If a team behind an ICO profits, then the difference between a scam ICO and a bad ICO boils down to intent. This means that many of the following questions do not differentiate between a scam and a mismanaged ICO.
Always keep in mind “Godel’s Scammer Incompleteness Theorem”: for any list of scams, a scam exists which is not covered on that list. If Bernie Madoff held an ICO, he could have sailed through every “scam test” available in pre-ICO stages.
This article occasionally uses “Initial Coin Offering” (ICO) and “Token Generation Event” (TGE) interchangeably.
None of this should be taken as financial, political, or beauty advice.
Value propositions exist on several levels. The team in charge of the initial coin offering (ICO) or Token Generation Event (TGE) has to explain why a prospective customer would buy their particular product. Second, they need to explain why a prospective customer would buy that product from the ICO’s team. Third, they need to explain why their ideal customer would buy that product from another company. When most people talk about “value propositions” they are referring to the third answer. However, all three are vital to successful product/market fit.
A great product in a tiny market is bound to have problems. The company behind the world’s best “Build Your Own Quantum Computer” kit will still end up bankrupt by Christmas. Similarly, a terrible product will fail in the great market due to competition. A great product for dog-owners will likely fail if sold to parakeet-owners.
Building a product without taking product/market fit into consideration is like building an igloo without taking the local temperature into consideration. Teams involved in a successful blockchain project should be able to explain how their business model can achieve a good product-market fit.
When entering a market full of corporate giants, it is not enough to have a better product and better prices. The product must overcome the “network effect.”
A benefit of Facebook is that friends and family can be contacted on their platform. As more people joined Facebook, those benefits grow. The growth of Facebook’s network increases Facebook’s advantage over competitors. A product claiming to be “the next Facebook” lacks that benefit.
When Facebook went up against Friendster, Friendster benefited from the network effect. The difference is that Facebook had a clear-cut plan to supplant Friendster.
Feasibility is a tricky concept. For instance, “heavier than air flight” was considered infeasible for most of human history. Countless people were scammed with promises of investing in flying machines. Similarly, 80% of the ICOs in 2017 were scams.
On the other side of the feasibility spectrum, “Jesus Coin” claims it will decentralize Jesus. While this may be a joke coin, many whitepapers are just as ridiculous. A scam might be called HospitalCoin which claims to decentralize hospitals through immutable block time hashes and the convergence of distributed ledger innovations without a shared relational database.
The difference between Jesus Coin and HospitalCoin is that HospitalCoin uses complexity to hide ridiculousness. Investors without extensive blockchain knowledge might be conned into believing HospitalCoin is more feasible than Jesus Coin.
It is impossible to say beforehand whether even the largest ICOs will succeed or fail.
However, if the team cannot explain their project in a way that makes sense to knowledgeable investors, the chances of feasibility drops drastically. Feasibility drops further if the team cannot name a real use case.
If a whitepaper has a clear use case and makes sense (at least to experts), then only paid pundits and fortune tellers can say with certainty whether the technology will fail.
A feasible project may be profitable in the short run, but what happens once there is growth? A single representative answering every customer complaint can be profitable. However, growth in the number of customers will soon overwhelm the representative. This leads to unforeseen, costly solutions like outsourced call centers. These extra costs can turn a profitable project into a loss.
This question is crucial to the survival of a blockchain project. Blockchain technology that does not have a real-world use will not be used. If a blockchain project is not used, it may as well not exist.
Some blockchain projects may have no real use case but fit niche markets such as “early adopters for fancy gadgets” or “existing users of blockchain technology.” This product/market fit may ensure short-term profits, but the lack of a real use case limits the size of the market to enthusiasts.
Many companies use coins and tokens launches and coin offerings as an excuse to decorate an old product with the words “blockchain technology.”
A quick way to know whether blockchain is necessary is to ask “If we replaced the word ‘blockchain’ with ‘database’ would the concept still make sense?”
If the answer is “yes,” then blockchain is almost certainly not necessary.
Token creators can boast about getting rid of intermediaries, enabling trustless transactions, and distributed ledgers. But are these advantages different from the advantages of existing blockchains? If asking this question flusters ICO representatives, then there are likely conceptual issues.
Airdrop claims, telegram channel sizes, and Twitter followers do not predict the eventual userbase.
Hundreds of blockchain-based projects have gained hundreds of thousands of followers over the past few years.
Yet as of August 27, 2018, only 5 dApps on the Ethereum blockchain have over 300 daily users.
This is not necessarily a scalability issue; adoption can also be stalled by a complicated user interface and markets.
Successful ICOs always lay out their plans for the future. Even bad and scam ICOs will have roadmaps. The difference between a “bad roadmap” and a “scam roadmap” is that a bad roadmap makes unrealistic predictions in the short term while a scam roadmap makes unspecific, unmeasurable predictions in the short term.
Scams can use measurable predictions as long as the measurement takes place long after the scammers have left. That’s why it is important to look for measurability in short-term predictions.
Raising money from an ICOs and TGEs is not a business model. It is a means to an end. The product or project must be able to compete in an open marketplace. How will the product make money when it is sold, shared, traded, or used as a platform? No legitimate ICO would hesitate when asked to demonstrate how they will maintain profit margins.
An escrow service provider ensures that a financial transaction only occurs when the conditions set by both the buyer and seller are satisfied. In the case of ICOs and TGEs, the escrow provider holds onto one of several cryptographic keys. Without the escrow provider’s key, neither the buyer nor seller can access the money.
Articles commonly recommend that ICOs find a respectable and well-known escrow service.
This is like saying that investors won’t be scammed if they just find a respectable ICO.
Escrow service scams are just as prevalent as ICO scams.
At the moment, respectability boils down to online reputation (which can be altered through paid reviews). This massively favors service providers who have a positive online presence in forums such as bitcointalk.org.
Whitepapers cost $200 on Fiverr. A great idea can be found in most college dorm rooms. Real projects build prototypes.
The existence of a working alpha version or minimum viable product also proves the team has handled technical issues with the product.
The quickest ways to spot a scam is to do a Google “Reverse Image Search” on ICO team members.
If a core team member pops up on a website for stock photos, the ICO is either run by scammers or famous models.
Even if the photo matches a social media account, it may still be fraudulent. Was the account created more than a few months ago? Do they talk about anything other than their ICO?I
LinkedIn is especially useful since many job claims by team members can be cross-checked with other sources.
ICOs can also protect investors by coding vesting periods into their contracts. A vesting process locks tokens in a smart contract swhich are distributed at a fixed rate. This ensures founders won’t immediately sell their tokens and abandon the project.
Even if ICOs promise to code a vesting process, they rarely follow through. According to a University of Pennsylvania law review, the majority of ICOs that claimed they would code a vesting period failed to do so.
However, the overwhelming majority of ICOs with whitepapers that do not mention vesting periods failed to code a vesting period into their ICO.
There are not many guarantees in the world of cryptocurrency.
One guarantee does hold true: any project that asks for your private keys is a scam.
Some of the best and most exciting ICO projects come from developing countries around the world. However, only ICOs founded in countries such as the US and countries in the EU are fully subject to investment laws. This allows scammers to move between jurisdictions in order to avoid regulation. A more specific version of this question would be “Is the regulatory environment under the ICO’s jurisdiction stricter or more relaxed than the regulatory environment where the ICO’s stakeholders reside?”
When asked about experience, some entrepreneurs note that Bill Gates dropped out of college and started Microsoft in his garage without any prior business experience.
This ignores the hundreds of thousands of other Americans who started a business in their garage and failed miserably.
Everyone makes some first time mistakes in the world of business.
A multi-million dollar ICO should not be that first time.
Team members with working businesses and high profile partners are used to the long-term investments that come with running a business.
If a valuable, established business attaches its name to an ICO, then the chances of that ICO being a scam lower. If the ICO is a scam, the partnered business will lose its reputation and all accompanying revenue. The exception is when a scam ICO can convince a business that it is not a scam.
Github is a site where developers can build, store, and share open-source software. Open-source blockchain teams should have a code repository. This way, anyone with the appropriate skills can tell whether the technology matches the promises of the whitepaper.
It is even more important to check how regularly the team updates their GitHub. If the team’s repository hasn’t been updated, then it’s likely no work has been done of the code itself.
Any ICO claim about burn rates, vesting periods, or supply protection is meaningless if the code can be modified at any time. Like promises of a coded vesting period, there is no way to know ahead of time whether the team will keep their promise. However, the probability that the final code will be modifiable lessens if the team’s whitepaper makes that guarantee.
When checking out social media profiles, the absolute number of Twitter followers and Facebook friends can be misleading. A more useful data set involves tracking follower growth over time. In online tools like Followerwonk, you can see the growth of a profile’s presence over time. Unnatural spikes in growth may indicate the presence of a bounty program or giveaway. However, it may also indicate the presence of purchased followers or bots.
According to Ethereum’s programmer, Vitalik Buterin, cryptoeconomics is the use of cryptography and economic incentives to create systems with desired properties.
Blockchain expert Nick Ayton similarly claims cryptoeconomics is “the relationship between the network, the asymmetric cryptography, and the underlying consensus algorithm.”
Vlad Zamfir, who developed the ethereum platform, defines cryptoeconomics as a “practical science that focuses on the design and characterization” of protocols that govern goods and services in a decentralized economy.”
The ethereum and bitcoin blockchains function by combining cryptographic concepts like hashing with economic incentives such as block rewards. If a blockchain project is only building upon an existing blockchain without altering any protocols, cryptoeconomics is not relevant to the discussion.
Creating a new blockchain costs a lot of money. ICOs had better be able to explain why they need to re-invent the wheel to solve a particular problem.
Without proper incentives, blockchains are bound to fail. If the ethereum blockchain was designed without rewarding cryptocurrency miners with digital currency, no one would be incentivized to keep the blockchain running.
Cryptoeconomics is the study of cryptography and economics of the blockchain.
Tokenomics is the study of how tokens can be used to store and distribute value.
Blockchain strategist William Mougayar defines tokens as units of value that “an organization creates to self-govern its business model and empower its users to interact with its products while facilitating the distribution and sharing of rewards.”
Tokeneconomics examines how business models interact with tokens. Bad tokenomics models are guaranteed to cripple any blockchain project that needs consistent users.
Mougayar classifies these problems as being one of “Token/Utility Fit,” the blockchain equivalent of “Product/Market Fit.” Product/Market Fit refers to how well a product satisfies the expectations of a particular market. Token/Utility Fit refers to how well a token satisfies the expectations for how the token will be used. If there is a good fit, the crypto token will continue to function according to its token value proposition.
To paraphrase William Mougayar’s definition, a token value proposition takes the form of “[Market segment] will use our token to [token utility] at [cost] so that they may [benefit] resulting in [valuable transactional activity].” Any ICO that cannot answer this question has not been properly thought out.
Tokens can have multiple roles in a project. Tokens can
– act as a basic unit of value exchange
– act as currency
– enact different functions such as joining a network.
The token value proposition hones in on the greatest benefit. Evaluating a token’s role describes the full spectrum of a token’s uses.
Token roles exist for a purpose. Are conferred rights meant to bootstrap engagement or dis-incentivize exploiting the project? Is the token used as value exchange in order to create a transactional microeconomy or is it solely to increase profit margins? Is the token used as earning to distribute benefits? Are the functions meant to enrich user experience?
In order for a token to carry out its purpose, the project needs features that fulfill the role. Does the token confer rights through product usage, governance, or ownership? Is the token used for value exchange in order to sell something, to create a product, or be work rewards? Do earnings come through profit sharing, benefit sharing, or inflation benefits?
If the ICO has lots of followers on twitter, telegram, Reddit, and Facebook, it is likely to have hired a proficient marketer. It also means the ICO dedicated part of its budget to marketing activities such as airdrops and community management. While the presence of social media traction does not say much, a lack of social media presence indicates major planning failures or outright fraud.
A project should have lots of hype around their ICO or TGE. However, too much hype has an unintended consequence.
Overhyped projects draw investors who follow trends instead of doing their own due diligence. If the ICO has the slightest bit of bad news, those investors will flee. Meanwhile, the investors who did their due diligence will stay and get hurt by the trendy investors.
Bitcointalk.org was created in 2009 by Satoshi Nakamoto, the name given to the person(s) who developed bitcoin. Projects announce their ICOs on bitcointalk. This is usually accompanied by praise or withering critique from the forum. A great ICO has nothing to worry about. Scams and poorly thought-out ICOs will avoid bitcointalk at all costs.
Anyone with a few thousand dollars can purchase a professional-looking video explainer. However, a good video explainer is able to break down concepts so that they can be understood by anyone. A scam explainer video would hype up the concept or mention benefits while failing to actually explain anything.
Legitimate ICOs may not have financial models in their whitepapers. However, the lack of financial models may indicate a lack of financial expertise in the ICO team.
When an ICO claims to “disrupt” an industry, that ICO had better know whom they aim to disrupt. They also should know whom their blockchain-based competitors are. If an ICO does not have a clear understanding of their competition, how can they have a clear understanding of their market?
No lawyer who passed the bar would allow his clients to write a whitepaper without any kind of legal protection. All whitepapers should have at least a paragraph of incomprehensible legal jargon. If the whitepaper has no legal disclaimer then the team does not have a lawyer advising them. An ICO that pushes its whitepaper on the world before consulting a lawyer may not know which countries have regulations that would make the ICO useless.
Again, anyone can buy a website for a few hundred dollars. What is more telling is when there is a lack of a high-quality website. Considering how much money ICOs raise, there is no justification for a low-quality website. If a legitimate ICO has a low-quality website, then they are unlikely to have someone on the team with marketing experience.
ICOs and TGEs can have multiple objectives: selling tokens at market price, promoting widespread distribution of tokens, guaranteeing that all buyers will get some tokens, and raising a capped amount. The structure of a token sale determines whether these objectives are met.
In a token launch, common token sales structures include sales that are uncapped (no limit on tokens sold) or capped (fixed number of tokens sold with a cap on the amount raised). Tokens can also be sold at a fixed rate or determined by an auction. There is no such thing as the perfect token sale structure because there are trade-offs between the various objectives.
An ICO cannot guarantee all buyers will get some tokens if they raise a capped amount. With an uncapped sale, buyers can’t claim a fixed percentage of the total token supply.
If a token launch does not align with their objectives, they have almost no chance of surviving.
It is normal for companies to keep a percentage of the tokens in reserve. However, ICOs can use large reserves to profit at the expense of the original investors.
For example, an ICO can sell the reserves on the open market which dilutes the token’s price. The team members can also always just keep the reserves for themselves.
Some projects will “premine” cryptocurrency coins before any other cryptocurrency miners are given a chance to participate. This gives developers capital to incentivize employees, cover legal fees, and reward the biggest risk-takers (themselves). Releasing large amounts of coins or tokens also increases the liquidity of that cryptocurrency on exchanges.
Other projects will “instamine” coins. Instamining is when coins are distributed unevenly during an initial period. On the first day that the cryptocurrency, Dash, was available, over 2,000,000 coins were mined. Currently, Dash mines around 3,000 coins. Instamining rewards the earliest adopters.
Legitimate reasons exist for premining and instamining. This does not change the fact that premining and instamining are perfect for scammers. Even Dash, with one of the highest market capitalizations of any cryptocurrency, has been accused of being a scam due to the initial instamining. Premines are a great way for scammers to raise capital and then “pump and dump” the coin leaving investors without a digital cent.
Tokens can also be created without mining. Token Generation Events create tokens through self-executing, smart contracts. These smart contracts distribute tokens without any mining.
A quick way to spot a naive team or scam artist is to check how they allocate their funds. The teams behind ICOs and TGEs needs to be incorporated in order to offer the slightest bit of investor protection. Legal fees will only become more expensive as government agencies such as the Securities and Exchange Commission continue to harass ICOs that step too far into the spotlight.
Airdrops are events where a new cryptocurrency is distributed freely for a variety of purposes.
In passive airdrops, cryptocurrency is sent to people who already own a particular cryptocurrency. Passive airdrops are usually used to reward loyal customers. In some cases, an ICO will distribute cryptocurrency to individuals who already own a similar cryptocurrency in order to raise awareness for their ICO.
In active airdrops, anyone can receive cryptocurrency in exchange for actions such as posting on Facebook, joining a Telegram channel, or “liking” an account. Unless the user has a free account at www.BlockTreeClub.com, he or she must fill out a “Know Your Customer” (KYC) form every time they wish to claim an airdrop. This usually includes social media information, name, email, and wallet address.
At Block Tree Club, users pre-fill a KYC once. When they claim an airdrop from an ICO, the pre-filled KYC is automatically shared with that ICO. The only actions needed are social media activities.
While vesting only applies to ICO team members, token lockup periods can apply to larger groups. For example, airdrops are not released until several weeks after the token sale ends. Lockup periods exist to stop team members and users from immediately selling their tokens and tanking the market price.
This seems like a commonsense precaution. However, 48% of ICOs funded by institutional capital had no lockup period. That includes venture capitalists.
If you ask an ICO which exchanges they will be listed on, the correct answer in nearly all cases is “We don’t know yet.” ICOs rarely know which exchanges their tokens will be listed on until very late in the game. However, they should have an idea of exchanges where they want to list.
This question will likely scare legitimate ICOs as well. An project’s can give ideal answers to the previous 44 questions and still end up with a disaster.
The key is not the answer itself but the consistency between this answer and any of the prior questions.
If an ICO team can smoothly answer any business question, then they can smoothly answer this one.
If the team stumbles through these questions, then they will likely stumble through this final one.
If the team can barely understand the prior questions yet expresses full confidence in themselves, then it is time to worry.
The only reason to be confident about an ICO in such terrible shape is if the team expects to profit regardless of the ICO’s health.
What other questions scare scam ICOs? Leave your submission in the comments below.