Blockchain venture capital funding has grown in numbers since the boom of cryptocurrencies and ICOs. There is a registration growth in dedicated blockchain venture capital. ICOs took the world by a storm. 2018 have dwarfed 2017 numbers, raising nearly $12 billion, according to Coinschedule. This could be a signal that investments in ICOs are not dead just yet.
Many ICOs, if not the majority of them, have ended up “losing money” for their crowd sale investors in the short term. That is considering the full ICO cycle, the tokens emission to exchanges, and their current market value. However, should an investor expect fast returns when investing in a startup?
Traditional Venture Capital Investment in Startups
Expect early-stage investment to attract risk-loving angels and VCs, and later-stage fundraising to appeal to risk-averse financial institutions. The venture capital and the entrepreneur agree on the valuation of the company. The deal terms are customarily set based on that valuation and negotiation between the parties.
The Form of Venture Capital Investments
In a contributed piece to Forbes by Mike Sullivan and Richard D. Harroch they explain three types of venture capital investments.
The first is a convertible promissory note. The company issues a note that is later converted into stocks in future funding rounds. It usually comes with an interest and a maturity date of 12 months. There is no company valuation at this stage, and the investor will ask for a discount when the note converts into stocks in the next funding round.
The second option will be a convertible preferred stock investment. The convertible preferred stock is a preferred stock that comprises an opportunity for the owner to convert the preferred shares into a set number of stock shares, ordinarily any time after a planned date.
The third option, which resembles the ICO model the most, is the “SAFE” route. The SAFE investor gets the future shares when a priced round of investment or liquidation event occurs
The name might ring a bell because it resembles the “SAFT” agreement that is typically signed during an ICO private sale stage. A SAFT agreement stands for Simple Agreement for Future Tokens.
How to Kill a Cryptocurrency – Blockchain Venture Capital Exit Plan
The lack of regulation in the blockchain startup investment space had a significant contribution to the so-called “Dead Projects.” Needless to say, we are witnessing some fantastic projects that are rocking it like EOS and Ethereum to name a couple. Yet, we’ve witnessed many “pump and dump” tactics executed post-ICOs. These have resulted in a massive decline in the value of tokens. Blockchain venture capital or angel investors are buying large amounts of tokens at a discounted rate during the private sale stages. Many of them end up selling soon after receiving their tokens. They attempt to exit. That results in a price drop. It should be noted that not all blockchain venture capital funds practice this flow. Many of them are following a long-held position.
The ICO Crowdsale Investor Experience
More times than not the exit strategy of blockchain venture capital, angel investors, or family office leaves crowdsale buyers with no chance to make a profit when trying to sell their new tokens. That is unless the project carries through its roadmap, succeeds in mass adaptation, and industry disruption to name a few milestones. Under these circumstances, the value of the token can potentially start seeing a price gain. Nevertheless, this is a long-term strategy. In many instances, the only option for a crowdsale investor wishing to exit profitably is holding a “dead coin” post-ICO. “Dead Coin” holders need to allow the company to work, grow, and potentially allow the token to regain value. This is a long-term process.
Do Startups Yield Fast Returns?
Let us examine some stats from the traditional startup investment cycle. According to CBInsight only 46% of companies that have raised seed money went on to raise additional funding rounds. 70% of the startups that have raised seed money between 2008–2010 ended up dead or self-sustained.
Not an exceptional outcome for seed investors. This data is monumental to understand that seed investments are risky. Moreover, it takes start-up companies time to run and grow their operations. As mentioned above only 46% of seed funded companies ended up raising series A. According to TechCrunch, there were more than 16 times as many companies that took the acquisition path compared to going public.
ICO vs. Traditional Startup Funding
It will be a disservice drawing an exact comparison between ICOs to traditional startup funding. Although its possible to draw many similarities, the models are still different. The SEC has announced it views ICOs or SAFT token sale as securities (unless otherwise determined by the SEC – ETH, and BTC, not a security). Investors are not buying equity in the form of future stocks. Instead, tokens that represent a stake in the project’s ecosystem are sold to investors. The gain for investors holding these tokens is directly affected by the project acquiring new users. The core idea is for the token price to increase based on users demand for the service which requires the tokens. For a blockchain venture capital or other accredited investors that is a long wait and a high risk which they wish to liquidate sooner than later.
Enter the Anticipated Shift in ICO Funding Mindset
Regardless of similarities or lack of it, one thing is indisputable; these are all startup companies. To expect a start-up company to develop and grow its market adaptation in a three month period to produce 1x or above returns is almost senseless. Not impossible, but at the same breath not very likely. There have been several reports of ICO scams, prosecutions by the authorities, failure to carry through the roadmap, and “pump and dump” tactics by whales. On the flip side the advancement in regulation efforts in the space, are paving the way for alternatives in the industry. Read our post about some regulation efforts and ICO alternatives.
Hybrid and ICO Alternatives
In a PR on CNBC from August 2nd, 2018 it was reported that “High Times Holding Corp., the preeminent cannabis brand, today announced that it will become the first traditional stock offering ever to accept investments made in the company through Bitcoin and Ethereum.”
Also, a Berlin-based company by the name of Neufund in cooperation with Binance and the Malta Stock Exchange is working on an Equity Token Offering. Neufund is aiming to sell investors equity in a tokenized format and bring sense back to the industry.
Swarm.fund is a company that has completed its ICO. Swarm.fund makes traditionally exclusive investment opportunities, such as private equity and hedge funds, inclusive for the Swarm by pooling together smaller investments into larger, institutional-sized blocks.
The concept of decentralization and Crypto had a core idea of cutting the middleman and governments intervention in transaction and communication between people. A relatively small cryptocurrency community of enthusiast and activist was using it. Much water ran under that bridge ever since. That also includes advancements and the inception of new blockchains. It gave birth to ICOs running on the ethereum blockchain among other developments.
Adaptation Takes Time
It took Bitcoin a few good years to get the exposure and the notoriety it posses today. Innovations, technology, and new products consume time and a lot of hard work by super talented teams before becoming huge companies like Apple, Windows or Google. Getting rich quick investing in an ICO is a myth or at least a thing of the past. That is especially true when considering ICO crowd sale investors. More blockchain venture capital companies are starting to seek longer-term investments in the space. Considering a stake in a company through ICO is considering an investment in a startup.
Long-Term investments Get Real
There are great projects out there. The potential growth in this industry is enormous. Whether its blockchain or traditional startups, allowing a company time to mature and grow before you can exit profitably makes perfect sense. Risk evaluation by blockchain venture capital funds or individuals looking to invest in an ICO is a key component. Considering a longer exit strategy should follow if we wish to see a solid industry shaping. Naturally, it will weed out many scam projects. It will allow legitimate companies to do the hard work. Lastly, it will increase the potential of making these projects adopted by the public. It will reduce the bad publicity surrounding ICOs and help bring back legitimate investors. That should be the core goal of our blockchain industry.