Most of the previous information is applicable to any business, regardless of whether you use a token or not. However, the primary question remains: does your project even need a token?
Reasons To Launch A Token
There are many Web3 projects that have launched a token without there being a clear demand or use case for it. There are a few reasons why you might want to launch a token, although some are stronger than others:
- You are building a Layer 1 chain: in this case the token is very close to the core of your protocol’s operation. Users need a token to operate the network. Inflation is often necessary to pay for network security and usage incentives. You might want control over the inflation parameters to optimize for a specific bonding ratio as well.
- You want to pay out dividends to users: tokens can be a good vehicle to do this. Allowing users to stake a token to capture a percentage of the protocol revenue drives demand for the token, locks up supply and can be a great justification for launching a token.
- You want the protocol to be decentralized: besides legal liability concerns for some businesses, this is often more of a choice than a requirement of the technology itself. Decentralization for the sake of decentralization can work, but without proper demand for the token (such as sharing significant protocol revenue) this reason has potential to backfire on its own.
- You need to fundraise: fundraising through investors or a public sale is by itself not a sufficient reason to launch a token. If you need investment you’re better off raising on equity as an early stage project. If no investors are interested, you should take a step back and really reconsider the merits of your project.
- You want to do an airdrop and promote the protocol: this is a terrible reason to launch a token. It’s a nice bonus that comes if you have a very good justification for launching a token. However, if you find yourself launching a token purely for this reason, you’ll find that supply will outweigh demand in the long term.
Scenarios Where a Token Isn’t Needed
There are also plenty of scenarios where a token is not absolutely necessary. Even in Web3, businesses can often functionally operate through more centralized ownership. This is more common when launching a dApp on a pre-existing Layer 1 blockchain or even just a front-end aggregation service. Let’s explore an example where this could apply:
The Token Swap Protocol
If the primary business model of this imaginary token swap protocol is fee capture, and fees are captured on the assets directly, then you can move these to any wallet of your choice. If the protocol is being operated by a centralized entity, they could use these funds to pay for development, operations, marketing and all other costs to keep the protocol operational. Much like a Web2 business, they would initially rely on investments through the sale of equity.
Downsides to this approach is the reliance on investment until profitability is reached. Web3 is currently a highly saturated market and protocols depend heavily on user incentivization to capture market share. Without constant injection of funds, this can prove hard to maintain in the long term.
Instead, launching a token can be seen as a fundraising mechanism for the protocol, even if no public sale is ever offered. If incentivization mechanisms and other costs are paid for through the inflation of a token, and demand for the token is sufficient enough to keep its price stable, you’re effectively crowd-funding the growth of your platform on a continuous basis. This is akin to launching a kickstarter campaign with no end date instead of raising with investors.
Although this can work, it’s not a success story for the token’s value appreciation. Without a clear value add for your users and a demand for your token, this strategy will likely fail, and depending on your business type and expected costs, it might not even be necessary. Of course, the legal complexity that comes with launching a token also has to be considered.
Decentralization has many faces and can apply to protocol ownership, distributed computing and storage, custody of funds, and much more. Electing to only decentralize a few of them but not all is a perfectly viable strategy. Not launching a token can keep protocol ownership centralized while decentralizing many other components of the product.
More importantly, launching a token for the sake of decentralization can be detrimental to your project if you haven’t carefully considered the potential use cases and demand for it. Managing supply and demand is a tricky beast that requires a carefully considered token mechanism. In the next section on Token Mechanics you can read more about the different token types that exist, the economic models that govern them and how to manage demand through incentivization mechanisms.