prospectus.
They also have to undergo a rigorous process to be allowed to raise funds in an IPO. An ICO is for young blockchain firms that have no track record or experience to talk of. Most only have a white paper and no working product.
Here are some major differences between the two:
The main objective of any ICO is to raise funds for growth. Most start-ups hold ICOs to raise money to enable them enter the market. This is not the case for IPOs.
As IPOs are a preserve of well established firms that are financially stable, their main objective isn’t to raise funds. Companies hold IPOs to expand their scope or simply cash out as early founders and investors.
Because ICOs are not regulated, they do not follow any rules or regulations and each company can conduct them in their own style.
This is not the case with IPOs, which are under strict supervision from a number of regulators. They have to follow a well laid out procedure.
All companies eyeing an IPO launch need a legal document called a "prospectus." The document outlines the finer details of the company and the IPO.
On the other hand, ICOs are not bound by any legal document. Most companies launching ICOs only have a white paper that outlines how the team plans to execute their idea.
Credibility and history
Launching an IPO is not a straightforward exercise as there are various requirements that a company must fulfil to be allowed to launch one. One of these is a track record of earnings, to be confirmed and verified by a professional auditing firm.
On the contrary, companies wishing to launch an ICO are not required to have a track record or to follow any regulatory framework.
Efficacy on offer
Investing in an ICO doesn’t give ownership rights to the investor. In IPOs, however, an investor gets to own a fraction of the company and are entitled to dividends.
IPOs gives their investors a chance to earn some dividends once the company makes some profits. For ICOs, the main utility is access to the platform and the chance to make profits through sale of tokens once their price rises.
The process of launching an IPO is lengthy and time consuming as it involves many procedures. On average, it could take up to 1 year and that is very optimistic.
Compared to the IPO process, an ICO process is short, usually taking a month after the launch of a white paper.
Generally, an IPO targets both institutional and retail investors with retail investors taking up a small fraction of stock. An ICO is open to anyone with an internet connection.
Ease of access
When it comes to IPO investing, companies insist that investors should be residents of the country where the company is domiciled. With ICOs, any investor from any part of the world can participate (sometimes US investors aren't allowed.)
Between the two, an ICO is the easiest to access.
As ICOs aren't regulated, they are risky. Unfortunately, investors do not own any part of the company as tokens are not securities. IPO investors get a legal backing in case of any irregularities as investing in IPOs involves lawyers and contracts.
Stage of fundraising
To issue an IPO, companies need to have been in operation for some number of years. They also need to have strong track record of finances.
ICOs are for early stage start-ups that have an idea they need to implement and take to the market.
Investor requirements/ eligibility
ICOs can be accessed by virtually anyone from any corner of the universe. Some projects are not available in some countries because of regulation.
In contrast, IPOs are not for everyone. Most companies have a list of accredited investors, mostly institutional investors, and retail investors take up just a fraction of stock. Most companies see this as a way of shielding retail investors from excess risk.
For IPOs, companies follow a complex formula that evaluates by the value of the company to settle on the price of a stock.
In contrast, ICO companies do not have assets to talk of. They only have a white paper.
Companies issuing an IPO can do so using two price models: fixed price or book building, which is essentially a ”bid” model.
ICO owners on the other hand incentivize early investors by giving them discounts and the price of a token is not usually the same for all investors. With most ICOs, the sooner you invest, the lower the price of tokens.
Which is better?
The pricing of ICOs is far better than that of IPOs. First, incentivizing early investors creates a demand for the token and helps the company reach its funding goal much faster.
In some cases, ICOs raise the required funds in seconds, thanks to their pricing model.
What the future holds
Without a doubt, most companies will be interested in a funding mechanism that is simple and hassle free yet effective. An ICO is proving to be that.
IPOs are lengthy and subject to strict regulations.
In a nutshell, the future of ICOs seems brighter than that of IPOs. It wouldn't be a surprise if ICOs become the new standard of raising capital in the near future.
Of course, there will likely be more regulatory oversight but the idea of digital tokens and equity just makes more sense.
ICO Vs IPO: Conclusion
For companies that don’t want to share their equity with investors, ICOs are the best method of raising capital. All they give is a token with a promise that the company becomes a success and the price of the token rises.
However attractive ICOs might seem, they are largely unregulated and this is a major drawback as regulators are moving in to clamp down ICOs.
The IPO on the other hand is more secure and structured. Companies issuing IPOs have to follow strict guidelines and regulations and the process is lengthy.
Question: Are you in need of an investment that can bring a quick return on investment?
The ICO is your friend then.
However, it’s worth noting that ICOs are risky investments and the returns are not assured.
If you are hesitant on taking up too much risk, invest in an IPO.
You’ll make small but steady returns in the long term.
Which Is The Victor?
With more start-ups looking for quick capital to start and grow their businesses, ICOs are becoming the most popular method of raising funds. (Check out our guide on everything ICOs here.)
It has so many advantages that the modern company can benefit from, including the ability to raise funds from a global pool of investors.
While IPOs have been around for a while, ICOs seem to be the best fundraising model for the modern start-ups in the blockchain space.
It’s not a surprise that ICOs have raised billions of dollars in months. We're still bullish on the ICO space as a whole.