Smart contracts are used in crowdfunding and similar financing projects to raise funds. Thanks to the self-execution and immutability features of smart contracts, it is possible to automate the fundraising process and manage the processes between the investor and the project owners more quickly and efficiently. In addition, smart contracts ensure that the fundraising process is carried out without the need for intermediaries, in a peer-to-peer, and transparently.
First, let's talk about crowdfunding, a funding source with different models. Crowdfunding is a method of obtaining financing that supports creativity, innovation, and entrepreneurship. Crowdfunding, which aims to provide financial resources to entrepreneurs with high added value and competitive power business ideas for producing technological goods and services has gained even more importance with the rapid development of technology. This investment method allows entrepreneurs to find financial resources from all over the world. In addition, while shortening the time for searching for investors, it also offers the opportunity to test the project's potential in the market before going live and to develop the business model if necessary. The first crowdfunding application in Turkey was realized in 2010 with a platform called www.projemefon.com. Crowdfunding, still evolving, has achieved a legal basis in Capital Market Law since 2017.
ICO (Initial Coin Offering) and STO (Security Token Offering) processes, which enable fundraising with smart contracts on the blockchain, are also likened to crowdfunding. However, it should be noted that they have some features different from crowdfunding projects.
After the Ethereum blockchain, ICOs occurred through smart contracts that were used to fund blockchain-based projects. Especially between 2015-2018, ICOs became the most preferred method for financing blockchain-based projects.
ICO is a crowdfunding method using crypto assets (cryptocurrency and tokens) and blockchain technology. Especially, start-up companies can meet their funding needs without the need for intermediaries for a project, business model, or business idea.
The system works as follows: First of all, the entrepreneur prepares a “whitepaper”, explains the project in detail, talks about its purpose, determines the amount of funds needed, reveals the duration of the campaign, and explains the qualifications of tokens to be exported. The project owner also sets an address for the funds that will be collected. When an investor transfers crypto assets to the entrepreneur, the smart contract automatically exports tokens to investors' crypto wallets in exchange for their investments as crypto assets. These tokens are usually utility tokens, and they usually represent a share in a company, a right to access a service, a real-world asset, or a right to use a good or service.
If the value of the token held by the investors increases with the realization of the products and services foreseen in the funded project, the investor will make a profit from it. If the required financing is not obtained within the time specified in the whitepaper, their contributions will be refunded to the investors.
Although it was quite easy to begin the process when ICOs began to become widespread, there were many uncertainties in terms of regulation all over the world. There have been some ICO projects that have been very successful and have made huge profits. However, by misleading investors, some irregularities and scams have occurred, such as promising some projects that will not be actualized.
There was a similar environment in Turkiye. In 2018, the Capital Markets Board (CMB) published an announcement and warned investors that ICO practices fell outside the CMB's regulation and oversight area. This announcement also stated that ICOs are very high-risk and speculative investments. It was also pointed out that there may be excessive volatility in the values of the tokens purchased by the investors and that the financing raised by the project owners may not be used for the stated purposes. The CMB also highlighted the risk of failure of projects and loss of all investments because the majority of projects funded through ICOs are early-stage projects.
All over the world, the spread of ICOs has led to victimization and created some legal problems. The necessity of researching the project and its developers well has come to light. In the face of the difficulty of controlling ICOs by regulatory authorities, STOs (Security Token Offerings), safer for both investors and the market, began to become widespread.