Initial Coin Offerings as a new way to raise money? Investigating risks and opportunities from a consumer perspective

Bachelor Thesis, 2018

47 Pages, Grade: 1.3



Table of Contents

1 Introduction
1.1 ICO as an emerging investment trend?
1.2 How do general investment factors change in the context of ICOs?
1.3 Theoretical approach to develop general investment factors for ICOs

2 Theoretical Foundation
2.1 The phenomenon of ICOs as a new investment form
2.1.1 Blockchain the underlying technology of ICOs
2.1.2 Functioning of cryptocurrency/tokens
2.1.3 Wallet the storage for cryptocurrencies
2.1.4 Whitepaper the company masterplan
2.1.5 Functioning of ICOs in detail
2.1.6 Comparing ICOs to other financing forms: Crowdfunding, VC and IPO
2.1.7 Discussion of the advantages of ICOs
2.1.8 Discussion of the disadvantages of ICOs
2.2 Introducing relevant management theories
2.2.1 How can agency theory help ICO investors?
2.2.2 Why is adverse selection theory relevant for ICOs?

3 Analysing general investment factors in the specific context of ICOs
3.1 What is the role of reputation in context of ICOs?
3.2 Importance of corporate social responsibility for ICOs?
3.3 What is the influence of media coverage on the investment decision?
3.4 How important is risk for an investment in ICOs?
3.5 Other factors that are important for ICO investment
3.5.1 Which impact has past performance for ICOs?
3.5.2 Can the macroeconomic situation influence investments in ICOs?
3.5.3 How does technological uncertainty influence the investment in ICOs?

4 Discussion
4.1 Extending existing investment-decisions literature into the context of ICOs
4.2 Helping managers to align ICOs to the investors' preferences
4.3 ICO as an emerging field that needs more research

5 Conclusion




The term initial coin offering (ICO) seems to be the new hype of the crypto community.

It offers never-before seen possibilities for consumers and companies but suffers from draw­backs like a lack of regulation. In 2017, an impressive number of 4.6 billion USD was invest­ed in ICOs. Consequently, ICOs are of large public interest. Therefore, it is interesting to de­termine what influences the behaviour of investors. Accordingly, the aim of this thesis is to investigate how general investment factors change in the disruptive environment of ICOs. Hence, in this context, relevant general investment factor-such as reputation, media coverage, corporate social responsibility, risk and other factors including macroeconomic situation, past performance and technological uncertainty- are considered. The results show that, due to a lack of reliable measures for quantitative factors, qualitative investment factors gain greater importance for ICOs. Furthermore, the highest importance was assigned to media coverage, which is important for investors who want to overcome the high information asymmetries that exist for ICOs.

Table of Figures

Figure 1: Logos of the cryptocurrencies Bitcoin and Ethereum

Figure 2: The procedure of an ICO

Figure 3: ICOs compared to other financing forms

Figure 4: Overview of the change on general investment factors applied to ICOs

1 Introduction

In the following chapter, the topic of this thesis will be introduced and the research question will be discussed. Furthermore, the theoretical approach will be explained.

1.1 ICO as an emerging investment trend?

“ICO is the game-changing mechanism that will fund the future of grass-roots innovation” (Hillary Carter 2017)

This quote by Hilary Carter, a Research Director at the Blockchain Research Institute in To­ronto, points out the tremendous and disruptive potential of initial coin offerings (ICOs). The description of ICOs as game-changing should be emphasized because ICOs create unprece­dented opportunities to raise capital.

In recent years, ICOs have gained more and more importance and have become established as a new and revolutionary funding form. This impression is supported by the fact that ICOs raised a total of 4.6 billion USD in 2017. This number is even more impressive when you consider the sharp increase from 0.2 billion USD in 2016. Moreover, the highest ICO in 2017, “File coin”, was able to raise 257 million USD in September of 2017 (Strategy&, 2017, p. 2). In addition, ICOs can collect large funds very quickly. For example, the web browser Brave generated 35 million USD within less than 30 seconds (Chohan, 2017, p. 2). Furthermore, 81% of ICOs have received their targeted funding. Also, in the secondary market, ICO cryp- tocurrencies/tokens have high liquidity. Historically on average, they are resold at a profit (Adhami, Giudici, and Martinazzi, 2017, p. 1).

These numbers speak for themselves and show that the digitalization of our society is also disrupting the financial sector. ICOs make it possible for companies, especially Startups, to access new funding opportunities. Because of Blockchain, one of the most innovative tech­nologies to emerge in recent years, investors and companies are no longer tied to intermediar­ies. This leads to lower transaction costs because intermediaries like banks or other brokers formerly charged a commission or added a price premium for their services. Note also that, thanks to their lack of restrictions and fast diffusion in the Internet, ICOs have enormous po­tential reach.

1.2 How do general investment factors change in the context of ICOs?

Consequently, ICO is a topic of large public interest; therefore, it is interesting to note what influences the behaviour of investors. In the literature (Ritter, 1991; Nagy and Obenberger, 1994), clear general investment factors are defined which hold for conventional financing forms. Therefore, the question arises whether those investment factors also hold in the disrup­tive environment of ICOs. How and in which direction could these factors change for ICOs? Do they still have the same importance as before?

In order to address the research gap, these general investment factors need to be applied to the circumstances of ICOs. Therefore, so as not to exceed the scope of this thesis, it is important to choose the most relevant factors for ICOs. In this thesis, the most relevant factors are con­sidered to be reputation, corporate social responsibility, media coverage, risk and other factors including macroeconomic situation, past performance and technological uncertainty.

In investigating these questions, well-known management theories can contribute important insights from theory to practice. Therefore, adverse selection theory (Akerlof, 1970) and agency theory (Jensen and Meckling, 1976) are related to the above-described investment factors. Adverse selection theory correctly describes the information asymmetries that occur for investors when they participate in an ICO. Moreover, agency theory describes the issue investors face after investment in an ICO when they need to monitor the company's manage­ment to behave in their own best interests. Both theories can provide a better understanding of the change in general investment factors as applied to ICOs.

As a result, this thesis aims to add important insights to the emerging field of cryptocurrencies and ICOs. Furthermore, it aims to provide clear indicators for managers how they can align ICOs better to investor preferences.

1.3 Theoretical approach to develop general investment factors for ICOs

As mentioned in 1.1, an ICO is a topic of large public interest; therefore, it is remarkable that there is no adequate academic literature. Literature relating to ICOs can most frequently be found in studies from consulting companies. For example, EY research: Initial Coin Offerings (2017) introduced the topic of ICOs. Apart from this, Initial Coin Offering - A Strategic Perspective: Global and Switzerland (2017), published by Strategy& points out some future business perspectives of ICOs. However, many of these studies are published for 2 marketing reasons with the ulterior motive to earn money; therefore, they are often not neutral in their approach. Moreover, in thesis, several working papers (Nica, Piotrowska, and Schenk-Hoppp, 2017) are considered that focus on cryptocurrencies1 but also consider ICOs. They describe detailed risks and benefits of cryptocurrencies that can also be applied to ICOs. Another working paper (Adhami et al., 2017) that is directly focused on ICOs emphasizes why more and more business are using ICOs.

Admittedly, the ICO market is a relatively new and complex market. It still appears surprising that most of the literature focuses on the technology itself or on the company side but neglects the consumer2 side. Since investors are the foundation for every successful ICO, it seems re­markable that research should focus more strongly on the consumer perspective. Therefore, the approach of this thesis is to apply general investment factors to ICOs. This procedure is needed to close the research gap that exists regarding the consumer perspective.

Building upon the findings from the review of the literature, the following theoretical ap­proach was developed for this thesis. The second chapter introduces the basic concepts that are important to ICOs, including the underlying blockchain technology. Building on this, the chapter passes on to a detailed description of ICOs. In the following pages, ICOs are com­pared to crowdsourcing, venture capital (VC) and initial public offerings (IPO); thus, similari­ties and differences are emphasized. After this, the advantages and disadvantages of ICOs are identified and presented in detail. In the second part of the chapter, the theoretical foundations of relevant management theories are presented and discussed. These management theories include, as already mentioned in Chapter 1.2, adverse selection theory and agency theory.

In the third chapter, each of the above-described general investment factors is analysed. The investments are assessed by their influence on investors for the conventional market, which is well described in the literature. Moreover, the drivers of these general investment factors that are particularly relevant in the context of ICOs are identified. Furthermore, the change in the influence of the general investment factors is analysed. Also included are theoretical contribu­tions from agency theory and adverse selection theory. These theories will be applied for the suitable investment factors and should provide a better understanding of the change in in­vestment factors. At the end, a figure visualizes the changes of the different investment fac­tors for ICOs in comparison to conventional financing forms.

2 Theoretical Foundation

In the course of this chapter, relevant basic concepts that are important to the understanding of ICOs are explained. Building on this foundation, ICOs are introduced and described in detail. Next, the advantages and disadvantages of ICOs are discussed. Afterwards, ICOs are com­pared to other financing forms. Finally, adverse selection and agency theory are introduced and discussed.

2.1 The phenomenon of ICOs as a new investment form

This subsection explains the phenomenon of ICOs in detail. Therefore, basic terms like block­chain, cryptocurrencies / tokens, wallet and tokens are defined. Furthermore, ICOs are com­pared to crowdfunding, venture capital and initial public offerings, and the similarities and differences are identified. Afterwards, it will be discussed in detail what the advantages and disadvantages of ICOs are.

2.1.1 Blockchain the underlying technology of ICOs

Blockchains are forgery-proof, distributed data structures in which transactions are logged in the time sequence, unchangeable and mapped without a central instance. Moreover, Block­chain technology allows ownership to be secured and controlled more directly and efficiently than before, as seamless and unchangeable data recording provides the basis for this (BaFin, 2017). Blockchain stands for a new generation of transactional applications that facilitates trust, accountability and transparency during business processes. The pattern of the block­chain technology became famous through the Bitcoin, but its uses are far more diverse. It has the potential to significantly reduce the cost and complexity of intercompany processes. The distributed ledger simplifies the blockchain to establish cost-efficient business networks in which anything of value can be digitally tracked and traded without requiring centralized con­trol. The implementation of this emerging technology is very promising across a broad range of business applications. For example, blockchain technology makes it possible for securities to be determined in minutes instead of days. It is also applicable to companies which need to manage the flow of goods and related payments (IBM, 2016).

2.1.2 Functioning of cryptocurrency/tokens

A synonym for the term cryptocurrency is digital currency. Basically, it says merely that the currency is encrypted by using blockchain technology as a cryptographic measure (Chuen, 2015, p. 6). The best-known example is Bitcoin, which was founded as the first cryptocurren­cy by an unknown entity, person or group called Satoshi Nakamoto in 2009. In February of 2010, the first payment was processed with Bitcoin, and Bitcoin started to gain more atten­tion. Today hundreds of large companies offer Bitcoin as a payment method for their services; these include Amazon and Microsoft. As with several other cryptocurrencies, Bitcoins are generated via a mining process that consists of solving a laborious computational problem. In exchange, one receives newly mined coins as a reward. It is possible to convert cryptocurren­cies into fiat3 money on exchange platforms such as Bitfinex (Adhami et al., 2017, p. 3). In some ICOs, there is the possibility to purchase digital tokens. They can be compared to stocks in a public offering, but they do not have the simple function of a normal share of the compa­ny. They work more like a digital share of a project and can develop new functionalities in the future ( Hahn and Wons, 2018, p. 10).

Abbildung in dieser Leseprobe nicht enthalten

Figure 1: Logos of the cryptocurrencies Bitcoin and Ethereum

2.1.3 Wallet the storage for cryptocurrencies

The term wallet names a place in which investors can store their cryptocurrencies. This place can be seen as a digital wallet. The storage required for a wallet can be provided, for example, through a USB stick, a computer, a mobile device or through third-party cloud providers (Hahn, 2014, p. 2).

2.1.4 Whitepaper the company masterplan

A whitepaper is a summarizing document which provides investors an overview about the project. This document discusses various formalities such as the duration of the ICO. Fur­thermore, it also includes the targets the management of the company wants to achieve through the ICO. It is also important that the management of the firm is aware of what they want to achieve with the ICO. To concretize the targets, the whitepaper identifies clear suc­cess measures such as the number of tokens that should be issued and the respective minimum and maximum amounts that should be raised. The second part of a whitepaper, which is very important for the investors, gives a short description of the product so as to inform potential investors about the company's plans. Furthermore, it includes a description of the manage­ment and a sort roadmap that outlines the future development steps of the product. The white­paper can be compared to a sales brochure or a pitch deck for potentially interested investors. Usually companies offer the whitepaper on the company homepage (Hahn and Wons, 2018, p. 20). Because whitepapers are often the only accessible information an offering company pro­vides potential investors, they significantly influence the investment decisions of the investors and the further success of an ICO (Sehra, Smith, and Gomes, 2017, p. 19).

2.1.5 Functioning of ICOs in detail

An ICO is a financing form which uses so-called cryptocurrencies/tokens to collect funds from investors. In an ICO, a company or individual issues cryptocurrencies/tokens and sells them in exchange for traditional currencies or against virtual currencies like Bitcoin or Ether. The characteristics and purpose of the tokens may differ depending on the ICO. Some tokens allow the use or purchase of services or products that are developed by the issuer with earn­ings from the ICO. With other tokens, voting rights or shares for future earnings of the issuer are acquired. Some tokens have no concrete added value. The issued tokens can be exchanged after issue on specialized cryptocurrency-exchange platforms against conventional or virtual currencies. ICOs are carried out online via the Internet or social media. The tokens are typi­cally generated by using blockchain technology. ICOs are used to raise funds for a broad vari­ety of projects (“BaFin - Virtuelle Währungen,” 2016). A special feature of an ICO is the solely digital sale of tokens. This feature gives potential investors the chance to invest early in a project without an immediate relation to the company. One of the most famous ICOs is Ethereum. It raised 18 million USD in 2014 and is now the second largest cryptocurrency behind the Bitcoin (Barsan, 2017, p. 54).

Abbildung in dieser Leseprobe nicht enthalten

Figure 2: The procedure of an ICO adapted from (Hahn and Wons, 2018, p. 5)

2.1.6 Comparing ICOs to other financing forms: Crowdfunding, VC and IPO

To better understand the operating principle of an ICO, it is important to emphasize its simi­larities to and differences from other conventional financing forms. Therefore, in this sub­chapter, ICOs are compared to crowdfunding, IPOs and VC).


Comparing to other financing forms, ICOs share the most similarities with crowdfunding. It is crucial for crowdfunding to use accompanying marketing campaigns that boosts the invest­ments. Furthermore, equally to ICOs, crowdfunding uses the Internet for promotion and to attract investors. Also, the goals of ICOs and crowdfunding are quite similar: to collect funds for project growth (Hahn, 2014, p. 172). In contrast to crowdfunding, ICOs offer to- kens/cryptocurrencies that are tradeable on crypto platforms and use blockchain technology. Moreover, crowdfunding is harder to access and is often restricted or limited to a region or country, whereas in an ICO, people from everywhere in the world can participate. In contrast to crowdfunding, investors of an ICO expect a way higher return on their investment (Hahn and Wons, 2018, p. 6).

Venture Capital

In comparison to the financing form of VC, there are not so many similarities. One similarity is that both financing forms can be realized in different business stages. Major differences are that companies which use ICOs can also get access to crowd support whereas venture capital- funded companies are restricted to the VC fund. Moreover, a company that uses ICOs is free to innovate. It can pursue its strategy and is not bound to certain conditions set by the venture capitalists. Contrary to crowdfunding, the shares venture capitalists buy cannot be traded on crypto platforms and are not convertible to cryptocurrencies (Hahn and Wons, 2018, p. 6).

For venture capitalists, who were generally reluctant with respect to the ICO phenomenon, new opportunities also arise. This is especially because crypto investors made massive returns in the several years. Furthermore, the high liquidity of cryptocurrencies in comparison to long-term investments in Startups has also attracted the attention of venture capitalists (Kastelein, 2017, p. 3).

Initial Public Offering

During an IPO, a company distributes shares or tokens. The difference from an ICO here is that the shares constitute equity. In an ICO, the tokens are also sold with the intention to in­centivize new product users and to participate in the ecosystem. This means that, when a to­ken is sold, the offering company gains working capital from the sale of the tokens. On the other side, the purchaser gains both cash value and product value (Deloitte, 2017). At an IPO, the shareholders have certain rights - such as the right to inspect the company's annu­al accounts - that are not applicable to ICO investors (Hosp, 2017, p. 176).

Another difference is in the business stage at which one does an IPO. Usually, firms that have the capability to execute an IPO are in quite an advanced business stage. An ICO, on the other hand, is quite independent from the business stage and can be carried out at any business stage (Hahn and Wons, 2018, p. 6). IPOs are also far more expensive than ICOs. Usually, an IPO costs a few million dollars and, in addition, around 7% of the capital raised. This expense im­pedes it - especially for smaller firms. Another point with respect to which these two financ­ing forms differ concerns the regulatory requirements. In contrast to ICOs, IPOs have much higher regulatory costs and requirements (Conley, 2017, p. 15).

Abbildung in dieser Leseprobe nicht enthalten

Figure 3: ICOs compared to other financing forms adapted from (Hahn and Wons, 2018, p. 6)

2.1.7 Discussion of the advantages of ICOs

In the next pages, the advantages of ICOs are highlighted. These include their fast and un­complicated realisation, the new opportunities ICOs offer, the high potential returns and the high reach of ICOs.

Fast and uncomplicated realisation of ICOs

A main advantage of an ICO is its fast and uncomplicated realisation of transactions in com­parison to common financing forms (Hahn and Wons, 2018, p. 3). The Blockchain, the under­lying technology of ICOs and cryptocurrencies, facilitates transactions in minutes. Because of the innovative and decentralized structure, there is no need to rely on a central trusted party like for example a central bank. The distributed blockchain system can create certification and integrity on the Internet whenever ICO transactions occur. This redefinition of the transaction process through blockchain and the omission of intermediaries leads to faster transactions than before. For example, the web browser Brave was able to generate $35 million through an ICO in less than 30 seconds. These volumes are even expected to grow (Chohan, 2017, p. 2). To summarize, an ICO needs less preparation and is faster to realise and also collects more money in a shorter amount of time in comparison to other funding forms (Adhami et al., 2017, p. 4).

New opportunities for businesses and investors

The fast funding success of ICOs offer new opportunities - especially for small but also for large businesses (Nica et al., 2017, p. 2). ICOs and their underlying blockchain technology have lowered the entry barriers and costs of business operations and have increased competi­tion in the market (Catalini and Gans, 2018, p. 3). ICOs have lowered the entry barriers, be­cause it is now easier for investors to invest in companies and for companies to obtain fund­ing. Investors merely have to register for an online wallet and require an Internet connection; then they are able to participate in an ICO. The wallets can be set up easily online without any fees or regulations. Furthermore, transactions from the wallet are not location specific, so to- kens/cryptocurrencies can be transferred between different countries smoothly (Kuo Chuen, Guo, and Wang, 2017, p. 18). Users do not necessarily require a bank or PayPal account or credit card to participate in an ICO. This leads to more anonymity for investors because they are not regulated or registered with any government organisation. Other funding forms are often more complicated due to regulations and laws. They also take longer (Churilov, 2016, p. 131). In addition, companies which use other financing forms than ICOs have to provide evi­dence about their business models and fulfil certain regulatory requirements. But this is no longer necessary. The costs for funding have been reduced significantly by ICOs because they involve no intermediaries. Thus, other financing forms like IPOs are far more expensive. This moves them obviously out of reach for many firms. Because the ICO is a low-cost funding method, small businesses with scarce resources can benefit (Nica et al., 2017, p. 8,11). The minor transaction costs of ICOs are an incentive for investors to invest in ICOs or cryptocur­rencies. Moreover another advantage for the investors is shorter peer-to-peer (P2P) pro­cessing of ICOs which decreases the settlement time (Kuo Chuen et al., 2017, p. 17).


1 Cryptocurrencies and ICOs are strongly connected and face similar challenges

2 Consumer and investors are considered as equal in the case of ICOs

3 Fiat money is currency that is declared by government as legal tender

Excerpt out of 47 pages


Initial Coin Offerings as a new way to raise money? Investigating risks and opportunities from a consumer perspective
LMU Munich
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ISBN (eBook)
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coin, initial, investigating, offerings
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Anonymous, 2018, Initial Coin Offerings as a new way to raise money? Investigating risks and opportunities from a consumer perspective, Munich, GRIN Verlag,


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