Introduction: Pricing your token before launch

Determining the valuation of a blockchain project is notoriously difficult. Valuation is the process of determining the worth or “fair value” of a token, project, asset, or company.

This section will focus on two major concepts related to value attribution to projects prior to their token generation event (“TGE”):

1. Frameworks used to assess valuation.
2. Mechanisms used to memorialize valuation.

Frameworks & Mechanisms

Before we dive in, let’s define some key terms:

Earmarking tokens for future funding stages

When structuring your Token Distribution & Emissions Schedules, you will have assigned a certain number of tokens to investors. It’s important to keep in mind that you might need to raise capital in multiple stages of the project.

Assuming that you have and or plan to engage investors for strategic growth capital, plan for multiple rounds of financing (ex: Seed, Private, Public, etc.) and earmark tokens accordingly.

Early investors typically receive tokens at a lower price to compensate for higher risk; however, these tokens should carry a longer lock & vest structure.

As mentioned in earlier sections, you should aim for a 1 year lock up with a 2 - 3 year vest for early investors. For later stage investors, use your discretion and prioritize locking in a favorable valuation or securing the desired amount of Growth Capital vs. negotiating a more conservative emissions schedule. Aim for 6 - 9 months lock up with a 1 - 2 year vest.

Raising capital in tranches from diverse groups of investors will help you create value and monetize that value in later funding rounds.

Pre-TGE Valuation Framework

First, we will discuss a popular framework used to determine the fair value of a blockchain project prior to its token generation event (“TGE”). In other words, how do you determine a valuation (in US Dollar terms) that accurately reflects the usefulness and future potential of the business and technology you are building? Clearly you have conviction and confidence in your solution, mission, and vision (otherwise you wouldn’t be building in the first place) but what is the project worth at this stage, and what might it be worth as you draw closer to TGE? $10M? $50M? $100M? It’s understandably difficult to quantify current and future value with so many uncertainties.

So how do we ascribe value to a project in the absence of fundamentals? The solution is not necessarily unique to the blockchain industry. Pre-TGE valuations can be determined for blockchain projects by approximating their current and future value via a framework known as “Comparable Project Analysis.” Comparable Project Analysis is conducted by investors when assessing valuations and should therefore be used by blockchain entrepreneurs as a best practice to arrive at reasonable token pricing.

Comparable Project Analysis

Comparable project analysis is a process used to estimate the fair value of one project by referencing quantitative metrics associated with other projects that operate in a similar market sector, with similar qualitative characteristics such as tokenomics design, target addressable market, and product suite. Comparable Project Analysis provides ballpark estimations of valuation ranges and is more of a directional “art” rather than a science.

For example, Project ABC intends to launch a governance token for a new decentralized exchange. Project ABC wants to fundraise at a valuation of $50M. Project ABC has only recently started protocol development and will need to expand headcount to achieve its business goals. The founders have some experience in middle management, but this is their first attempt at launching a blockchain project.

To determine if a valuation of $50M is fair, we can use metrics related to the most successful, existing blockchain projects with similar characteristics as a reference. For example, Uniswap, Curve, Pancakeswap, GMX, and dYdX. For each of these comparables, we will make note of the following (information like the below can be obtained from places like coingecko or the protocols own whitepapers):

• Quantitative Data Points:
  • Valuation (i.e., fully diluted valuation)
  • KPIs related to the platform such as:
    • Average daily trade volume
    • Number of markets (i.e., order books or liquidity pools)
    • Types of financial instruments supported (ex, spot trading, derivatives)
    • Monthly unique active users
    • Total value locked
• Qualitative Data Points:
  • Tokenomics design:
    • Characteristics associated with token value accrual, such as revenue share mechanisms
    • Token demand drivers
    • Duration of Token Emissions Schedule

Calculating the mean and median values for all quantitative data points from the remaining projects will serve as a “best-case scenario” for expectations if Project ABC can successfully launch and achieve a scale equivalent to the comparables. For example, the mean valuation across the sampled projects is ~ $1.5B (as of the date of writing).

Does this indicate that the fair value for Project ABC is $1.5B? Absolutely not. Remember that this is the mean valuation from only the sampled projects and is not representative of the valuation of projects that may offer similar services but have less attractive KPIs and brand recognition. The projects outside the sample must be considered when calculating the fair value of a pre-TGE, pre-product project. While it is possible to expand the sample size further, this is only partially necessary. Please remember that this framework is supposed to inform directional hypotheses rather than serve as an exact science. Accordingly, it may be more productive to keep the sample size “as is” and instead ask a simple question:

How likely is Project ABC to achieve scale and KPIs similar to Uniswap, Curve, Pancakeswap, GMX, and dYdX?

Now that we’ve established the likelihood of Project ABC achieving similar KPIs to our comparables, we can multiply this percentage figure by the mean valuation of our sampled projects to arrive at a rough estimation of fair value. See below:

Mean Valuation from Sampled Projects ($1.5B)

x

Likelihood that Project ABC will achieve scale and KPIs similar to Sampled Projects (1%)

= $15M

Viola! Using the Comparable Project Analysis framework, we’ve arrived at an estimated fair value of $15M for Project ABC as it conducts a “Seed round” fundraise. As Project ABC begins shipping products, expanding its team, and drawing closer to TGE, the likelihood of scaling to become the “next Uniswap” may increase and therefore result in a higher valuation. Additionally, the valuation and KPIs of comparables may also increase or decrease based on extraneous variables which would also influence the “best case scenario” assumptions for Project ABC. For example, a crypto-centric bull market may increase token prices significantly for Uniswap, Curve, Pancakeswap, GMX, and dYdX so that the mean valuation increases to $2B. If investors believe there is a 5% likelihood of Project ABC achieving similar KPIs, they may value the project at $100M in future fundraising rounds.

Helpful Prompts

• What is a “fair value” for what you are building?
  • Consider the aspirational scope (i.e., blue sky opportunities) as well as the minimum viable product (“MVP”) you plan to release.
  • Consider your current stage of development relative to the launch of your MVP. If your MVP has already been launched, then consider your orientation relative to mainstream customer adoption.
• What are some competing projects that operate in the same space and are trying to solve similar problems?
• What are some predecessor projects that you are taking inspiration from and/or improving upon?
• What is your competitive advantage and differentiating factor?

Resources and further reading

Pre-TGE Valuation Mechanisms

Now that we’ve discussed a popular valuation Framework, we will explore valuation Mechanisms.

Mechanisms are executed after valuations have been agreed upon via Frameworks. The most common mechanisms to codify valuation are private fundraising, public sales (ex: IEOs, IDOs, LBPs), and initial exchange listings. Each mechanism dictates a token price. Token price is then used alongside a project’s Token Distribution & Emissions Schedules to determine its market capitalization (“MC”) and fully diluted valuation (“FDV”).

Private Fundraising

Prior to a TGE, the price of a project’s native token – and by extension, the project’s Fully Diluted Valuation – is usually determined by private investors. Private investors utilize frameworks to determine valuations and mechanisms such as a simple agreement for future tokens (“SAFT”) to memorialize these valuations. A SAFT is a contract issued for the eventual transfer of digital tokens from a project to investors. The reference to “future tokens'' is representative of the fact that tokens have not yet been created, generated, mined, or minted at the time the investment occurs. SAFTs were created to help projects fundraise in the absence of clear regulatory guidelines and are comparable to a simple agreement for future equity (“SAFE''), which allows traditional investors to convert cash investments into equity at a point in the future.

The quantity of tokens purchased by investors via a SAFT is determined by three inputs:

• Capital contribution from investors
• Fully Diluted Valuation
• Maximum Token Supply

For example, if a project with a Maximum Supply of 1,000,000,000 tokens sought to raise $5,000,000 from investors at a $50,000,000 fully diluted valuation (as determined via a valuation Framework), we can determine the quantity of tokens purchased with the below formula:

(Capital contribution from investors) / ((Fully Diluted Valuation) / (Maximum Token Supply)) = Quantity of tokens purchased

Which converts to:

($5M) / ($50M / 1B Tokens) = 100M Tokens

This would imply a price per token of $0.05, which is calculated by dividing the Fully Diluted Valuation by the Maximum Token Supply.

(Fully Diluted Valuation) / (Maximum Token Supply) = Funding round price per token

Which converts to:

($50M / 1B Tokens) = $0.05 / token

An important takeaway here is that the Maximum Token Supply is a figure determined at the discretion of a project. Most projects choose a number for Maximum Token Supply that is larger than their Fully Diluted Valuation so that the price of their native token is less than $1; however, this is more of a marketing “gimmick” and will not have a material impact on token utility or demand drivers as long as tokens can be traded and transferred as fractional units with small enough denominations. For example, each bitcoin is composed of 100 million “units” known as “satoshis”. Accordingly, a prospective buyer can choose to purchase a fraction of a bitcoin (ex: 0.00001 BTC, or one ten thousandths of a bitcoin), rather than spending thousands of dollars to purchase a “whole” bitcoin.

Increasing the Maximum Token Supply while holding Fully Diluted Valuation constant will result in a lower price per token and a larger quantity of tokens purchased by private investors. The percentage of the Maximum Token Supply to be purchased by private investors will remain the same. For example, upon executing the SAFT, private investors in the example above would own 10% of the project’s Maximum Token Supply.

From the perspective of an investor, the quantity of tokens purchased is an arbitrary figure. Instead, the important metric is their percentage ownership of the Maximum Token Supply. Percentage ownership of the Maximum Token Supply is similar to an investor’s percentage ownership of outstanding shares from a traditional equity capitalization table. However, there is one critical caveat related to dilution:

Public Sale

A Public Sale is a fundraising event conducted by a project and made available to a broader group of investors, including less sophisticated retail participants. In this regard, Public Sales are a more accessible form of fundraising than private token sales, which are usually accessible to only a select group of accredited investors and venture capital firms. Public sales are almost always conducted after Private Fundraising has been completed and are heavily marketed to attract a large number of participants and generate momentum leading up to a project’s TGE.

There are many types of Public Sales, but the most common form is an initial exchange offering (“IEO”). An IEO is the Web3 equivalent of an initial public offering (“IPO”). An IEO is a sale of tokens facilitated through an established centralized exchange (“CEX”) to a group of its registered customers – most commonly, retail speculators.

During an IEO, centralized exchanges operate as a middleman between projects and prospective investors, generally charging the project a fee for their roles as facilitators. IEO’s and initial coin offerings (“ICO”) have similarities; however, an IEO is a regulatory evolution of ICO’s given its ability to restrict access to various geographies via know-you-customer (“KYC”) conducted by the exchange. The most popular IEO platforms are Binance Launchpad, Kucoin Spotlight, Gate.io Startup, OKX Jumpstart, Huobi Primelist, and Coinlist. A more comprehensive list of IEO platforms can be found here: Crypto Rank IEO Platforms

When an IEO is conducted, the exchange hosting the public sale will determine (1) a quantity of tokens to be made available for its customers, and (2) a price at which the tokens can be purchased for. The quantity of tokens to be sold is an output of this exercise given that it is dependent on a project’s Max Token Supply and Fully Diluted Valuation. Tokens sold via an IEO are almost always made available to purchasers with no lockups or vesting period. In other words, IEO allocations are generally 100% vested at TGE and therefore included in a project’s initial circulating supply.

To summarize, when conducting an IEO on a centralized exchange, the two main variables dictated by the platform are:

1. US Dollar value worth of tokens made available for prospective investors
2. Fully Diluted Valuation

For example, if Project XYZ conducted an IEO on Binance Launchpad, the terms may dictate $3M worth of tokens to be sold at a $150M FDV. Assuming Project XYZ had a Maximum Token Supply of 1B, then 20M tokens would be allocated to Binance Launchpad for purchase by its users at $0.150 per token. This would equate to 2% of Project XYZ’s Maximum Token Supply. To calculate the quantity of tokens allocated to the IEO, use the below equation:

(1,000,000,000 Maximum Token Supply) X (($3M worth of tokens to be sold in IEO) / ($150M Fully Diluted Valuation)) = 20,000,000 tokens allocated to IEO

To calculate the price per token allocated to the IEO, use the below equation:

($150M Fully Diluted Valuation) / (1,000,000,000 Maximum Token Supply) = $0.150 per token allocated to IEO.

Helpful Prompts

• How do you intend to fund development and ongoing operations leading up to your project’s TGE?
• How much capital / outside funding do you need to deliver an MVP product and conduct a TGE?
• Have you already earmarked a percentage of your Maximum Token Supply as an allocation to prospective investors in your Token Distribution Schedule?
• Do you have flexibility with your Token Distribution Schedule to carve out an allocation to prospective investors? If not, what is the largest percentage you can allocate to investors?

Private funding is the most realistic option for most projects to start with as it allows you to validate your idea, secure funding and build a network before opening up to a wider audience.

Resources and further reading