Along with many others in the investing community, we at Wipro Ventures have been watching the ICO (Initial Coin Offering) and Token craze with a mix of interest, excitement, and measured caution. If you are not familiar with the topic, you can find a list of suggested resources at the end of this post. Another thing to note straightaway – there are many types of tokens and they are definitely not all created equal. For the sake of this post, we focus on tokens with the following characteristics:
- Digital asset underlying a network and transferrable between parties
- Represent the "currency" native to the application or protocol and are used to access a service or pay contributors to the application/protocol
Tokens represent a new asset class and funding model that have the potential to change industries and disrupt incumbents. The technology, applications, and networks being developed are a source of much excitement and opportunity but also leave us with lingering questions.
The rest of this post will assume that you have a basic understanding of cryptocurrencies, blockchain technology, and ICOs.
What Excites Us
There are a variety of things that excite us about blockchain technology and tokens.
- Tokens Blend Strategic and Financial Interests
Corporations are always balancing the financial and strategic importance of their investments (see our previous post on corporate investors), and tokens allow for a greater intersection of these interests. This is because tokens represent both (1) a financial asset with the potential to appreciate in value and (2) a claim towards a resource or service accessible through the underlying protocol.
As a hypothetical example, let's suppose there is a company that is launching "EximCoin" to facilitate digitization of documentation related to Exports and Imports. The underlying protocol enables 3rd parties to build decentralized applications that help companies with the myriad documentation and processes required for Foreign Trade. As more companies adopt the protocol to leverage these decentralized applications and the network grows, demand for "EximCoin" (which is fixed in supply and required to utilize the applications) will increase.
Corporations can become meaningful participants in this ecosystem in a variety of ways. Building new applications on top increases the value of the network, while creating integrations with existing products or guiding customers onto the protocol will increase adoption and demand. In the above scenario, it makes sense to invest in the corresponding tokens during the ICO, as it can provide dual benefits to a corporation:
(a) Financial returns, assuming the tokens appreciate in value with increased demand
(b) Strategic returns, as customers adopt these new-age decentralized solutions to solve a sticky business problem. This in turn will help increase demand for "EximCoins", feeding into (a) above.
- Direct Benefits from Community Contributions
Others have written extensively about how tokens have the potential to lead to an Age of Protocol Innovation, where early participants and contributors to a network/protocol will share in the value created. This concept extends logically from individuals to corporations as well. In the past, companies (and universities) contributing to the development of open-source software were motivated by the strategic value of dedicating resources (developers/coders/engineers) to the project. The companies benefited indirectly from their employees contributions, as the software became more robust, the ecosystem developed, and more customers used the software. With the advent of tokens, companies have a way of directly benefiting from their contributions, as the tokens associated with the protocol increase in value because the surrounding ecosystem and the code quality improves.
- Enabling creation and adoption of new Industry standards
It is our view that the token economy can be used by corporations to promote standardization of technology protocols. Today, a consortium of companies, large and small, typically lead such efforts. Given competing priorities, it is not unusual for consortiums to adopt standards that are somewhat more favorable to certain factions within the consortium. Such outcomes generally produce large financial returns for the prevailing faction, but with tokens, it is quite likely that everyone participates in the gains. For example, if tokens existed in the mid-90s, could they have been used to accelerate the creation and adoption of standards, like USB, Wi-Fi, etc. and adequately compensate the creators of those standards?
Along with the potential and excitement around this new technology, there are many concerns and questions that remain:
- Valuing tokens, both initially and over time
This could really be an entire series of articles on its own. While the large amount of money raised by ICO projects is encouraging, it also raises questions about the lack of valuation sensitivity by buyers/participants. This post from CB Insights shows just how much money has been raised through ICOs in 2Q17 alone.
- Added complexity around custody
Where, and in what form, will a corporation store tokens? What investment vehicle will they be using? Who will have access and control over these tokens?
The recent SEC memo made it clear that tokens and ICOs will be judged on a case-by-case basis; so it is unclear what the legal implications will be for corporations that participate in these token sales.
- How will users of these tokens and participants in the network actually behave?
Since all of this is so new, including the incentive and economic systems associated with these tokens, it remains to be seen how users and participants will behave in practice.
- Can these new decentralized applications match the user experience provided by incumbents?
While blockchain technology and tokens have the potential to bring in a new decentralized world order and disrupt centralized service providers (e.g. Storj for DropBox, OpenBazaar for EBay etc.), can they create user experiences to rival incumbents and drive mainstream adoption?
Tokens do represent a radically different way to think about business models. Despite lingering questions and concerns, we are excited as ever about the possibilities. If you are an entrepreneur in this space we'd love to exchange thoughts and ideas on the subject.
Suggested Reading and Additional Resources
1. Thoughts on Tokens, by Balaji S. Srinivasan, a partner at A16Z
2. Mechanics and Considerations for Token Sales, from the GDAX blog
3. Tim Ferriss's podcast on cryptocurrency w/ Naval Ravikant and Nick Szabo (more general on bitcoin, ethereum, crypto in general)
4. Digital Currency Reading List, a huge collection put together by Dan Romero of Coinbase