What is an Initial Dex Offering (IDO)?
An IDO refers to an Initial Decentralized Exchange Offering. This is a token sale in which a cryptocurrency project lists its token on a decentralized exchange (DEX) such as Uniswap, Osmosis, or Jupiter.
Of the three most commonly adopted forms of token sales, IDOs offer crypto projects more flexibility, decentralization, and accessibility when compared to Initial Coin Offerings (ICOs) or Initial Exchange Offerings (IEOs).
Problems with Other Token Sale Models
ICOs take place when a startup project launches a token sale independently. ICOs can be public or private and give projects total control over the sale process without third-party interference or oversight.
There is no vetting process for a project launching an ICO, making it easy for pump-and-dump scams to take advantage of investor faith. The lack of transparency in ICOs has reduced the capital that startup projects can generate from this token sale model.
On the other hand, IEOs consist of crypto projects partnering with centralized exchanges (CEXs) like Binance or Coinbase for a token listing. Conducting an IEO can provide startup projects with significant liquidity and market exposure, but they face centralization due to the rigorous listing requirements of CEXs.
Potential investors and customers of startup projects also face centralized controls and restrictions when participating in a token sale launched through an IEO. This means that they must deposit funds into a CEX and complete KYC just to buy the token they want. Some argue that this goes against the original ethos of cryptocurrency.
Why Would a Project Launch an IDO?
Flexibility
When launching an IEO, projects must fulfill specific requirements such as paying listing fees, providing collateral, adhering to regulatory compliance, and reaching a certain level of community engagement.
CEXs charge steep listing fees based on the size of a project’s initial circulating supply. Generally, the greater the number of tokens listed, the higher the listing fee. CEXs also may require projects to deposit a portion of their token supply to be held as collateral, resulting in a smaller allocation of tokens for investors.
This collateral is held in escrow to guarantee a project's commitment to the IEO. Additionally, a startup’s community engagement is essential for CEXs to gauge project viability; with too small of a following or low audience engagement, a CEX may deny an IEO.
DEXs have virtually no listing requirements, making IDOs cheap for projects with low funding. However, a DEX may sometimes require startup projects to provide liquidity to its pool, which is still more affordable than paying CEX listing fees.
Through an IDO, startups can design their tokenomics and distribution methods. IDOs allow for custom vesting schedules, enabling projects the flexibility to cater their inflation rates to their token releases and fully build out the supply allocations they envision.
Decentralization
Decentralization ties directly into flexibility. Projects have the flexibility to customize things like token supply allocations and community outreach when listing on a DEX. This is because they have no centralized authority and operate in a peer-to-peer way. Decentralization is also enabled by IDOs in the sense that customers and potential project investors are always in control of their assets through self-custodial wallets.
DEXs act as mediators of exchange that rely on automation, typically in the form of smart contracts, to execute and settle trades. Meanwhile, CEXs act as intermediaries, directly controlling user funds to facilitate trades and fulfill orders.
Accessibility
DEXs can onboard more users faster by granting more straightforward and restriction-free access to trading services. DEXs don’t require KYC registration, giving anyone with a hot wallet and an internet connection access to trading services. Also, because DEXs utilize liquidity pools to settle trade orders, trading fees are reduced, and through automation, DEXs also facilitate trading faster than CEXs.
Since IDOs don’t require investors to jump through so many hoops, there are significant opportunities for projects looking to interact and connect with their investors directly.
DEXs also give projects access to more innovative development that isn’t stagnated by regulatory hurdles. New mechanisms to further decentralize trading and speed up order settlement on DEXs are constantly being worked on, such as:
- Account abstraction
- Dynamic and virtual automated market makers (dAMMs & vAMMs)
- Oracle Infrastructure
- Limited order book variations.
IDO Weaknesses
Despite their advantages, IDOs are only sometimes perfect and have some identified weaknesses. Firstly, DEXs have significantly lower trading volume than CEXs, meaning that startups launching an IDO will receive less market exposure, and their initial token sale may be available to fewer investors.
Secondly, DEXs are not as user-friendly as CEXs and often require some technical knowledge or DeFi experience to interact with application interfaces. This is known to make it more difficult for new investors to participate in initial token sales successfully.
Lastly, CEXs are better established in regions home to more crypto users. For example, DeFi trading is heavily regulated and discouraged in markets like Europe and North America, meaning token sales conducted through IDOs could be unavailable to participants in these regions.
How an IDO Works
Step One: Choosing a Launchpad
A project launching an IDO must first select a DEX to host the token sale. Once chosen, the project will join the DEX launchpad. The term “launchpad” refers to a crowdfunding platform that facilitates IDOs by bootstrapping liquidity, provides startups with marketing services, and offers tech stacks or code bases to build on.
Launchpads also provide smart contract auditing services to ensure that trader orders can be executed on-chain when the token sale goes live. Examples of DEX launchpads include Ignition for PancakeSwap, MISO for Sushiswap, and the Balancer Labs Incubator for Balancer.
Step Two: Allocating Tokens
After joining a DEX launchpad, the startup project decides on a token allocation. An IDO represents the sale of a portion of a token’s total supply. Because IDOs are the initial token sale for a startup, the number of tokens listed determines a project’s circulating supply.
Once the portion of a project’s supply has been allocated for the IDO, the token sale can be announced. The marketing efforts are then ramped up to ensure efficient community outreach and awareness leading up to the date of the sale.
Step Three: Whitelisting
A sales technique called whitelisting is also typically implemented at this point in the launch process. Whitelisting is when project supporters express their intent to invest and are guaranteed a spot in the token sale.
Whitelists are like databases of pre-orders - lists of individuals and wallet addresses participating in the IDO that have been pre-allocated a certain number of tokens. Amounts of pre-allocated tokens curated through whitelists are distributed to investors immediately when the sale launches.
Step Four: Token Sale Finalization
As the sale goes live, participants submit purchase orders to the DEX by sending funds from their wallets to the startup project’s wallet address or smart contract. Once the funds are received, the contracts facilitating the IDO distribute the number of tokens that participants bought, and the network confirms their transactions.
IDO Trading Pairs
An important aspect of IDOs is trading pairs, the relationship between a startup project’s token and the cryptocurrency it will be traded against. Trading pairs exist in financial and commodities markets where the value of one asset is traded against another. They are essential in the price discovery process of a new token.
Every trading pair has a base asset and a quote asset. The base asset is the first listed in the pair and represents the asset that is being bought or sold. The quote asset is always listed second in the pair. It represents the price of one unit of the base asset and establishes the value of trades.
For example, a typical trading pair in crypto markets is ETH/USDT. ETH is the base currency in this trading pair as it is the asset being bought. USDT is the quote currency specifying the cost of the amount of ETH purchased in the trade. When ETH is bought, USDT is used to make the purchase, and conversely, when ETH is sold, USDT is received in exchange. Investors use trading pairs to speculate on the relative values of varying currencies.
When a startup project establishes its trading pair for an IDO, the base currency is always the startup project’s token, and the quote currency is normally a stablecoin or the native token of the blockchain network that the DEX being used for the IDO is built on. For example, if the DEX being utilized for the IDO is Uniswap, then the quote currency would be ETH, as UniSwap is built on Ethereum.
Conclusion
IDOs constitute a cheap and decentralized way for startup projects in crypto to launch their token sales and bring new customers into the Web3 ecosystem. Compared to other methods of token sales like IEOs and ICOs, IDOs are more transparent, cheaper for startups to conduct, and more fluidly onboard potential investors.
The advantages of IDOs are grounded across three key dimensions. First, its flexibility enables startups to tailor tokenomics and distribution strategies without burdensome listing requirements inherent in IEOs. Secondly, decentralization ensures community control and asset ownership, fostering trust and resilience.
Thirdly, IDOs offer unmatched accessibility by leveraging DEXs to streamline trading and eliminate invasive KYC standards. IDOs are impactful fundraising methods that empower startups with unprecedented control, transparency, and market accessibility.
