Spoiler alert: it doesn’t exist
With a new blockchain token sale happening every
few days, it’s a good time to examine the different ways that
token sales can be structured.
It’s important to remember the differences between (1) how the
token and the network actually function, (2) the problem that the
application or protocol is trying to solve, and (3) the structure
of the token sale. This article focuses only on the third point. I
am a lawyer, but this article isn’t about legal issues.
What is a token sale? What is
an ICO?
‘ICO’ (Initial Coin Offering) is a misleading term for a token
sale. This is especially true for many people who are exploring the
blockchain and token space for the first time right now.
Unlike an IPO— which is a well understood and rigorous process
for taking a private company public — a token sale is an
unregulated sale of digital assets that represent the potential
value of an early-stage project or concept. The investment thesis
is much closer to venture capital than investment in a
public company.
There are many phrases that describe this better: ‘token sale’,
‘token launch’, ‘crowdsale’, ‘pre-sale’, ‘token generation event’,
‘token sale offering’ or really almost anything other
than ‘ICO’.
A properly designed token sale doesn’t promise ‘investment
returns’, ‘dividends’ or ‘profits’. Instead, it focuses on selling
a digital asset that will have a clear use case in a decentralized
application, as a means of both incentivizing development and solving the
chicken-and-egg problem for the network. A properly designed
token actually serves a purpose: it is required in order to participate in the network, rather than just
being a funding mechanism.
We designed the Blockchain Token Securities Law Framework to
explain how this distinction also affects the securities law
treatment of a token.
What are the objectives of a token sale?
Here are some of the things that a developer might want their
token sale to achieve. This isn’t a complete list, or a comment on
any particular project. As we’ll see, a number of these objectives
conflict with each other. It’s up to the developers to decide which
of these things are most important to their project.
Raise a capped amount. You might want to limit
your total raise to align with your actual costs of developing the
network. You might not want the responsibility (or the resulting
attention) of securing and holding far more money than you were
expecting to.
Sell a fixed percentage of total token supply.
You might want to be certain about the percentage of tokens that
you are selling vs allocating to the development team, investors
etc. While there is no clear standard about what percentage should
be sold versus kept, you might want to have control over this
decision.
Distribute tokens widely. You might
want to try to distribute your tokens to a large number of users to
ensure that your decentralized application is actually
decentralized. You might not want a large number of tokens
concentrated in the hands of a few token holders, especially if
your network is going live shortly after the sale. Secondary
markets could also help to improve distribution.
Sell tokens at the market value. You
might want to let buyers decide the fair market value of your
token. On the other hand, it is difficult for buyers to value the
token, especially if there is a long development period before the
network is launched.
Guarantee that all buyers will get some
tokens. You might want to give all buyers the
opportunity to participate in your sale, rather than only those who
can get their money in the quickest.
Enable buyers to buy an ascertainable percentage of the
total token supply. You might want buyers to be
able to know what percentage of the total supply that their
purchase represents.
Of course, there is also the objective of actually
raising enough money to fund the development of the
project. However, in the current market, where many capped token
sales meet their objective in a matter of hours, if not minutes,
this is less of a concern.
What token sale structures are available?
Here are some of the token sale structures which have been used
to date, together with some alternative structures.
Capped First-Come First-Served
- A fixed number of tokens is sold at a fixed price on a
first-come, first-served basis until all tokens are sold - There is a cap on the amount raised (expressed as a cap on the
number of tokens to be sold) - Insiders (i.e. foundation, investors and/or development team)
are allocated a fixed percentage of the total
token supply
This is the most common structure used in token sales to date.
Some sales provide a discount for a limited period to encourage
early participation. However, in the current climate this is
unnecessary for most token sales, and has probably exacerbated the
FOMO-driven early sellouts for the most anticipated sales.
Uncapped
- An unlimited number of tokens is sold at a fixed price over an
extended period - All buyers can buy as many tokens as they desire
- No cap on the amount raised
- Insiders are allocated a fixed percentage of the total
token supply
Capped Auction
- Buyers bid a desired price and total spend
- A variable number of tokens are actually sold, at the lowest
successful bid price, in proportion with each buyer’s pledged
total spend - Can be a dutch auction or a blind auction
- There is a cap on the amount raised
- Insiders are allocated a variable percentage of the total token
supply, depending on how many tokens are sold in the sale
Uncapped Auction
- Buyers bid a desired price and quantity of tokens
- A fixed number of tokens are sold to the bidders in descending
price order until all tokens are sold - No cap on the amount raised
- Insiders are allocated a fixed percentage of the total
token supply
Capped with re-distribution
- Buyers bid a desired total spend
- A fixed number of tokens are sold at a fixed price, in
proportion with each buyer’s pledged total spend - Buyers’ excess payments are refunded
- There is a cap on the amount raised (expressed as a cap on the
number of tokens to be sold) - Insiders are allocated a fixed percentage of the total
token supply
This structure guarantees that everyone can participate to some
extent. However, if the sale is oversubscribed, buyers will receive
fewer tokens than they wanted to buy, and a partial refund
of payment.
Capped with parcel limit
- A fixed number of tokens is sold at a fixed price on a
first-come, first-served basis until all tokens are sold - There is a limit on the total amount that each buyer can buy.
This could be achieved by capping the amount of each incoming
transaction, and making it difficult for a single buyer to send
multiple transactions — for example by generating unique codes for
each buyer in a way that is difficult for buyers
to automate - There is a cap on the amount raised (expressed as a cap on the
number of tokens to be sold) - Insiders are allocated a fixed percentage of the total
token supply
If effective, this model could promote a wider distribution of
tokens, preventing concentration in the hands of ‘whales’, while
also selling a fixed number of tokens with a capped raise.
Are there other alternatives?
There are other alternatives to doing a public token
sale — including selling to accredited investors only. In many
ways, this isn’t really a token sale, but rather a private
placement of securities to a closed group of buyers. In any case,
the buyers need to be identified and KYC’d, which means that
participation is limited. Such a sale may also cause a regulatory
problem for secondary trading, because securities are only able to
be traded on registered securities exchanges.
How do these structures stack up against the objectives?
There are tradeoffs with each structure. For example: it’s not
possible to guarantee that all buyers will get tokens and
guarantee that buyers will get a fixed percentage of the total
token supply.
Let’s remember that there is a huge amount of pressure on
developers of decentralized applications doing token sales. They
have one chance to make the right decisions about an event that
shapes the future of the entire project.
But even though there is no perfect structure, the choices that
developers make in structuring their token sales tells us something
about the relative importance that they place on these objectives.
At the very least, developers should be clear and
transparent about every aspect of their token sale, including how
and why they decided on the chosen structure. This should
be done well in advance of the token sale itself.
Are there any other structures you think could solve some of
these problems? Would love to hear your
thoughts — comment below!
Obviously, nothing in this article is legal advice or
investment advice.
Thank you to many Coinbase employees
especially Linda
Xie, Justin Mart and Ankur Nandwani.
Further reading
- The Rise of the Token Sale
- How to Raise Money on a Blockchain with a
Token - Tokens, Tokens and More Tokens
- The difference between App Coins and Protocol
Tokens - Introducing the Blockchain Token Securities Law
Framework - Token Sales: Data & Returns
The perfect token sale structure was originally
published in The GDAX Blog on Medium, where people are
continuing the conversation by highlighting and responding to this
story.
Spoiler alert: it doesn’t exist
With a new blockchain token sale happening every
few days, it’s a good time to examine the different ways that
token sales can be structured.
It’s important to remember the differences between (1) how the
token and the network actually function, (2) the problem that the
application or protocol is trying to solve, and (3) the structure
of the token sale. This article focuses only on the third point. I
am a lawyer, but this article isn’t about legal issues.
What is a token sale? What is
an ICO?
‘ICO’ (Initial Coin Offering) is a misleading term for a token
sale. This is especially true for many people who are exploring the
blockchain and token space for the first time right now.
Unlike an IPO— which is a well understood and rigorous process
for taking a private company public — a token sale is an
unregulated sale of digital assets that represent the potential
value of an early-stage project or concept. The investment thesis
is much closer to venture capital than investment in a
public company.
There are many phrases that describe this better: ‘token sale’,
‘token launch’, ‘crowdsale’, ‘pre-sale’, ‘token generation event’,
‘token sale offering’ or really almost anything other
than ‘ICO’.
A properly designed token sale doesn’t promise ‘investment
returns’, ‘dividends’ or ‘profits’. Instead, it focuses on selling
a digital asset that will have a clear use case in a decentralized
application, as a means of both incentivizing development and solving the
chicken-and-egg problem for the network. A properly designed
token actually serves a purpose: it is required in order to participate in the network, rather than just
being a funding mechanism.
We designed the Blockchain Token Securities Law Framework to
explain how this distinction also affects the securities law
treatment of a token.
What are the objectives of a token sale?
Here are some of the things that a developer might want their
token sale to achieve. This isn’t a complete list, or a comment on
any particular project. As we’ll see, a number of these objectives
conflict with each other. It’s up to the developers to decide which
of these things are most important to their project.
Raise a capped amount. You might want to limit
your total raise to align with your actual costs of developing the
network. You might not want the responsibility (or the resulting
attention) of securing and holding far more money than you were
expecting to.
Sell a fixed percentage of total token supply.
You might want to be certain about the percentage of tokens that
you are selling vs allocating to the development team, investors
etc. While there is no clear standard about what percentage should
be sold versus kept, you might want to have control over this
decision.
Distribute tokens widely. You might
want to try to distribute your tokens to a large number of users to
ensure that your decentralized application is actually
decentralized. You might not want a large number of tokens
concentrated in the hands of a few token holders, especially if
your network is going live shortly after the sale. Secondary
markets could also help to improve distribution.
Sell tokens at the market value. You
might want to let buyers decide the fair market value of your
token. On the other hand, it is difficult for buyers to value the
token, especially if there is a long development period before the
network is launched.
Guarantee that all buyers will get some
tokens. You might want to give all buyers the
opportunity to participate in your sale, rather than only those who
can get their money in the quickest.
Enable buyers to buy an ascertainable percentage of the
total token supply. You might want buyers to be
able to know what percentage of the total supply that their
purchase represents.
Of course, there is also the objective of actually
raising enough money to fund the development of the
project. However, in the current market, where many capped token
sales meet their objective in a matter of hours, if not minutes,
this is less of a concern.
What token sale structures are available?
Here are some of the token sale structures which have been used
to date, together with some alternative structures.
Capped First-Come First-Served
- A fixed number of tokens is sold at a fixed price on a
first-come, first-served basis until all tokens are sold - There is a cap on the amount raised (expressed as a cap on the
number of tokens to be sold) - Insiders (i.e. foundation, investors and/or development team)
are allocated a fixed percentage of the total
token supply
This is the most common structure used in token sales to date.
Some sales provide a discount for a limited period to encourage
early participation. However, in the current climate this is
unnecessary for most token sales, and has probably exacerbated the
FOMO-driven early sellouts for the most anticipated sales.
Uncapped
- An unlimited number of tokens is sold at a fixed price over an
extended period - All buyers can buy as many tokens as they desire
- No cap on the amount raised
- Insiders are allocated a fixed percentage of the total
token supply
Capped Auction
- Buyers bid a desired price and total spend
- A variable number of tokens are actually sold, at the lowest
successful bid price, in proportion with each buyer’s pledged
total spend - Can be a dutch auction or a blind auction
- There is a cap on the amount raised
- Insiders are allocated a variable percentage of the total token
supply, depending on how many tokens are sold in the sale
Uncapped Auction
- Buyers bid a desired price and quantity of tokens
- A fixed number of tokens are sold to the bidders in descending
price order until all tokens are sold - No cap on the amount raised
- Insiders are allocated a fixed percentage of the total
token supply
Capped with re-distribution
- Buyers bid a desired total spend
- A fixed number of tokens are sold at a fixed price, in
proportion with each buyer’s pledged total spend - Buyers’ excess payments are refunded
- There is a cap on the amount raised (expressed as a cap on the
number of tokens to be sold) - Insiders are allocated a fixed percentage of the total
token supply
This structure guarantees that everyone can participate to some
extent. However, if the sale is oversubscribed, buyers will receive
fewer tokens than they wanted to buy, and a partial refund
of payment.
Capped with parcel limit
- A fixed number of tokens is sold at a fixed price on a
first-come, first-served basis until all tokens are sold - There is a limit on the total amount that each buyer can buy.
This could be achieved by capping the amount of each incoming
transaction, and making it difficult for a single buyer to send
multiple transactions — for example by generating unique codes for
each buyer in a way that is difficult for buyers
to automate - There is a cap on the amount raised (expressed as a cap on the
number of tokens to be sold) - Insiders are allocated a fixed percentage of the total
token supply
If effective, this model could promote a wider distribution of
tokens, preventing concentration in the hands of ‘whales’, while
also selling a fixed number of tokens with a capped raise.
Are there other alternatives?
There are other alternatives to doing a public token
sale — including selling to accredited investors only. In many
ways, this isn’t really a token sale, but rather a private
placement of securities to a closed group of buyers. In any case,
the buyers need to be identified and KYC’d, which means that
participation is limited. Such a sale may also cause a regulatory
problem for secondary trading, because securities are only able to
be traded on registered securities exchanges.
How do these structures stack up against the objectives?
There are tradeoffs with each structure. For example: it’s not
possible to guarantee that all buyers will get tokens and
guarantee that buyers will get a fixed percentage of the total
token supply.
Let’s remember that there is a huge amount of pressure on
developers of decentralized applications doing token sales. They
have one chance to make the right decisions about an event that
shapes the future of the entire project.
But even though there is no perfect structure, the choices that
developers make in structuring their token sales tells us something
about the relative importance that they place on these objectives.
At the very least, developers should be clear and
transparent about every aspect of their token sale, including how
and why they decided on the chosen structure. This should
be done well in advance of the token sale itself.
Are there any other structures you think could solve some of
these problems? Would love to hear your
thoughts — comment below!
Obviously, nothing in this article is legal advice or
investment advice.
Thank you to many Coinbase employees
especially Linda
Xie, Justin Mart and Ankur Nandwani.
Further reading
- The Rise of the Token Sale
- How to Raise Money on a Blockchain with a
Token - Tokens, Tokens and More Tokens
- The difference between App Coins and Protocol
Tokens - Introducing the Blockchain Token Securities Law
Framework - Token Sales: Data & Returns
The perfect token sale structure was originally
published in The GDAX Blog on Medium, where people are
continuing the conversation by highlighting and responding to this
story.
Read more https://blog.gdax.com/the-perfect-token-sale-structure-63c169789491?source=rss—-58583de6a119—4