Finance

Lionel Laurent is a Bloomberg Gadfly columnist covering finance and markets. He previously worked at Reuters and Forbes.

(Corrected )

Initial public offerings are yesterday's news. Who would want to buy a share of a company that's wildly unprofitable and whose days of racy growth may be behind it?

But there's now a geekier and greedier way to bet on a start-up: The ICO.

The Initial Coin Offering is the Bitcoin world's latest attempt to re-create Wall Street in its own image. Rather than exchanging dollars for shares, which usually come with a claim on profits and voting rights, an ICO sees the exchange of Bitcoin (or a rival like Ether) for an issuer's newly minted digital currency. That coin is somewhere between a currency and a stake in the business, as Wired puts it, which can then be used to buy distributed computing power or labor hours.

Bitcoin's Investment Bankers
Recent initial coin offerings (ICO) as tracked by Smith + Crown
Source: Smith + Crown

The theory goes that if this business is a "Good Idea", its success will boost the value of its own tokens, enriching those who got in early at a discount. There's been the inevitable speculative rush, with ICO buyers scrambling to flip their new coins at a premium on exchanges a few weeks later. This doesn't always work. There's also the potential for scams.

To a lot of people, this will sound less like a new threat to Wall Street and more like exchanging one set of magic beans for another. Bitcoin itself still feels "more virtual than real," the WSJ's Paul Vigna wrote last week, as cautious regulators limit widespread investor acceptance and consumers shun a payment method that can slump 20 percent in a day.

The Risk-Reward Rollercoaster
Bitcoin's performance as tracked by an exchange-traded note in Sweden
Source: Bloomberg

That tells you something about the type of start-up willing to flog an even riskier token in return: Experimental, abstract and obsessed with all things decentralized and crypto-currency. It also tells you about the type of investor they're looking to attract: More than half of the $20 billion of Bitcoin in circulation are said to be owned by a small oligarchy spread across China and the hedge fund world, according to the Harvard Business Review.

This is not the kind of deep fundraising pool that's going to give Goldman Sachs a run for its money.

A Shallow Pool
The total market value of Bitcoin and Ethereum, the two biggest virtual currencies
Source: coinmarketcap.com

Where things get interesting is what this means for venture capitalists. Their job depends on taking big early-stage risks in return for juicy rewards when a company like Snap goes public. In terms of the money amassed, recent ICOs aren't far off an average Series B financing round, raising around $5 million to $15 million, according to research firm Smith + Crown.

And whereas a VC firm might end up owning 20 or 30 percent of a start-up in return for that money, an ICO might only mean one-time costs of less than $500,000, according to Stan Miroshnik, managing director of investment bank Argon Group. Free Bitcoin!

If the past is any guide, VCs will learn to co-opt this potential source of disruption in much the same way as Wall Street banks have funded, taken over and picked apart fintech rivals. One fund, Blockchain Capital, is adopting the ICO model itself to tap investors for $10 million alongside a traditional $50 million fund.

Trading tokens might also offer VC backers a nice option to cash out of an investment in a more convenient, liquid way than the sometimes trickier wait for the business to sell itself or go public.

If there is a silver lining in ICOs, it's unlikely to be its dream of rebuilding the financial world on open-source technology. It's more the hope that tech evangelists preaching digital disruption might have to face a bit of disruption themselves. And given the VC industry's role in hyping Bitcoin and Ethereum, that's probably fair.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

(A previous version of this story was updated to correct a typo in the headline.)

To contact the author of this story:
Lionel Laurent in London at llaurent2@bloomberg.net

To contact the editor responsible for this story:
Edward Evans at eevans3@bloomberg.net