Traditionally, venture capital firms are the life blood of Silicon Valley based tech startups however one type of technology, cryptocurrency, is flipping that relationship on its head. Simply put, digital currency startups don’t need the cash traditionally supplied by VCs, and now, VCs are turning to cryptocurrency startups for a piece of the action. This reversed relationship is due to a phenomenon known as Initial Coin Offerings (ICOs). In an ICO, a cryptocurrency firm offers a percentage of their currency to initial public backers of the project in exchange for other types of digital currency, mainly Bitcoin.
Simply put, startup cryptocurrency firms can create their own currency, and use mathematical contract algorithms to control the behavior an existence of this currency. This currency is eventually made available for purchase by the algorithm and when purchased by early backers, the inflow of bitcoins (an already established currency) to the startup generates equity. Essentially, an ICO is an unregulated means of crowd funding.
There are currently 900 different digital currencies each with its own unique value and we’re likely to see more. However, while this new market is very lucrative and thus, an asset to Silicon Valley, it comes with some great risks. Cryptocurrencies are completely unregulated so anyone who loses cryptocurrency due to fraud or illegal activities has no way of being compensated. Cryptocurrencies are also vulnerable to a new type of cyber-attack called 51% attacks. Simply put, if data miners control more than 51% of the blockchain network’s computing power, they would be able to prevent new transactions from being validated and reverse transactions, meaning they could double spend coins!
Simply put the cryptocurrency market is gaining strength and is highly lucrative as it can raise equity from virtually nothing but at the same time, this market carries a great deal of risk. As the internet becomes less and less regulated, both the risks and rewards from this market will grow exponentially.