Opportunity
A qualitative study of how entrepreneurs in Sweden perceive this novel and unique financing method
Master’s Thesis 15 credits
Department of Business Studies Uppsala University
Spring Semester of 2020
Date of Submission: 2020-06-03
Daniel Sven Corominas Larsson Ilia Alexeevich Bobadilla Smolski
Supervisor: Lena Zander
Abstract
This study is within the field of financial innovation and entrepreneurship. The thesis’s primary purpose is to investigate how and why entrepreneurs in Sweden are positioning themselves in regarding Initial Coin Offerings as a new financial vehicle based on the Swedish regulations and the underlying factors to the entrepreneur’s point of view. The literature contributes a limited knowledge of the Swedish industry concerning ICOs, and therefore this research aims to enhance awareness. Through qualitative research based on eleven interviews, we conclude there is a general lack of knowledge and risk-aversion from the absence of regulations in Sweden. Furthermore, all interviewed entrepreneurs were open-minded about an ICO with certain limitations. Considering that, on average, an enticing secondary market has existed for the tokens issued by ICOs, and a remarkable amount of money has been left on the table by project promoters, investors seeking for potential profit have hoarded the cryptocurrency space, creating a situation similar to the dot-com bubble. Thus, we also discuss the benefits, drawbacks, and the possible fate regarding ICOs, a new financing method that should not be overlooked.
Keywords: Initial Coin Offering (ICO), Blockchain, Cryptocurrency, Proof of Work (PoW), Miner, Altcoin, Fiat Money, Venture Capital (VC).
Acknowledgements
The last page in the chapter of our studies at Uppsala University within the Master Program in Entrepreneurship is turning. During the program, we have studied the crucial perspectives of the upcoming challenges of starting a business or launching a new venture within an established organization. The role entrepreneurship has in society and the importance of corporate entrepreneurship within the role of intrapreneurship for a company's future success.
We want to thank all the interviewed participants who took their time to help us gain valuable insights into our thesis and even more future perspectives.
Furthermore, acknowledge Ivo Zander and our supervisor Lena Zander for her guidance and support during the thesis.
Lastly, the learnings have been many, and it will serve us well for our upcoming challenges.
Uppsala, Sweden, 3rd June 2020
Daniel Sven Corominas Larsson and Ilia Alexeevich Bobadilla Smolski
TABLE OF CONTENT
1. INTRODUCTION ... 1
1.1 Background ... 1
1.2 Aim & Research Questions ... 2
1.3 Contribution ... 2
2. LITERATURE REVIEW ... 3
2.1 Bitcoin ... 3
2.2 Traditional Banking versus the Bitcoin System ... 5
2.3 The Role of Alternative Cryptocurrencies ... 6
2.4 FIAT Money ... 7
2.5 Factors Affecting Growth ... 7
2.5.1 Government Regulation ... 7
2.5.2 Public Perception ... 8
2.6 Initial Coin Offering - ICO ... 8
2.6.1 What is Success in an ICO ... 12
2.6.2 Benefits... 12
2.6.3 Drawbacks ... 14
2.7 Synopsis of ICOs ... 15
2.8 ICO Best Practice ... 16
2.9 Results of Literature Review... 17
3. METHODOLOGY ... 19
3.1 Research Frame ... 19
3.2 Research Design... 19
3.3 Data Collection Method ... 20
3.3.1 Semi Structured Interviews ... 20
3.3.2 Pre - Interviews ... 20
3.3.3 Operationalization ... 21
3.3.4 Data Analysis Method ... 21
3.4 Methodological Limitation & Quality Criteria ... 23
4. EMPIRICAL ... 24
4.1 Presentation of Data Collection... 24
4.2 Analysis of Data Collection ... 25
4.3 Synopsis of Interviews... 26
5. DISCUSSION ... 42
6. CONCLUSION ... 44
6.1 The Future of Initial Coin Offerings... 45
7. FURTHER RESEARCH ... 46
8. REFERENCES ... 47
8.1 Books ... 47
8.2 Articles ... 48
8.3 Electronic Journal ... 50
8.4 Reports ... 51
8.5 Websites ... 51
9. APPENDIX ... 54
9.1 Operationalization Schedule ... 54
1. INTRODUCTION 1.1 Background
Initial Coin Offering (ICO) presents a new way of financing for organizations, businesses and entrepreneurial ventures (Adhami et al., 2018), which relies on the decentralized nature of the Blockchain technology (Catalini et al., 2018).
The potential aspects of their underlying structure to have an important impact on fundraising systems (Zetzsche et al. 2018), and the idea of issuing firm-specific tokens dates back in time (Catalini & Gans, 2019). Still, the novelty in such enterprises follows the invention of Bitcoin by Nakamoto (2008). There is a clear correlation between the increase in the price of cryptocurrencies in 2017 and the popularity of ICO investments (Figure 2 & 3). An ICO, or Initial Coin Offering, is similar to a traditional stock market Initial Public Offering (IPO), where digital tokens are issued instead of shares. These tokens can not only be traded, but are designed to complement and be at use for the service that will be provided in the future by the platform. Table I describes the differences in the traditional banking system and the Bitcoin system; Table II describes the distinction between an ICO and IPO. There are some downsides of decentralization, like the fact that it cannot avoid human imperfections - which in the case for many ICOs, fraud has been a frequent subject. Due to the anonymity and irreversibility of transactions; scams, thefts and hacks are also common. Despite this, when appropriately designed, ICOs will provide more liquidity, security, and transparency than any other conventional financing instruments (Howell et al, 2018). Table III shows the main advantages and disadvantages of these ICOs.
One of the major differences, ironically, is the fact that IPOs are funded mostly by institutional/accredited investors, whereas ICOs can be supported by anyone with an internet connection, that is, the general public (Adhami et al., 2018).
The concept of electronic currency dates back to the late 1980s, however, the first successful decentralized and excluding hierarchical power structures is Bitcoin, launched in 2009. The first Initial Coin Offering was held by Mastercoin (currently known as Omni), which raised 5,000 Bitcoin at a total value of $500,000 in 2013 (Merre, 2019). Ethereum, the second most popular cryptocurrency to date, did their token sale in 2014, raising approximately 3,700 Bitcoin in its first 12 hours, which was equal to $2.3 million at the time (Roosenboom et al., 2020). The rise of Bitcoin endured as ambivalently received (Scott, 2016), and the image of
Bitcoin-tokens became associated with speculators, profit-driven entrepreneurs, market- fundamental liberty, and technology mania (Yelowitz & Wilson 2015). Bitcoin benefited from excluding the trust of authority, lower transaction fees, lower latency (transaction time), and a pseudo-anonymity (Farell, 2015). This, however, is a double-edged sword, as some of the advantages can be seen inversely. New regulations can be imposed to limit this theoretically more efficient and trustless method, to reach a balance between a decentralized system and a centralized one. However, these limits can be extreme, especially in countries with totalitarian governments who feel threatened by a new system that will change the status quo.
1.2 Aim & Research Questions
Due to Initial Coin Offering being a new source of capital for businesses, our study aims to contribute to the topic by examining the following research questions:
• For what reasons would entrepreneurs show interest, contempt or refusal in issuing an ICO to raise Venture Capital, based on the regulations of the country the ICO is issued in?
• To what degree are entrepreneurs willing to expose themselves to the risk associated with the disadvantages of this method?
1.3 Contribution
The thesis will be useful to entrepreneurs and entrepreneurial ventures that are looking for alternative financing in this growing market of online contributors, who at the same time, are actively seeking ICOs in which to invest, policymakers that are interested in ICOs, and finally, to contribute to the academic studies of ICOs.
2. LITERATURE REVIEW
In this section we dissect the reason for the existence of ICOs. A comparison is made between the nature of cryptocurrencies, which are based on Bitcoin (section 2.1), and the traditional financial means (section 2.2). Alternative cryptocurrencies innate from the creation of Bitcoin are portrayed as competitors (2.3), as well as for the main government-issued currency (2.4).
In addition, we present the aspects related to cryptocurrency adoption (2.5), and the role of Initial Coin Offerings in the cryptocurrency space, including benefits, drawbacks from this method, as well as making a comparison to the traditional Initial Public Offerings (2.6). We also present a table discussing the main advantages and disadvantages of ICOs (2.7). Finally, we describe optimal ways to conduct ICOs successfully (2.8), and an overview of the results of the Literature Review (2.9).
2.1 Bitcoin
Initially, Bitcoin as a new cash system soared in advanced international nations. Brett Scott (2016) writes about the application of Bitcoin as the context of international development, financial inclusion, and bottom-of-the-pyramid business efforts, and why it may be used to empower people in less developed countries. Hence, its low-cost remittance of money enables the fact that any individual can open an account with bitcoin by accessing the internet. Bitcoin provides the basis for a broader set of financial services. One example is BitPesa (bitpesa.co).
Bitcoin’s success is no surprise for many early investors in the Blockchain industry: a combination of technological paradigm, anonymity and -paradoxically- digital scarcity has led some to believe that Bitcoin is the world’s biggest invention after the internet. In fact, they claim it is what the world needed – internet money.
A fundamental research starting point is Bitcoin’s whitepaper (Satoshi Nakamoto, 2008), which reveals the introduction to a decentralized monetary system designed to solve the double-spend problem among already existing e-coins. Double-spending is when duplication of an asset occurs and thus it can be spent multiple times (Farell, 2015). The solution is to use a peer-to-peer network, where every single user will act as a node to support it with computer processing power through a consensus algorithm known as Proof-of-Work or PoW. The Proof- of-Work is a piece of data that is costly to produce to satisfy specific requirements but is trivial to verify (Dwork & Moni Naor 1993). This enables an incentive for the active supporters of the network. Every 10 minutes, a block with all the transactions is verified and accepted by all
the nodes, and at the same time, new coins are distributed into circulation. The inclusion of new coins generated with computing power and electricity is comparable to gold miners using machines and resources to find gold to include it into the total available supply. For this reason, nodes are generally called “miners”. These miners are rewarded a determined number of coins for verifying each block, which is analogous to solving a puzzle. The number of coins mined in a block is reduced in half approximately every 4 years, making it a deflationary currency over time, which has made Bitcoin to be seen as a store of value more than a currency to buy your coffee with. Figure 1 shows Bitcoin’s rate of inflation, supply and reward based on the block number it currently stands at.
Figure 1: Bitcoin Inflation vs. Time chart (bitcoinblockhalf.com).
Subsequently, many new cryptocurrencies have been created with a lesser block-verifying-time to fit in the “coffee paying role”, in order to become faster in verifying transactions for the chain of blocks, or “Blockchain”.
2.2 Traditional Banking versus the Bitcoin System
Farell (2015) explained the cryptocurrency as a system providing virtual coinage for payment of goods and services. It is similar to the standard currency, except that it is free from a central trusted authority. In 2011, attention boosted, and various cryptocurrencies started to appear.
Brett Scott (2016) describes similarities and variations within the traditional banking system of electronic payments and the Bitcoin system. Below we portray the main differences:
Table I - Traditional Banking System vs. Bitcoin System (Scott, 2016).
Traditional System Bitcoin System
1- The bank administers an account with its associated account number to a person (client).
1- A person who would like to make a payment has a public address (similar to an account number).
2- The client has a way of proving that they control that account number—for example, a PIN code.
2- The person has a way of controlling that public address through the use of a private key (roughly similar to a PIN).
3- The bank has a data record of how much money is attributable to the client's account number, thereby keeping the score of the client's money on a private internal database or ledger.
3- The person can use an electronic communications system (the Internet) to identify themselves to the Bitcoin network and digitally request tokens, associated with their public address, and move the tokens to someone else’s public address.
4- The client can use an electronic communications system to identify themselves to the bank as the authentic account holder and can request for the money associated with their account number to be transferred to someone else’s account at a different bank.
4- The requirement of change occurs by a change made to the Blockchain ledger by a set of managing the person's private software systems (we do not discuss the technical system in detail).
5- The action drives the bank to edit their books of accounts, changing the clients score, and to
5- The two individuals who control the public addresses can then see these
tell the recipient’s bank to do the same action.
The process is more complicated than explained above, but in effect, the money moves via a series of private databases in change.
changes, confirming that the tokens (Bitcoin) have moved from one address to the other.
Additionally, the traditional banking system operates by a limited set of private intermediaries directing private databases that they control and then notifying the account holders that the transactions have occurred. The Bitcoin system also provides an exchange of monetary tokens between users. However, there are two main differences. First, record payments are public in the bitcoin system and, secondly, the intermediaries that control the transaction in the database are a decentralized network of people that run a software for Bitcoins, while banks run their separate systems (Scott, 2016).
2.3 The Role of Alternative Cryptocurrencies
In the same way as Bitcoin, Cryptocurrency is merely "a chain of digital signatures," and when a transaction is to be made, the owner of the coin transfers their coins to the new owner by digitally signing a hash of the previous transaction and the public key of the new owner is added to the end of the coin. The ownership is then dynamically programmed into the coin (Nakamoto 2008). The coins are stored in personal hard drives called "wallet" or throughout an online wallet (Farell, 2015).
Other cryptocurrencies, or more informally known as “Altcoins”, were created after the introduction of Bitcoin in an attempt to outcompete it (Halaburda et al., 2018). Many of these, however, did not need an ICO to launch, but instead, they launched just like Bitcoin did, under a Proof of Work protocol where the inflation curve was steep at the beginning, starting at block 0 with no coin supply. The most popular altcoin, evaluated from a market cap perspective, is Ethereum, which created a decentralized platform where smart contracts are the flagship of this coin. Smart contracts are self-executing clauses which require no third-party verification for its functionality (Rosic, 2017). Altcoins have a close relationship to Bitcoin, not only due to its nature, but they are also usually paired to be tradeable both ways with Bitcoin in website Exchanges. What this means is that for an altcoin to gain value, Bitcoin will be used to create demand and push up the price.
2.4 FIAT Money
Fiat money is the currency issued by a central government, not backed by any commodity like silver or gold, contrarily as it has been done in the past, derived from the trust from the society using it and the stability of the government (Investopedia). Some examples are Euro, Dollar, Yuan, and more. Some sceptics claim Bitcoin has no value without Fiat money since it would not be possible to measure the value otherwise. Besides, many cryptocurrency investors admit that their only goal is to attain more Fiat money, instead of preserving value in what they would believe is a better monetary system (Twitter).
2.5 Factors Affecting Growth
This section will approach two of the main factors that have influenced the growth of the cryptocurrency industry.
2.5.1 Government Regulation
Farrell (2015) writes that cryptocurrency has the potential to revolutionize how money exchanges, and for now, is not universally recognized as official means of payment. Some national administrations characterize the cryptocurrency as a digital asset rather than a currency (Scott, 2016). For it to gain recognition, and for the currency to become suitable, their legal status must be established (Farell, 2015). The government aims to limit fraud, guard consumers, uphold economic sanctions, and institute viable taxation methods (Stern, 2015). In China, for example, Bitcoin has been banned and unbanned countless times, plausibly indicating manipulation attempts from their own government to scare away retail investors. In the cryptocurrencies scope, fraud is widespread and often profitable for the organizer (Hamrick et al. 2018, Li & Mann, 2018, Liebau and Schueffel 2019, Cohney et al. 2018). Moreover, depending on the categorization of cryptocurrency as an asset (or investment), a commodity, or a digital service, taxation and regulation can shift (Scott, 2016). The view of the virtual currency differs countrywide; however, regulation will contribute significant legitimacy to currency, coping to gain mass acceptance (Farell, 2015). In Australia, trading in any cryptocurrency is subject to pre-existing tax rules associated with goods and services (Farell, 2015). As Australia's government declares, "Bitcoins is not a legally recognized universal means of exchange and form of payment by the laws of Australia or the laws of any other country" - it gives a scope for the cryptocurrency to exist (Bitweb Magazine 2015). Canada is the first country to establish taxation on virtual currencies, and the Bank of Canada
communicates willingness to acknowledge the development of the virtual currency market.
However, it recognizes the cryptocurrency as an investment rather than a currency (Virtual Currency Today, 2015). On the other hand, Russia is less favourable to the idea of development of cryptocurrencies. Russia’s Deputy Minister of Finance Alexey Moiseev has reportedly announced a national banking conference that the country will move to ban Bitcoin (Pick.
2015). As Russia, China and China’s Central Bank banned financial institutions from managing Bitcoin transactions, limiting legal trade of the coin to individuals and private parties (Song.
2014). Finally, in March 2018, the European Commission published a report, “FinTech Action plan: For a more competitive and innovative European financial sector”. Describing that ICOs
“may offer firms new and innovative ways of raising capital,” although “also present clear risks to investors, such as significant market risk, fraud and to cybersecurity risk.”
2.5.2 Public Perception
Farell (2015) writes that the intrinsic value of a cryptocurrency is in the number of users.
Without public trust, the virtual currency is unusable as an alternative payment system. Even more, in 2013, William J. Luther and Josiah Olson wrote, “Few retailers accept Bitcoin as a form of payment due to the small user base; and many consumers will not consider using Bitcoin until a significant number of retailers accept Bitcoin payments. Simply put: network effects favour the status quo”...“Bitcoin may fail to gain widespread acceptance even if it were superior to existing businesses” (Luther & Josiah, 2013). Al Shehhi et al. (2014) found determinants of which factors strongly affect the coin's popularity, such as having a fun and large community, anonymity, privacy, and currency value. What is wanted in order to use a cryptocurrency is innovativeness and not just a portrait of a coin; less complexity of use, and a balance between the inflation and a productive generation of coins to the supply. Moreover, successful fundraising has shown to be easier to accomplish whereby IPOs have shown attempts to reduce information asymmetry or agency (Healy and Palepu 2001, Loughran and Ritter 2002).
2.6 Initial Coin Offering - ICO
Through an Initial Coin Offering (ICO), entrepreneurial ventures can raise financing by offering a stock of crypto tokens for sale with the encouragement that those tokens will act as the only medium of exchange when accessing the venture’s forthcoming products (Catalini &
Gans, 2019). In most cases the ICO occurs early in the business or venture (stellar.org, 2017), and ICO has been offered open to the public and by the internet with varying levels of direction
in terms of potential participants and ranging from small to large invested amounts (Zetzsche et al., 2017).
ICOs gained popularity in 2017, with the rise of the price of Bitcoin and the inflow of new users and participants, who were mainly interested in taking part in these highly profitable offerings. Figure 2 represents the interest of the word “ICO” over the past 4 years, with the aid of Google’s engine “Google Trends”. We make a comparison with Figure 3, which shows the Market Capitalization of cryptocurrencies from the past 4 years (Coinmarketcap). The resemblances are evident and will likely be correlated in future spikes of interest in regard to cryptocurrency hysteria. There is a distinct similarity about IPOs and the dotcom bubble in the late 1990’s where investors poured millions of dollars into new web-based ventures and companies, whether they could have been promising investments or not (Leath, 2019).
Figure 2: “ICO” interest over time in Google Trends (2016 - 2020).
Figure 3: Market Capitalization of Cryptocurrencies from Coinmarketcap (2016 - 2020).
Adhami, Giudici and Martinazzi (2018) define an Initial Coin Offering (ICO) as “an open call, through the Internet, for the provision of cryptocurrencies in exchange for tokens generated through smart contracts and relying on the Blockchain technology, allowing the pledger to enjoy an exclusive right, reward or financial claim.” ICOs can take place in various forms; the task of defining an ICO is not straightforward (Zetzsche et al., 2018). In a general translation, the ICO founders establish a Blockchain and grant tokens (also known as "altcoins") to participants (Fenwick et al. 2017). The design of the token can give them different implications (Zetzsche et al., 2018):
• A "Usage Token" - represents a license to use a software program.
• A "Community Token" - represents membership in a community and a financial asset.
• Regarding financial tokens, some represent a cryptocurrency, also known as a
"currency token".
• And “equity token” - refers to the rights to cash flows in some sort.
An ICO does not exclude other founding alternatives to be combined if needed. In case of insufficient raise of capital, Catalini and Gans (2018), describe that the estimate of cost is a challenging part of the venture, and that explains why some ICOs raise through VC as well.
The next table describes the distinction between an ICO and IPO:
Table II - ICOs versus IPOs (Adapted from Stellar. 2017).
ICOs - Initial Coin Offerings IPOs - Initial Public Offerings
Stage Generally early stage. Organizations often choose to do an ICO at the initial stages of product and business development. The ICO funds are meant to be used to build a team, develop and launch the product, and operate the business.
Generally late stage. Organizations choose to do an IPO after they have already developed a mature product and business strategy using private venture financing. The IPO funds are to be used to access capital to grow the organization.
Asset Tokens. Consumers contribute fiat currency or other cryptocurrencies in exchange for tokens.
Shares of equity. Investors contribute fiat currency in exchange for shares of equity.
Legal/Regulatory Environment
Ambiguous & developing. Beyond general securities, consumer protection, and AML laws, there are no definitive statements on the legal treatment of tokens and token generation and transactions.
There is very limited case law and precedent.
Complex. Securities case law has been developed over decades through case law, legislation, and regulatory guidance. Investors can expect a standardized set of rights for the shares of corporations that are incorporated in certain jurisdictions (e.g., shares of a U.S. Delaware C-Corp)
Underlying Rights
Customized. The organization issuing the tokens can specify a customized set of rights for the token. The token could grant holders the ability to use the token similar to a license or a gift card, or it could grant the holder other rights (see Token Characteristics section). The tokens rarely grant a share of equity, a share of profit, or voting rights
Share of ownership and/or profits.
Shares of stock are generally associated with a right to dividends/profits and the right to vote on significant corporate changes.
Organizations Primarily Blockchain/distributed ledger organizations. ICOs are primarily used by organizations who are building
decentralized applications on a Blockchain or distributed ledger.
Companies in any industry. An IPO is appropriate for companies in almost any industry.
Liquidity Centralized & decentralized
cryptocurrency exchanges. Tokens are tradable through cryptocurrency exchanges (e.g., Bithumb, Poloniex, Bittrex, Coinone, Bitfinex, Korbit, OKCoin.cn, Stellar 30)
Securities exchanges. Stocks are tradable through securities exchanges (e.g., NYSE, NASDAQ, LSE, JEG31)
Filings White paper & blog posts. ICOs are currently not compelled to file any information with any authority. However, most ICOs do issue white papers and blog posts to provide transparency into their technology, progress, team, and operations.
Registration statement, annual &
quarterly reports, & other disclosures. In the U.S., in order to IPO a company must file a registration statement that discloses financial data, business information, risk factors, the identity and background of directors and officers, the management’s discussion and analysis of financial condition, and other relevant
information. After an IPO, a company is required to submit annual and quarterly filings (e.g., 10K and 10Q in the U.S.) and other disclosures.
2.6.1 What is Success in an ICO
In the VC literature of Gompers (1995), it explains that if raised capital exceeds the amount needed for the venture, potential downsides can occur. The issue can spark unwanted publicity and agency problems when founders have large buffets of capital. However, in the industry of cryptocurrency, there are three head indicators for success: market capitalization, the estimated numbers of cryptocurrency users, and transaction volume (Farell, 2015). The indicators indicate the level of trust in the public eye. Farell (2015) writes that it is possible, with the transaction history, to estimate the number of users by the numbers of wallets created.
In contrast to an estimate of users, the daily transaction volume is exact. Adhami, Giudici, and Martinazzi (2018) found three factors that increased the likelihood of success in ICO; first, if the program code was available, secondly, an organized pre-sell of tokens, and lastly, if the holder of the token could gain advantages to obtaining the firm's product or services. To underline, the exclusive right that comes with the token is only marginally notable for the probability of success of the campaign (Adhami et al., 2018.
2.6.2 Benefits
An ICO is to be considered as a new vehicle for finance. There are additional ways to discuss advantages than Chod and Lyandres’s (2018) model, which assumes that an ICO will dominate in comparison with a Venture Capital if the investors have a different strategy than the venture itself due to monitoring and agency conflicts. This section raises seven advantages of an ICO that traditional entrepreneurial finance methods do not.
1) Financing within a decentralized network
In equity funded start-ups, the value and control provides to the network of the start-ups sponsors or intermediaries. In contrast to the Blockchain network, where the token holder hides the value and is an uncertain future contributor and user of the Blockchain (Catalini & Gans,
2016). This contribution, within the ICO, gives no space for more control to any other token holder (Canidio 2018).
2) Obtaining engagement of prospective consumers
The first demand indication of the platforms (venture) comes from the purchase of tokens (Catalini & Gans 2018). In theory, the model of Li and Mann (2018), declares that the purchase of tokens states a credible commitment to the venture, considering the tokens are worthless outside the venture and speculators would only buy tokens if they believe in the venture. The adaptation and networks effect accelerate due to the expected price appreciation and makes the token attractive to the first user (Cong et al. 2018), and as Demers & Lewellen (2003) declare that ICO advertises and markets the brand within the network.
3) Enduring control conditions
Catalini and Gans (2018) address that there can be a value in the absence of additional rights over the venture, its governance, and its future profits. Considering this, when launching an ICO, the commitment is between the venture and the token holder within the token creation contract, which is permanent. It results in a platform existence without the issuer's involvement of exchange between tokens. The platform is the medium. At the same time, Canidio (2018), Catalini, and Gans (2018) explain concern in the absence of rights, such as commitment problems.
4) Implementing fast financing
Catalini and Gans (2018) write that there is a limited ability in traditional equity finance to fund the venture. However, due to the construction of an ICO, in a temporal time aspect, it bears instant capital to the venture.
5) Accelerating network effects
ICO creates a built-in customer base and positive network effects caused by the support of open-source development and decentralized businesses (Giudici and Rossi-Lamastra, 2018).
Tokens accelerate network effects because token holders are driven to help the platform succeed. A network effect (or network externality) describes a phenomenon in which a user’s surplus from transacting within a platform increases with the total number of transactions on the platform (Li & Mann. 2018). These tokens dynamics support the early adoption of
productive platforms where agents expect the token price appreciation which would lead to more users joining the platform (Cong et al. 2018). Additionally, Li and Mann (2018) state that ICOs can generate economic value as the issued tokens support network effects.
6) Reducing transaction and administrative costs
Its innovative technologies based on the Blockchain reduce the costs of capital raising by bypassing intermediaries and payment agents (Adhami et al., 2018), in other words, eliminating the need of third-party intermediaries such as crowdfunding platforms and banks (Catalini et al., 2018). The Blockchain technology enables a lower cost of verifying transactions and the cost of economic activity (Catalini & Gans, 2016).
7) Secondary market
The nature of the token enables the issuer of the ICO to form a secondary market for buyers investing in the token, while traditional equity-based, lending-based, or reward-based contracts are primarily illiquid (Adhami et al., 2018).
2.6.3 Drawbacks
One of the downsides of decentralization, in theory, is the fact that it cannot avoid human imperfections - which in the case for many ICOs, desire for money and false promises were the norm. Due to the anonymity and irreversibility of transactions, scams, thefts and hacks without a known culprit are not uncommon in this ground (Howell et al, 2018). ICO imperfections exist as well, connected to negative publicity, such as scams and Ponzi schemes, and with the government's concern is present to where financial regulators make inquiries (Zetzsche et al. 2018).
Sending Bitcoins or other cryptocurrencies to the wrong or a misspelt address may also imply a permanent loss of funds. Bitcoin, as other commodities or cash, can be lost, stolen or destroyed (Farell, 2015). Another of the theoretical risks that could compromise a currency backed by the Blockchain is the infamous “51% attack”. This refers to a dominant node or group of nodes who control more than half of the network computing power, which could hypothetically modify and reverse the transactions so the attacker can double-spend their coins.
However, Nakamoto had this already in mind, thus he introduced an incentive mechanism:
“The incentive may help encourage nodes to stay honest. If a greedy attacker is able to assemble more CPU power than all the honest nodes, he would have to choose between using it to defraud people by stealing back his payments, or using it to generate new coins. He ought to find it more profitable to play by the rules, such rules that favour him with more new coins than everyone else combined, than to undermine the system and the validity of his own wealth”
(Nakamoto, 2008, p. 4).
2.7 Synopsis of ICOs
The table below (Table III) represents a summary of the Benefits and Drawbacks from the literature above regarding Initial Coin Offerings, which will be used in the interviews to explain and give a better perspective of the nature and utility of this Blockchain fund-raising alternative. It should be noted that some advantages can be seen negatively, and some disadvantages positively depending on the individual mindset. However, we will focus these comparisons as close to an entrepreneur’s point of view as possible, as well as from a token- issuer’s perspective.
Table III - ICO Benefits & Drawbacks.
ICO BENEFITS ICO DRAWBACKS
- No need to give out own equity - Unregulated/Unclear regulations
- Innovative ways to raise capital (European Commission)
- Risk to investors, fraud and cybersecurity risk
- Rights to use their product - Community membership - Own currency or equity token
- No central authority which guarantees protection
- Ease of development, no restrictions - Narrowly related to the interest in cryptocurrencies at the time, seen as a “seasonal” opportunity
- No 3rd party fees
- Accessible for everyone with an internet connection, potentially more funding
- No need to discuss with VC when run out of money
- Could create customer base
- Decentralized network
- Engage potential customers, open innovation
- Instant capital at any stage
- Ethereum as an example of successful ICO, competing directly with Bitcoin
2.8 ICO Best Practice
The Luxembourg House of Financial Technology Foundation (2017) wrote a set of best practices of issuing an ICO in favour of protecting the customer who buys the token. It is consistent with eight parts that follow>
1. Transparency - a comprehensive white paper description. Including business case, technology, organization, channels, ICO structure, total token supply, intended usage of funds, and development roadmap.
2. Disclosures - Consider current and predictable risks of the ICO and business inside the white paper and on the website. Manage token buyer expectations by announcing ICO details openly, being transparent about progress and impediments, and cleaning up community-generated misunderstandings. Hold third-party experts to review the white paper and conduct security reviews on the technology. Post-ICO, draft, and distribute monthly or quarterly reports on the progress of business and technology. Have an open channel of communication with token buyers. Be active and communicative on social media and communication platforms such as Slack, Telegram, and Twitter.
3. ICO Mechanisms - Considerations; prevent irrational buyer behaviour with a pricing mechanism, establishing a hard cap on total contribution value. Issue tokens over time when targets are met. Deliberate a “whitelist” of contributors before the ICO and only permitting these contributors to participate in the ICO.
4. Technology - If possible, let software be open source, use well-known and thoroughly examined cryptographic algorithms, smart contracts, and software dependencies.
Periodically hire objective auditors to review new developments.
5. Development Planning - a roadmap that sets out milestones, including time and cost estimate. Communicate the roadmap with token buyers and update token buyers on the organization’s progress.
6. Treasury Management - Post-ICO, liquidate some cryptocurrency offerings to prevent significant volatility on balance sheet value. Set aside funds for independent security audits and bug bounties. Explore ICO smart contract that releases funds steadily over several months or upon the achievement of decided milestones.
7. Founders and Employees - Openly identify key team members on the website and white paper, and link to their credentials or LinkedIn profiles. Implement a vesting schedule for all founders and employees who intend on owning tokens.
8. Legal & Regulatory - Consult legal guidance about potential legal risks and implications concerning securities, tax, money transmitter, consumer protection, investor protection, broker-dealer, and investment management. Found a Terms and Conditions agreement for token purchasers to clarify the legal rights, obligations, risks, and implications of participating in the ICO. Communicate through an open dialogue with regulators in case of any regulatory uncertainties.
2.9 Results of Literature Review
The essential literature for our study of the ICO in the Swedish market are concluded below.
Initial Coin Offering could be a virtual part of a fundraising alternative to businesses and organizations. The decentralized system that the Blockchain carries to ICOs has various benefits compared to the drawbacks, though how the drawbacks are weighted to the benefits is unclear for entrepreneurs. The ongoing government discussion in several countries regarding acceptance and definition could be crucial to our study. However, Sweden accepts the unregulated ICOs existence; it issues a warning referring to the European Securities and Markets Authority statement. Additionally, best practice suggestions to issuers exist to favour
token buyer’s security. The lack of regulations causes an ICO to be an innovative alternative since the design is created by the issuer. One main factor for issuing an ICO is that the start-up retains the control of the business due no equity needs to be exchanged, and depending on the design, it can be a higher value of the entrepreneur than traditional fundraising methods.
3. METHODOLOGY
In this section we clarify our research method. In section 3.1 we discuss our frame of research and why we have narrowed down to it, in 3.2 we decide our research approach. Further on in 3.3, we select the degree of standardization which the interviews will undergo, the pre- interview that was conducted, an operationalization guide, and our data analysis method through six different phases. Finally, in 3.4 we decide our quality criteria as the limitations we have set for selecting the potential interview candidates.
3.1 Research Frame
Our method of research was based on interviews with Swedish start-ups to determine whether they would be interested in using an ICO as an alternative method for funding their business and the reasoning behind their answers.
We carried on with semi-structured interviews, qualitative approach in a web-based online environment due to the ongoing pandemic of COVID -19.
Sweden, as a country for our research, was chosen due to several factors:
• Innovative and entrepreneurial-friendly country.
• Our - the author's country of residence.
• Unexplored in the Blockchain field on behalf of the regulations.
The subject in question is presented with a determined number of questions in which a decision should be made, generally, whether they would prefer the traditional funding system or tokenization through an ICO. In case the subject is unaware of the existence of the Blockchain technology, information regarding this matter is provided so the interviewee receives a better grasp at what they are questioned about, and therefore, be able to provide a more coherent answer.
3.2 Research Design
Two major research approaches make it possible to determine the nature of our interviews:
qualitative and quantitative. Due to the scope of the research; we focused on identifying the social meaning and behaviour behind the answers and not only numerical data, we therefore deemed the qualitative approach - which would provide us with more detailed and rich data.
Conducting quantitative research would not provide a deeper understanding of the responses (Neergaard & Parm Ulhøi, 2007).
This study may not only give us a glimpse of the thought process of young Swedish start-ups but may change the way they think concerning financing their project, which could potentially make a profound impact on the initial focus of these and future ventures.
3.3 Data Collection Method 3.3.1 Semi Structured Interviews
As a qualitative interview, we opt for semi-structured interviews with the degree of a low to medium-level of standardization, as Kvale (1997) literature writes, it allows follow-up questions to know “why” and “how”. Unlike the use of high-level standardized, structured interviews where a set of questions are formulated in a systematic, organized-fashion could imply too few or even none possibilities to follow-up questions (Torst, 2010).
3.3.2 Pre - Interviews
In order for us to have a better understanding of the Swedish regulations regarding ICOs, we contacted The Swedish Finance Inspection (Finansinspektionen), which is the government agency in charge of financial supervision in Sweden. It would be logical if start-ups would follow the Swedish law regarding capital raise methods, as some countries have strict regulations on the matter.
Nonetheless, their response to this matter was nothing out of the ordinary. The Swedish Finance Inspection explained their lack of material regarding ICOs or tokens as they do not possess control over individual cryptocurrencies. They did, however, issue a warning to investors over the participation of ICOs, as there could be significant uncertainty about the value of the asset, and the opportunity to sell can be minimal.
These warnings were based on international warnings within the European Union, published by the European Securities and Markets Authority (ESMA (2017)) and the European Supervisory Authorities (ESAs). Some of the publications include warnings to investors alerting the “high risk of losing all of their invested capital as ICOs are hazardous and highly speculative investments,” adding that the price of a coin could be “extremely volatile.”
Furthermore, ICOs may “fall outside of the scope of EU laws and regulations, in which case
investors cannot benefit from the protection that these laws and regulations provide.” (ESMA, 2017).
The broad selection of different sectors and levels of entrepreneurs in Sweden could make the interview more complex. We could not expect the same level of knowledge and experience within the subject of study. Therefore, we had to create and carefully analyse our open end questions.
3.3.3 Operationalization
Arbnor and Bjerke (1994) emphasize the operationalization to discover a particular phenomenon. Hartman (2004) and Backamn (2005) implies the importance of having understandable and measurable questions, which can be achieved by an operationalization schedule. Due to the mixed spread of participants with various experiences, knowledge, and ideas of the topic, the operationalization process, with its operationalization schedule, receives significant consideration and role. The operationalization schedule makes it possible to achieve a close relationship within the theory and the reality (Arbnor & Bjerke, 1994). Even more, to the credibility and truthfulness of our study. The consideration of the trustworthiness criteria of validity (credibility), external validity (transferability), reliability (dependability), and objectivity (neutrality) of Guba and Lincoln (1986) is fundamental. With an operationalization schedule, the four criteria become more natural to meet since the schedule is structured and states a clear outline, and in the next step leading to a thematic analysis (operationalization schedule in Appendix 9.1).
3.3.4 Data Analysis Method
Qualitative research is designed to generate knowledge within the human experience (Sandelowski, 2004). There are various ways of how to conduct qualitative research (Nowell et al., 2017), and it is imperative that its complexity that surrounds qualitative research is conducted in a rigorous and methodical manner to generate meaningful and useful results (Attride-Stirling, 2001). It is argued that the thematic analysis should be the foundation method for qualitative analysis since it is a method for identifying, organizing, analysing, describing, and communicating themes found in a data collection (Braun & Clarke, 2006). We used a thematic analysis to methodical structure the interview data to easily process and understand it (Boyatzis, 1998).
The method is selected as it can be widely used beyond a series of epistemologies and research questions (Nowell et al., 2017). To conduct trustworthy qualitative research, we will follow six phases.
Phase 1: Familiarizing with data
In this phase, as Braun & Clarke (2006) suggest, we familiarize ourselves with data and record theoretical and reflective thoughts—store raw data and note ideas regarding possible data codes and themes.
Phase 2: Generating Initial Codes
In this phase, we identify critical sections of text by coding and label for later use to relate them into themes (King, 2004).
Phase 3: Searching for Themes
After coded and verified the data from the previous phase, we classify and organize these into themes (Braun & Clarke, 2006). Themes are identified by conducting segments or pieces of experiences or thoughts, which are usually insignificant when viewed individually (Aronson, 1994).
Phase 4: Reviewing Themes
As Braun & Clarke (2006) writes, the 4th phase, in order to continue it needs refinement. It is here we review the coded data, extracts to themes, and consider if they appear in a coherent pattern.
Phase 5: Defining and Naming Themes
In this section, we as researchers decide what aspect of the data each theme captures and distinguish what is of importance about them and why (Braun &
Clarke, 2006).
Phase 6: Producing the Report
After the establishment of the themes are made, we are now ready to analyse the findings. (Braun & Clarke, 2006) Recommendation form King (2004) is to use direct quotations from participants.
3.4 Methodological Limitation & Quality Criteria
We want to avoid any bias regarding the known risks and volatility of the cryptocurrency space, so we will introduce the concept of the ICO as a novel idea and then explain that it already exists and has been widely proven as a new financial vehicle for start-ups and blockchain/non- blockchain related companies.
We would also emphasize that the eleven interviews we made are not enough to make realistic conclusions of a whole or a single aspect of ICOs. The study should attempt to lay the perspective of entrepreneurs in Sweden and their view of ICOs, and further the novelty of its practice.
In order to decide how experienced entrepreneurs were, a background check was needed. We conducted the background check with the help of the Bolagsverkets website, who has the mission to register and provide business information, in addition with the Allabolag website which has a similar purpose. The purposive sampling gave the study a selection of the best participants that can respond to the subject (Saunders, et al., 2009).
To find suitable participants to select upon and contact, we used Incubators websites such as Sting.co and network platforms such as LinkedIn and Facebook, together with other web-based search engine platforms. The selection criteria came down to:
• An entrepreneur that has raised funds, or is actively seeking funds in any form to its start-up.
• An entrepreneur that knows at least one method of fundraising with clear preferences on the topic.
4. EMPIRICAL
The data collection has been gathered through eleven interviews with a broad spectrum from different industries, this way a triangulation through different data collection can be achieved.
It has also been supplemented with additional information from The Swedish Financial Supervisory Authority. The interviews were accomplished within the 30 to 45 minutes time frame by the digital software Zoom.
4.1 Presentation of Data Collection
From our research questions, which can be found more in-depth in the Appendix (9.1), we can distinguish three different areas or themes where the focus has been redirected, and structure the collection of data in a more consistent manner.
• Background: previous entrepreneurial experience is needed to put into perspective the subsequent questions and understand the context.
• Focal point: the target is then put on past experience of funding methods and knowledge about the different types of funding, along with the benefits and drawbacks of any mentioned methods, as well as the preferences.
• Going down the rabbit hole: we proceed with the explanation of the mechanism of the new Blockchain-based method, without revealing the implemented name for it (ICO) to analyse the possible awareness of this method. The respondent shall then express their opinion on the mechanism of this unusual and novel method, and if it would fit in their business plan.
In addition, due to the unregulated nature of the Blockchain, the main argument revolves around the legal aspect and the country’s government stance in regard to this kind of method, as the most critical difference relies on the risk it presents. Therefore, the willingness to take risks is another aspect from the entrepreneur we are taking into account and analysing. The final question synthesises in a simple manner this idea, giving two choices to the respondent: accepting a large amount of money in a regulated way (traditional financing method), or accepting hundred times this quantity of capital in an unregulated way (through an ICO). This reflects the reality of 2017, when the popularity and frenzy in relation to ICOs peaked.
4.2 Analysis of Data Collection
Before we dive in the results, we reiterate the research questions to give a general answer to our data collection, thus our empirical study.
• For what reasons would entrepreneurs show interest, contempt or refusal in issuing an ICO to raise Venture Capital, based on the regulations of the country the ICO is issued in?
All the respondents rejected the idea of issuing tokens through an ICO in the near future, due to the extreme uncertainty, general lack of knowledge and unknown consequences that this can attain. However, the idea is not totally discarded, just not under consideration until it is further proven and extended.
• To what degree are entrepreneurs willing to expose themselves to the risk associated with the disadvantages of this method?
To answer this, we divide the risk degree into four categories, based on their answer for the final question regarding both capital choices:
Finale - Would you rather receive one (1) million SEK in a regulated way or one hundred (100) million SEK in an unregulated way?
Table IV - Risk Degree amongst participants.
Risk Degree Number of participants
1 million (regulated) 4 (36 %)
1 million, but would consider 100 if certain conditions are met 3 (27 %) 100 million, if one or more conditions are met 2 (18 %)
100 million (unregulated) 2 (18 %)
On one hand, there is a slight tendency to choose the risk-averse regulated choice of capital - 7 (63 %) of the respondents would rather accept the lesser amount of regulated money, while 3 out of 7 would consider the other choice if one or more conditions are fulfilled.
On the other hand, 4 (36 %) of the respondents would be willing to risk their status and wellbeing by selecting the larger amount of unregulated capital. However, half of them still show certain scepticism towards this, but would be fully confident if one or more conditions are fulfilled.
Parting from this, the most relevant ideas and conclusions from each respondent is summarized in the following section according to the themes in section 4.1.
4.3 Synopsis of Interviews We would like to clarify:
“Ze” are neutral gender pronouns which will be used for this study to keep the anonymity of the persona (Cambridge English Dictionary).
Ze will substitute “he”, “she”, and other gender-related pronouns.
Interview #1 Background
Ze has been involved in the start-up industry since 2014, with successful ventures operating both in India and Sweden. The first one, based in Karnataka (India), was related to the music
& entertainment industry and had the mission to support and promote Indian tribal and folk music, as well as starting projects to empower female musicians through musical events. The start-up ran three years in India and two years in Falun (Sweden). The second venture was also located in India, based on the sale of a food mix of Indian, Mexican, and Chinese cuisine. This business was funded from their own pocket. The third and current business is related to the sustainable industry, a Swedish based start-up aiming to distribute environmental-friendly plates for the food industry, which received rapid interest from investors after three months that saw potential.
Focal Point
Despite this, ze thinks that the optimal time to raise capital from investors is around one or two years after launching the business, when there is a customer base, since this would mean an exchange of less equity for more capital.
