The underlying value of a token is heavily contested across the blockchain industry. As founders, we want to strive for our token to have long-term value and at the same time align with all of the contributors’ expectations regarding growth and compensation.
This article takes a qualitative approach to best understand what key measures projects can take to better optimize the underlying value of their project in the form of token mechanics, terminology, and vesting schedules.
Lastly we aim to understand the more holistic capacity of these mechanics by looking at potential future applications.
There’s usually a complex web of involved parties in any given project, all of whom have widely different end goals and economic motives. Let’s break down the multiple stakeholder personas who may benefit from a token sale:
The group of people most involved and directly responsible for driving the business forward.
Industry experts who provide knowledge and connections to the project which are retributed with tokens.
The people who finance the endeavor privately in capital rounds. These differ from purchasers of tokens in open markets and usually get tokens at a highly discounted rate compared to retail investors.
The token balance held by the project’s DAO, treasury, or foundation for the project’s general expenses as well as staking rewards if applicable.
Tokens that are utilized for the purpose of marketing activities such as: engaging with communities through airdrops, incentivizing usage, and promoting the organic distribution of these rewards.
Tokens which distributed through public channels and/or exchanges. Usually accessible to consumers and retail investors.
Vesting within itself is a science of its own, and most often than not, designed per each project’s necessities moving forward, the pitfall lies when projects take templated approaches to vest, best described by Lauren Stepanian’s article on vesting lock-ups:
“A time-based vest (including the cliff) begins at some agreed upon date, either on the date an agreement is executed or a set period of time following the execution of an agreement. A trigger-based vesting schedule is kicked off after some event. Typically this involves a token generation event, but it can also involve a mainnet launch or the listing of a project token on a prominent exchange. We found, around 70% of token vesting schedules were trigger-based and of those, 65% began after a token generation event.”
Projects are tending to take an arguably unhealthy approach to the unlock of tokens, through trigger-based events, giving projects the liberty to delay vesting until they see fit. These contracts can actually hurt projects in the long run, as founders find themselves in volatile market conditions, with high pressure from VCs as well as the community to either hold or accelerate the token generation event. These pressures might force projects to behave either too conservatively or erratically, hurting their runway and bottom line.
Ideally, projects should stick to time-based vesting schedules to best ensure all stakeholders, streamline reporting and enforce healthy deadlines for development teams to execute. This also incentivizes founders to allocate resources based on their time to execution vs. their time of entry to the market. As always time in the market beats timing the market.
Projects find themselves with the option to vest their tokens either linearly (on a per-block basis) or in bulk (usually monthly or quarterly). Though not crucial, and counterintuitive, linear vesting models actually reduce token volatility by 30%. Ideally, projects want to utilize the full potential of smart contracts and vest on a linear basis, you can argue stakeholders knowing they’d receive a constant amount daily prefer to speculate upon them less constantly than getting monthly or quarterly bulk amounts (as the reward perception is higher)
Projects are increasing their cliff period to offset the sell pressure token holders face once vested. This has seen an increase over time in the last 3 years, but will surely see a decline given market conditions, pressure from VCs for liquidity as well as from more favorable markets will most likely drive founders to reduce this cliff in the short term.
There’s an increasing trend in projects in which tokens can be staked, making investors, contributors, advisors, and team members stake their vested tokens for an extended period. Once again, trying to engineer token price will always be a deterrent at best and a detriment at worse to the real value of any type of asset.
The allocation of the total supply of tokens should be contingent on the utility, industry niche, and growth needs of the project. Some examples of distribution per niche:
Defi projects are usually the leanest when it comes to team size, giving founders the chance to allocate more tokens in key areas like community incentives(doesn’t mean projects actually do so, latest trends show the opposite). Allocation for incentives tends to be the highest given the need to bootstrap TVL in the protocol, liquidity being a key driving factor of growth in this niche.
Both studios and infrastructure providers in this sector tend to allocate more tokens for two key areas: Treasury & Incentives. Gaming is usually a highly resource intensive vertical both for development and BD necessities. Growth is determined by partnerships and engagement, the main driving factor being token incentives/airdrops for users.
Tooling and Infrastructure providers work exclusively on the B2B side, making their growth highly contingent on two key factors: BD & Development Expediency. The industry as a whole is in its infancy, better and more effective infrastructure tech keeps evolving and new needs arise on the daily within this sector, making this vertical allocate tokens in two key areas: Investors and Treasury.
Web3 companies have the choice to work under a Decentralized Autonomous Organizations (DAOs) to govern over the majority of the business decisions of the company or resort to traditional management schemes by having centralized control of the token supply. DAOs are in the early days and projects must choose between the expediency of traditional control, versus the still-clunky, but decentralized DAO execution method.
There are 3 main ways of storing and programming token distribution:
Centralized (One wallet or MPC solution)
Multi-Signature (multiple owners of a wallet)
Smart Contract (Fully programmed contract on-chain)
Projects are faced with the decision of how to manage their supply, all of which have their drawbacks. On-Chain contracts run the risk of receiving wallet’s being lost or compromised, losing the vested amount permanently, single and multi-signature wallets run the risk of bad actors/human error within the organization, but provide more insurance for token preservation on the receiving end. Some projects take a hybrid approach like YGG dividing their risk in thirds.
As investors we prefer smart contracts as it’s fully insured on the buy side (contingent on the vesting protocol being properly audited) leaving the risk solely on our discretion.
Though it might seem trivial to most, the naming of assets behind their mechanics actually connects people’s subconscious with the token’s utility a good example of this is the skeuomorphic design of applications and the pioneering use of physical desktop naming to file trash delete objects in a virtual world. If an asset can be named behind the utility it serves, it will find more traction in the market it is attempting to accrue.
Some neat examples of wordplay for tokens are: Cosmos’ ($ATOM), Chainlink’s ($LINK), Decentraland’s ($MANA), Audius’ ($AUDIO), and Sandbox’s $SAND. Some missed opportunities like Helium (Not using the table of elements’ nomenclature He2) Secret ($SHH).
Obvious disclaimer is that reflexive naming of assets like akin to the way we name traditional stocks do help traders find and not confuse names, and it’s most often than not better if the asset is a wrapped pair ot has only a straightforward utility (IE stablecoins).
The main difference vs traditional stocks have more direct utility to the mechanisms of these systems, and it’s name can be paired to it’s use case and it’s protocol’s holistic design. This takes us to mechanics and what to consider when distributing tokens per industry niche:
The key determining factor that will ensure the success of any project is it’s token (or tokens) core utility (or utilities) and mechanic design. The main mechanic projects employ to influence the price post-ICO is on the supply side, through the buy-back & burn mechanic, but this lever can also backfire if there is no equal pressure on the demand side.
Creating true non-speculative demand through true utility is the main marker of the success and sustainability of a project. Here are some examples of potential utilities for fungible tokens:
Revenue Capture/Sharing
Governance
Discounts/Benefits
Collateral/Insurance
Penalization/Performance Incentives
Usage fee (Gas/Compute)
To showcase some use cases we’ll refer to potential project ideas we’re interested in as investors, instead of showcasing pre-existing projects, we’ll just contrast the potential future of these utilities in the web3 future with it’s present-day counter parts.
App-Chain L2s as a Service:
Having tokens become cash-flow assets for their holders is a great utility for their holders. A good present day example of this mechanic are derivative DEXs like dYdX which reward liquidity providers with generated fees.
Late last year, their team announced the launch of their own app-chain. By doing so they sacrifice shared security, atomic composability, and fast prototyping for customizability, sovereignty, value accrual, and gas predictability.
An app-Chain specific L2 service would facilitate and expedite the development of app-chains, without the sacrifices states above. It would recruit sequencers/verifiers behind the scenes, and spin up app-specific indexers, oracles, bridges, block explorers, etc.
Utilities for NFTs in the form of SBTs (Soul-bound Tokens)
Governance tokens themselves don’t generate value. Value accrues from the power of communities to influence the protocol’s decisions. This creates incredible engagement within the communities. Though not many have succeeded $CRV is an outlier of a present-day success.
The future may see a completely revolutionary paradigm in the value of these tokens mainly driven by Balaji Srinivasan’s Network State Manifesto. He argues in favor of the deprecation of nation states as humanity’s basic organizational architecture.
Blockchain enables us to implement property rights via encryption, constitution and laws via smart contracts, taxation via token issuance, national currencies via cryptocurrencies, transparent policymaking via decentralized governance, and international trade via DeFi.
The idea then is to start as an online community, with SBTs that represent citizen’s identity, a shared set of interests or beliefs, a path to grow economically, and a vision to ultimately become a digital nation that enters the physical realm in the form of decentralized real-estate ownership.
Fan Engagement & Habit-Formation dApps:
Today many tokens in the market provide added benefits for their holders apart from voting rights. These can range from discounts to reduced fees and higher staking/airdrop rewards.
Research has suggested that it can take anywhere from 18 to 254 days for a person to form a new habit. The use of financial incentives through tokens may provide the motivation that people need to stick with their new habits and make them a permanent part of their lives. Stepn has proved this is feasible, the main challenge being oracles connecting off-chain actions/events to an on-chain counterpart.
NFTs currently have limited utilities apart from collectability. NFTs in the form of SBTs can unlock multiple benefits for the holders, like exclusive access to the creator’s SBT blog/page, royalties from their derivative IPs for contributors some examples being:
Music, Video, Blogs, & Art
Brands
Scientific discoveries and Proprietary Tech
It’s currently possible for blockchain users to facilitate bad transactions or fail validator functions when staking L1 tokens, which hurts the overall ecosystem. To discourage this behavior, projects can require collateral to ensure that all parties have a financial incentive to uphold the integrity of the blockchain and positively contribute to the project.
In the event of a penalty, collateral is sold to cover losses in the stake pool. This mechanic incentivizes validators to maintain high performance and up-time on their nodes, while also preventing socialized losses.
Future use cases see corporations, DAOs or even individuals who accrue revenue on-chain borrowing money against their incoming cashflow, as well as to use their assets in the form of NFTs as collateral in a single mega-lender dApp. The faster repayment happens can also incur added value to these entities.
The OG utility for tokens came in the form of fees, incentivizing miners in Bitcoin and Stakers on PoS blockchains to validate transactions providing security to the system.
App-Chains will bring novel usage for these revenue generating fee structures: a few examples being:
AI models that are able to run and potentially even be trained on local devices, rather than relying on cloud computing. Like $RNDR Network’s decentralized GPU model.
Decentralized Stablecoins: Still the biggest problem to solve for a fully decentralized economy.
Enabling Cross-Chain Security Sharing: L2 App-Chains mentioned above
ZKP hardware accelerators: Companies that specialize in designing hardware exclusively for ZK-proofing will have an huge first mover advantage to become unicorns.
AI Dataset Creation: A PoPW network that can be used to aggregate human contributions to create datasets for AI training. These datasets could be used by companies that develop and train large AI models like OpenAI.
Founders must strive to take into consideration the factors mentioned above to truly embrace the ethos of the new decentralized world, and not be victim to the shortcomings of the flawed/inefficient web2 economy. We hope this article can shed a clearer light in token distribution models and increase founders’ conviction on their mapping.
Our team highly encourages you to reach out with feedback, as opinions are my formed by my own subjective judgement based on hard-to-quantify information and thus low-IQ until proven otherwise.
Disclaimer: ChatGPT was NOT employed in the making of this article. Instead the author chose to plagiarize higher IQ posts the traditional way, linking relevant citations therein. Cheers to immutability and uncensorship.