There has been a tectonic shift in fundraising models within the crypto industry: from the decline of initial coin offerings (ICOs) to the hype around security token offerings (STOs) and then the rise of initial exchange offerings (IEOs). The inclination for fundraising seems to evolve every year. Similarly, the rise of decentralized exchanges has brought with it a new way for crypto projects to launch their tokens – Initial Dex Offerings (IDOs).
What is IDO?
An Initial Dex Offering (IDO) is a type of fundraising that is conducted on decentralized exchanges (DEX). The model is similar to IEOs except that IDOs are conducted on decentralized exchanges (DEX) while IEOs are carried out on centralized ones.
A decentralized liquidity exchange is a type of crypto asset exchange that relies on liquidity pools with which traders can swap tokens. Liquidity pools are pairs of crypto assets and stablecoins. For example, USDT/ETH is a liquidity pair. Traders can swap between crypto assets and stablecoin based on market conditions. The aim is to enable traders to manage the high volatility of crypto tokens and assets by swapping it with each other.
An IDO is conducted on a decentralized liquidity exchange (such as Uniswap, Bancor, or Binance) entirely by the team behind the token in a completely trust-less manner on the blockchain. The first-ever IDO was conducted by Binance DEX and according to them, the model excellent for new projects that want to launch a token and access immediate liquidity. Since then, various other blockchain-based companies have launched their tokens on DEXs through IDOs, such as Compound, UMA Protocol, and Balancer.
Differences between IDO and IEO/STO/ICO?
The main difference between IDOs and IEOs/STOs/ICOs relates to the way each fundraising method is conducted. In ICO, which is the same as an initial public offering (IPO) process, the token issuers manage all the responsibilities. In contrast, in IEO, the centralized exchange conducts the fundraising on the behalf of the project. When we compare IDO with the other two approaches, we can see that it is basically a combination of both ICO and IEO. The only difference is that IDO replaces the centralized exchange (CEX) with a decentralized one (DEX).
In the case of Security Token Offering (STO), the investment contract is backed by the security token. STO deals with assets that offer monetary profits and must comply with government regulations.
Initial Dex Exchange works almost in a similar fashion as IEOs. In both approaches, the project can directly issue its tokens to individual investors or traders. However, in IDO, you don’t have to pay an exchange listing fee as you do in IEO since it is self-organized and decentralized. Moreover, IDO solves some of the problems associated with IEO fundraising such as, issuers are not allowed to list tokens with competing exchanges. Moreover, issuers are not able to control the parameters of their fundraising.
What are the Benefits of IDO?
The IDO crypto fundraising model offers a number of benefits to blockchain projects and issuers.
Enhanced liquidity: Unlike IEOs, Initial DEX Offerings do not utilize a price oracle to draw the value of tokens. Instead, IDOs employ an automatic market maker — a mathematical formula to calculate the demand for a token based on the collateral supply in liquidity pools on the decentralized exchange. The price of an asset on a DEX using an automatic market can only vary if the token is being bought or sold as it changes the ratio of tokens to collateral in the liquidity pools. This facilitates the exchange of smaller coins, allowing the project’s token gets access to immediate liquidity, which can benefit the token price.
Transparent fundraising: The IDO crypto model allows anyone to participate in the fundraising. Thus, project teams no longer need to rely on traditional private investments to kickstart their token sale. It has been observed that in the past, that private investors usually buy a large number of tokens for a reduced price. They will then resell these tokens to the general public gaining a huge profit and hurting the token’s price in the process. IDOs eliminate the need for a centralized exchange and permission to launch the fundraising event.
Lower costs: IDO’s other benefit is low fees. With IDOs, project teams only need to pay gas fee for deploying a new smart contract. This smart contract controls the liquidity pool and the asset’s token.
Fast trading: IDOs allow for immediate trading once the tokens have been issued. As a result, investors are able to buy their tokens quickly when it is launched and resell them at a higher price later during the IDO. For example, during the UMA protocol fundraising, the initial token price of $0.26 immediately jumped to just around $2.
Problems with the IDO Fundraising Model
This IDO crypto fundraising model has its advantages, such as providing liquidity for brand new tokens without the need for manual market makers. But it also has its own fair of challenges. Some of the issues with IDOs include:
- Lack of control mechanisms – since IDO are conducted on decentralized exchanges, there are no control mechanisms for token issuers. When it comes to fundraising, it is important to have some control over it, such as recording validated information for investors, otherwise known as KYC integration.
- The token price can vary as an investor swaps the token – Only a small number of investors can buy the token at the listed token price. This can hurt the project in the following ways.
- Whales, investors who hold large amounts of tokens, can manipulate the token prices since there is no limit to buying tokens in IDO. This can result in a bonding curve model. Thus, the token issuers will have no idea how much they’ve raised through the IDO.
- When the token price starts to move, investors have to immediately decide whether to invest in a new swap listing or not. Since anyone can create a token and launch an IDO, there is an increased chance of fake tokens being listed in IDO to acquire some initial liquidity. This liquidity rug pull can cost the investors their money.
Are ICOs/IEOs/STOs dead?
The narrative that ICOs have become obscure is still overstated. ICO as a fundraising model peaked at the same time Bitcoin’s prices had hit an all-time high (i.e., December 2017-January 2018), according to Google Trends data. But the decline in interest in ICOs began in 2018 – during that year 1253 projects raised around $8 billion through ICOs, though the vast majority of the funding came in the first half of the year. Getting into 2019, only 84 projects managed to raise a total of under $350 Million in the first three-quarters of the year.
ICOs in 2017 and even in 2018 were controlled by greed and speculation to a great extent. Most people were looking at the industry as a get-rich-quick scheme while companies realized that they had the ability to generate hundreds of thousands in funding by just plagiarizing white papers and promising unrealistic returns to their investors. One study found that over 80% of ICOs conducted in 2018 were scams.
STOs were supposed to become the next progression of ICOs by introducing regulations to protect investors from scams. But now, most realize the unrealistic requirements to participate in STO fundraising. Investors must be considered accredited by the United States Securities and Exchange Commission (SEC) to participate in STOs. This has raised the barrier of entry quite high, preventing STOs from being a viable option for fundraising.
In 2019, Binance crypto exchange launched an offering for BitTorrent, introducing initial exchange offerings to the crypto community for the first time. While people in the U.S cannot take part in IEOs yet, global investors, however, have shown that IEOs are still popular among crypto investors. The $1.5 billion raised by IEOs in 2019, without the participation of U.S.-based investors, exemplifies this.
What is the future of IDO crypto fundraising model?
There is no doubt that the IDO model addresses some of the issues associated with IEOs, STOs, and ICOs. IDOs are just IEOs with a new layer of intervention that attempts to remove the need to seek permission from exchanges to organize a fundraising event. However, at the same time, it leaves loopholes that whales and scammers can exploit while projects can be affected in terms of immediate price movement.
Decentralized models are here to stay, and Initial Dex Offering (IDO) is the next step of crypto fundraising. But to make it more robust, project teams can integrate control mechanisms into the existing IDO model by adding KYC capabilities. KYC regulations enable issuers to gain more control over who’s buying how many tokens. Lastly, setting a fixed price for tokens in your pool until the fundraising has finished can help in eliminating variations in token prices until the fundraising has finished.
Want to launch your IDO? Talk to our IDO marketing experts, who have experience and expertise to help projects raise funds from the crypto community.