I decided to write this article to help others in their decision-making regarding ICO investments. Let me break-down what I will cover in this article:
Small intro about myself and why I have competence in investments.
Stages of raising capital for startups
What are they key points you have to research?
Choosing your strategy and exit point.
Common mistakes.
Intro
I am running a family office for angel investments in Kiev, Ukraine. We have successfully invested in more than a dozen startups during the last 3 years, in variety of sectors like IT, financial services, retail; mainly in Ukraine, but also in Finland and the US. My work is analysis of startups, picking the ones with valid ideas and teams who are capable of implementing them. I studied PPE at the University of Warwick, hold a MBA degree, CIMA Advanced Diploma. I got into crypto currencies in October 2016, with my first big investment made in March 2017. My general strategy is same as with start-ups – I research companies (technologies), choose the ones who I believe can bring a lot of value and hold majority of my portfolio for long-term growth. Currently I also trade for medium-term gains. Purpose of this article is to show you how at what you shall be looking at before making a decision to invest and thus help you to avoid losing money.
Stages of raising capital
ICOs are basically start-ups on and around blockchain technology, which raise money publicly. They have same fundamentals as any other start-up and shall be approach with the same attitude. As the crypto market boomed, we see a lot of them launching and seeking millions of dollars investments. Unfortunately, small investors have little to no expertise but a lot of expectations of short and medium term return on their investments. But let’s get back to the basics and ask the most important question – how the value is created? For any business it is the product or service which is made to solve a pain in the market and therefore earn profits. Thus, the basic question you have to ask – in what way a company will make money and how your investment will grow from it? We will cover what aspects you have to research in the next chapter. To begin with, let’s break-down the steps of raising capital for startups into main categories:
Pre-seed round. This is the very first round of raising capital. Mostly it is funded by ‘friends and family’ and aimed to develop a MVP (minimal valuable product) to test the hypothesis that idea is valid. Sums here are usually from thousands to tens of thousands USD.
Seed round. After the MVP successfully passed the tests and received positive feedback it is usually the time to build a first product. General aim here is to test product market-fit and get the idea of demand. Here is where angels invest after assessing the business plan and looking at traction. There is a lot of risk in this stage, as MOST of the startups will drastically change their product to find their market. As it said, the team is more important than the product, as it is up to them to react fast and move in the right direction. Sums here are vary from tens to hundreds thousands USD.
Round A. If a startup successfully found their market, got first customers, they are ready to scale. Money raised are usually spread across increasing production capabilities, improving sales team and marketing. This is the stage where the venture companies kick-in, providing finance of up to few million USD. A lot of startups will still fail and investor will lose their money. According to 500Starups, less than 2% will become unicorns (with valuation of more than 1 billion USD).
Rounds B and following. In this rounds company raises further investments to accelerate their processes and to enter new markets. Figures here are usually tens of millions dollars.
• Tip – go look how companies like Facebook or AirBnB raised their capital.
Looking at ICOs raising millions of dollars during pre-seed and seed stages, this raises a lot of questions on their valuation and current state of ICO market. Why the teams need THAT much money? It doesn’t make business sense. The valuation of such ICO skyrocket, while they don’t even have proved product-market fit! For me, it makes very little sense to sell a huge portion of your company in the very first rounds. The valuation of pure idea and little tech shall not exceed a couple of millions at best. In my opinion, the whole ICO process is done horribly wrong. It is OK to raise SOME money to go from the MVP to a finished product. So why don’t we see companies who are willing to sell e.g. 10% of their coins with a hard-cap of 250k, or 500k? This will be a much better deal for the investors. They are risking their money in case that a startup will fail, but if they will succeed, they will be looking at great returns. Current valuations are pure speculations and have nothing to do with reality.
Key points of your research, or ‘The Business Plan’.
Here comes the important part – assessing whether you as investor believe that company will deliver and bring good returns on your investment. So, what a good business plan shall have?
Any business plan starts with the ‘problem’ which a company will be solving. What is the 'pain' and why they think their product is needed? This section shall have market analysis, competition landscape, SWOT analysis (although outdated but still nice to see) and barriers to entry to show how well they know the market and why they should be more successful than current competitors. A lot of ICO completely skip this part, with only telling you how great their product will be, without any market research or highlighting their competitive advantages (especially if there are any sustainable ones at all).
Then we move to ‘enter the market’ strategy. How they will spend their marketing budgets? What are the key channels? Who are the innovators and early adopters of their product? How they will work with opinion leaders and gather feedback? What geography they will start with? How they will make first sales? This part shows vision and strategy of the team.
• Real-world example. I have been at the Web Summit in Lisbon last year and came across an application dedicated for realtors in Kazakhstan. After a short talk with the team, I understood that there are approximately 5000 realtors (market capacity) and the biggest player is OLX, a big multinational company which earn most of their profits being the real estate market space. Team wanted to sell 10% of the company for 70.000 USD, meaning their value shall be 700.000. But their business model didn’t even closely support their figures – the market is too small to make considerable profits and there is a huge competitor, who has resources to build the same app in a matter of few months. This startup spent 5000 euros to participate on the Summit, leave alone tickets and accommodation for the team for nothing.
The most problematic part of the business plans is the financial. Here, a startup has to show how they are planning to spend money – salaries, production and marketing budgets, etc. Then, they have to show their expected revenues and point of breaking-even. I am yet to see a single ICO who would show their financial statements (current cash flow, profit and loss statements and balance sheet). But you absolutely cannot verify the validity of their idea without knowing that their budget is solid, they have calculated all potential expenses and know how much their sales shall be to make the startup successful. Capitalization is always a great extra, but you have to show good revenue streams (that’s why I think Uber and Snap are doomed to fail if they will not do something with their revenue model). Ask yourself – how an ICO is planning to earn money? What is their burn-rate? And how they will repay you for your investment? I strongly believe that any valid ICO has to show their financial statements and keep all investors as informed as possible on their financial performance.
Last but not least, is the team. There is a huge difference between working for a big company and running you own startup. It takes very different skills. Thinks about it this way - when you already have a developed product and market, you have a lot more information for decision-making process. However, when you are about to enter a new market, there is a lot of uncertainty. Marketing for an established product and marketing a new one requires very different competencies from the team. Do you believe that the team has what it takes to develop their product, successfully market it and not to lose all their cash during the process? You wouldn’t believe how many companies went bankrupt due to mismanage of their finances, even with good products and sales.
How many ICOs provided some real business plans, with a lot of details on every aspect and with financial calculations? Do you know when they are planning to break-even and when you shall expect to get return on your investment? What are those hundreds of millions dollars valuations are backed with apart from white papers?
The exit strategy.
After you decided to invest, you have to have your exit strategy. Usually it spreads around short, medium and long term. The general strategy for ICOs shall look like this:
Short-term you are expecting the price of the tokens to go higher during first few days or a week. You shall choose your exit multiplier; I would suggest anything between x2 to x5 and sell all your tokens to fix profit. A solid short term strategy would look like this for example: selling 15% at x2, 15% at x2.5, 30% at x3, 20% at x4 and 20% at x5.
Medium-term strategy involves holding a portion of your tokens for a longer-term gains. Usually, you are looking to sell on the first wave of ‘big news’. Still, I would recommend selling around 20-30% of your tokens to get you investment back, when the price hits x3.4 or x4. This way you made your money back and now only looking for future profits without a risk of losing you investment.
Long-term strategy is valid only for ICOs which are so promising, that you are expecting to get 10 or even 20 times of your investment in the upcoming years. The idea of the ICO has to be absolutely clear, with very low competition and clear channels of revenue. You shall still consider selling up to 25% of your holding during the bull runs and buying back during the bear runs. This way you can make extra profits by abusing the business cycles. One strategy is to sell 2.5% of you current holding every 10% increase at price, and opening buy orders at 20% lower of the sale price. A lot of traders use this strategy to earn profits. Don’t be afraid that price may go so high, that you will miss the buyback opportunity; you will still have a vast amount and will fix your profits. In the end of the day, nothing grows forever, and there will always be chances to buy back during corrections.
Common mistakes.
First of all, ask yourself – why a particular ICO needs that much money to develop their product? Does it really need 100 million dollars?! If not, the valuation of a particular ICO could be way too high.
How are you researching the ICO? Do you read whitepaper to find something fundamental there, or is it full of ‘water’ and empty promises to develop another ‘etherium killer’? Who are the ones on the team? Are they capable of delivering what they promise? Why they wouldn’t just take your money and later say that ‘they tried but failed’?
Be aware of hype. Don’t make your decisions based on some review articles or videos. You may find it useful to see what thoughts others have, but compare it with your own opinion.
Ask yourself why you should NOT invest in the ICO? What doesn’t look good? What are the risks? What is missing? Never regret the missed opportunity. I do believe there will be a few very successful projects, but it may take time to find your unicorn.
Finally, invest only what you can afford to lose, don’t be afraid to fix losses if you made a bad decision and remember to fix your profits when you hit the jackpot.
P.S. Thanks for reading and feel free to ask your questions.