A brief overview of different token sale mechanisms

Similar to prior years, so too has 2020 brought the cryptocurrency industry innovative ways to distribute tokens, all of which try to address the shortcomings of their predecessors.

Since Ethereum popularized the ICO in 2014, distribution experiments have included Proof-of-Work mining, various forms of ICOs, private sales, SAFTs, auctions, IEOs and more recently AMM Offerings, Initial Bonding Curve Offerings, Bonding Curves and Balancer Liquidity Bootstrapping Pools.

Initial Coin Offering (ICO)

The ICO fundraising and token distribution mechanism rose to fame in 2017 due to its relatively easy implementation. Although most ICOs added their unique flavour, ICOs could loosely be separated into different forms of uncapped and capped ICOs.

Uncapped ICOs resulted in projects frequently raising much more than anticipated in 2017. This approach peaked with outlier events such as Tezos’ $228M and Filecoin’s all-time record $257M ICO. Uncapped ICOs were accompanied by high uncertainty about the valuation that contributors were buying at. This usually resulted in buyers waiting until the last hours of the last day of the respective sale period in order to have maximum predictability about the likely valuation.

The Ethereum sale was likely the most famous uncapped ICO. It lasted 42 days, with the initial price of 2000 ETH for 1 BTC for the first 14 days, and a subsequent linear increase, finishing at 1337 ETH for 1 BTC.

Source: Vitalik Buterin

In order to prevent overshooting the targeted fundraising goal, several ICOs introduced an upper limit - a cap. This resulted in highly oversubscribed token sales and contributors outcompeting each other for what was left after team and investor allocations. Latency - speed - was most often the decisive factor, which gave rise to the term “gas wars” and progressed to the point where large mining pools were front-running normal contributors due to high flipping multiples.

One such capped ICO was the Basic Attention Token (BAT) ICO in May 2017, which was completed within 30 seconds and sold BAT tokens worth $35M. Only 185 of over 10,000 intended contributors were able to successfully participate. The successful contributors paid Ethereum transactions fees in excess of $15,000 at the time, with the highest single fee being $6,600.

Both uncapped and capped ICOs largely died after the all-time highs of late 2017 and early 2018 due to large scale incentive incompatibilities. Most never recovered.

Initial Exchange Offering (IEO)

IEOs were first popularized by Binance via its Launchpad service offering in 2019. Other exchanges quickly followed suit. At their core, IEOs were basically repackaged ICOs via centralized exchanges. During the token sale, projects distributed their tokens to exchange users either via a first come first served basis or a lottery system. In return, crypto projects typically offered a part of their tokens, or fundraising proceeds, to the centralized exchange for the associated administrative costs and as a listing fee.

Compared to the scam ridden ICOs, IEOs promised more rigorous due diligence via the supporting exchange and had the benefit that contributors were already KYC’ed via the exchange. Additionally, the exchanges provided a venue for instant liquidity after completion of the token sale. Compared to uncapped ICOs, most IEOs only sold a small portion of the total supply and most often only raised $5M to $10M.

BitTorrent, the first prominent IEO, conducted its token sale via Binance’s Launchpad in January 2019 and raised $7.2M in two simultaneous sessions, one via Binance Coin (BNB) and one via TRON (TRON), in less than 15 minutes.

Source: Binance

Despite promises of higher quality projects, IEOs found a rather swift ending in 2019 and faded even quicker than ICOs. This was partly due to the overall lack of sufficiently high quality projects as well as the strong incentives for exchanges to conduct a high amount of IEOs for monetary benefits. Recently, Binance has started to conduct token sales via its Launchpad again. Another exchange which recently showed heightened IEO activity is FTX.

Dutch Auction

As an alternative to ICOs, Dutch auctions were utilized by several projects. In a Dutch Auction, the price of a given token starts at an initial price (ceiling) and subsequently drops periodically by a predetermined and fixed amount. The auction ends when (1) current demand meets or exceeds supply or (2) the reserve price is met. At auction end, bids above the ending price are accepted and bids below the ending price are canceled. All successful participants receive their tokens at the same final clearing price.

In June 2019, the Algorand Foundation raised $60M via a Dutch auction that issued 25M ALGO tokens. The auction began at $10 per token, with the final clearing price standing at $2.40 over the course of 4,000 rounds of bidding.

Source: Algorand

Reverse Dutch Auction

In a Reverse Dutch Auction, a sale is capped either in ETH raised or in the amount of tokens sold. The idea is that the auction starts with a high price and respective cap, which subsequently declines in a preset time interval. In theory, this allows participants to purchase tokens at a point in time when they think the implied valuation is fair. All successful participants receive their tokens at the same final price.

Gnosis utilized a Reverse Dutch Auction for its token distribution in 2017. Its sale had a cap of $12.5M and the actual amount of tokens given to contributors depended on how long the sale took to finish. If finished by the first day, 5% of tokens would be distributed, 10% on the second day and so forth. This way, contributors were able to get a better understanding of which valuation they were buying in.

However, unexpectedly, the sale finished within just a few hours during the first day, resulting in an implied valuation in excess of $300M with only about 5% of tokens sold for $12.5M.

Source: Trustnodes

Automated Market Maker (AMM) Offering

AMM Offerings have been all the hype for many DeFi projects recently. The basic idea is that instead of contributing by purchasing tokens, project supporters contribute via liquidity provision - usually to either Balancer or Uniswap liquidity pools - and tokens are earned at a pro rata rate. The initial idea was to strengthen the community around projects via fair token distribution and no large pre-mines. Moreover, with contributors buying and selling peer-to-peer instead of buying from a centralized issuer, regulatory scrutiny might be circumvented. However, despite arguments of permissionless participation, which cannot discriminate against U.S. citizens for example, the overall regulatory verdict remains unclear. While AMM Offerings have become so successful that many projects have begun to utilize them, in reality, they heavily favour “whales” and have resulted in several pump and dump schemes - most notably the recent food meme coins. Beyond food meme coins, another example of this is the bZx token sale in July. “Block Snipers” were running scripts to purchase the bulk of available BZRX tokens from its launched Uniswap liquidity pool the same block the pool was launched.

Yearn.Finance (YFI) and UMA are two recent examples of successful AMM Offerings - with the verdict still out on Uniswap fork SushiSwap and Curve fork Swerve.

30,000 YFI tokens, the native token of yearn.finance, were originally distributed equally between users providing liquidity “liquidity mining” on Curve (yCRV), Balancer (98% DAI, 2% YFI and 98% yCRV, 2% YFI), as well as those who staked their Balancer Pool Tokens in governance.UMA launched its first token sale through Uniswap, distributing over 50% of the float in a matter of hours. Participants competed massively on latency. Data suggests that bots were scanning Ethereum's transaction pool, waiting for UMA to provide liquidity. About 45% of the float was purchased within two blocks.

Initial Bonding Curve Offering (IBCO)

An IBCO is a token distribution mechanism which tries to (1) conduct a fair and open token launch (2) provide everyone with a possibility to contribute on the same terms (3) minimize potential negative influence of “whales” on token launch (4) protect contributors from front-running and unfair participation and (5) prevent token price manipulations.

It tries to achieve these goals via the same settlement price for all contributors by pooling contributors’ liquidity and issuing tokens after the sale on a pro rata basis. During an IBCO, the final settlement price appreciates in respect to the total amount raised. Furthermore, it features bootstrapped liquidity pools from all or part of the raised contributions for a preselected period of time.

Hegic protocol, an on-chain options trading protocol on Ethereum, powered by hedge contracts and liquidity pools, recently conducted its IBCO on September 12 and raised $12M from 1,400 contributors in 72 hours. In Hegic’s case, 100% of raised contributions will be dedicated to the bootstrapped liquidity pools for one year before the raised funds will be reallocated into the development fund for funding the long-term development of the protocol.

Source: Hegic

After Hegic’s IBCO ended, only 3% of total supply were in circulation: 90,360,300 HEGIC. 22% of the 25% supply allocated to the IBCO Bonding Curve were allocated to the after-IBCO Bonding Curve contract with a start price equal to the last (settlement) price on IBCO.

Balancer Liquidity Bootstrapping Pools (BLBP)

Balancer is a Uniswap-like AMM protocol which facilitates token swaps on Ethereum. Compared to Uniswap, its liquidity pools can store up to 8 different assets and creators can customize (1) the weight of each asset in the pool and (2) the transaction fee charged by the pool.

This enables (1) Impermanent Loss Mitigated Pools and (2) Auto-rebalancing ETF-like Pools.

Due to the mentioned factors, BLBPs focus exclusively on Balancer pools and forego Uniswap or Curve pools.

Perpetual Protocol, a decentralized futures protocol - with a Uniswap-inspired Virtual Automated Market Makers (Virtual AMMs) and a built-in Staking Reserve which backs and secures the Virtual AMMs - recently distributed 7.5M PERP tokens worth about $13.2M to 1,355 contributors via a Balancer Liquidity Bootstrapping Pool from September 9 to September 12.

Source: Twitter

In a sense, the Balancer Liquidity Bootstrapping Pool was a front-loaded liquidity mining event to Perpetual Protocol’s broader liquidity mining plans in late September.

Decentralized Autonomous Initial Coin Offering (DAICO)

DAICOs are community-owned and funded Decentralized Autonomous Organizations (DAOs), utilizing Aragon Fundraising - an app built on top of the Aragon protocol.

By design, the Bonding Curve smart contract splits contributions into reserve and discretionary pools. It provides smart contract enforced accountability between project contributors and creators, while simultaneously ensuring sufficient liquidity via an AMM design. Contributions are utilized as collateral, deposited along the curve, and are automatically transferred into the reserve pool. Funds held in the reserve pool cannot be spent directly. Instead, a tap mechanism controls the percent of this reserve pool that can be withdrawn in a given time period to a discretionary vault to encourage a reasonable use of the funds. Token holders of the organization can then vote on the allocation of funds held by the discretionary vault.

Aavegotchi, a DeFi-enabled Crypto Collectibles (NFTs), launched its unlimited Bonding Curve, a permutation of the DAICO - utilizing Aragon Fundraising, on September 14. Its interface allows KYC’ed contributors to purchase its native token, GHST, from its unlimited Bonding Curve which launched at a price of $0.2 / GHST. During the Bonding Curve launch, speed was the decisive factor as the price of GHST increased according to issued supply.

Source: Aavegotchi

Summary

While it is admittedly difficult for teams to choose the right token sale mechanism, 2020 has shown that an early full dilution without significant pre-mine and or supply reserved for investors, as well as community governance from the onset could lead the way forward. YFI and Aavegotchi are interesting case studies in this regard.

The speed of innovation and various implementations of community forks in the past months has shown that the market is much healthier in terms of punishing - as well as rewarding - good and bad projects, compared to 2017.

Lastly, with new protocols starting out as DAOs right away, new challenges for regulatory compliance will have to be addressed.