Initial Coin Offerings, Speculators, and Asset Tokenization

Gerry Tsoukalas, Rowena Gan, and Serguei Netessine, Operations, Information, and Decisions, The Wharton School

Abstract: Initial Coin Offerings (ICOs) are an emerging form of fundraising for Blockchain-based startups. We propose a simple model of matching supply and demand with ICOs by companies involved in production of physical goods, aka inventory/asset “tokenization”. We examine how ICOs should be designed—including optimal token floating and pricing for both utility and equity tokens (aka, security token offerings, STOs)—in the presence of moral hazard, production risk and demand uncertainty, make predictions on ICO failure, and discuss the implications on firm operational decisions and profits. We show that in the current unregulated environment, ICOs lead to risk-shifting incentives (moral hazard), and hence to agency costs, underproduction, and loss of firm value. These inefficiencies, however, fade as product margin increases and market conditions improve, and are less severe under equity (rather than utility) token issuance. Importantly, the advantage of equity tokens stems from their inherent ability to better align incentives, and hence continues to hold even in unregulated environments.

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