- 1. Ignoring Regulation When Selling Tokens is a Really Bad Idea
- 2. But a Formal Registered Offering Might Be Worse
- 3. You Need to Choose the Right Security Exemption
- 4. Investors Might Not Like It
- 5. Just Because Your Offering is Regulated Doesn’t Mean You Can Relax
- The Future of ICOs is Not Yet Certain
Dear Unregulated ICO,
It’s been fun. We had some good times together, but it’s time we parted ways. I feel like I’ve outgrown this relationship.
If ICOs could talk, you might just find a few breakups like this going down. Because, well, if anyone ever told you if it’s too good to be true, that’s because it probably is; in this case, they may have been right.
ICOs have had a good run. In fact, this year, the total funds raised in the first couple of months outstripped the whole of 2017. But it’s almost like the last ditch battle cry from a wounded, depleted army. ICOs are going down. More specifically, unregulated token sales are going down.
Raising millions of dollars online with no regulation, rules, or strings attached was certainly fun (unless you got hacked like Casino, Swarm City or Edgeless, or are in the throes of litigation like Tezos). And of course, there have been some incredible projects come to light on the back of ICOs. Just think Ethereum, NEO, QTUM, and countless others.
But it’s time to hold a moment of silence for ICOs as we know them now that the world’s regulators are catching up. It’s almost like your parents showing up at the party. Now the lights have been brutally switched on, and the beautiful people you were dancing with look a little sketchy.
As blockchain startups of all shapes and sizes make their move to comply with lawmakers’ regulation, here are five things you should know about the move away from ICOs.
1. Ignoring Regulation When Selling Tokens is a Really Bad Idea
Especially in the US. “With the SEC’s enforcement activity, Rule 21 Report of Investigation regarding the DAO, Congressional testimony and comments, it is clear that most offerings in the US will be subject to existing securities laws and be considered securities. This means that new token offerings will either have to comply with or proceed under an exemption from formal offering obligations,” says Andrew Hinkes General Counsel, Chief Legal Officer, and co-Founder of Athena Blockchain.
With a plethora of subpoenas issued and questions being raised about the compliance of certain ICOs, the alarm bells are ringing loudly. Knowingly violating security laws can lead to fines, suspensions, or a really long stay behind bars.
2. But a Formal Registered Offering Might Be Worse
Well, not worse. You won’t get sent to the slammer. But you might never make it out of the paddock either. Trying to formally register your offering and adhere to the numerous complicated rules might lose you all your savings, friends, and patience before your offering even reaches the public sphere.
“A formal, registered offering may not make sense for some crypto type businesses that would otherwise use the previous model of unregulated ICO,” says Hinkes. Few blockchain hopefuls have two year’s worth of audited financials or a track record solid enough to qualify for an IPO. It would most certainly be cost-prohibitive for the majority of startups.
3. You Need to Choose the Right Security Exemption
As ICOs are growing up, there are a few paths they can follow to ensure compliance with the SEC’s regulations. Each has its pros and cons. The option you choose will depend on how much money you seek to raise, how solid your documentation is, and whether you mind limiting your offer to accredited investors only.
Exceptions like Reg D 506 (c) limit investing to US accredited investors. Reg A+ is more flexible over who can invest but caps the amount to be raised. “It also requires the preparation of more formal documents and mandates that the SEC qualify the offering documents before the issuer can sell its securities,” Hinkes advises. In all cases, issuers also must collect information about token purchasers, including verifying their identity.
4. Investors Might Not Like It
While the SEC is there to protect investors, much as the GDPR is for consumers, investors may not enjoy going through the extra steps and providing personal disclosures before sending issuers funds. Reading through excessive disclosures and consenting to opt-in may scare a few investors away.
Sending ether to a public wallet based in exchange for a few tokens is pretty easy. Going through lengthy KYC and AML protocols and providing accreditation information complicates the matter.
Suleyman Duyar, Founder & Chief Strategist at RenGen Labs says, “What we are seeing is lots of issuers looking for regulated solutions for ICOs. The issues they face, especially public companies, are not just questions about U.S. securities laws; they are also concerned with KYC and AML and accreditation laws around the world.”
5. Just Because Your Offering is Regulated Doesn’t Mean You Can Relax
Even after you put the leg work in, get your papers in order, take the time to engage in a dialog with the SEC and potentially miss out on some investors, you still haven’t ticked all the boxes.
“Just because your token is issued in compliance with securities laws doesn’t mean you are out of the woods,” says Hinkes. There are still a lot of questions that arise and processes to follow. “Where does a token that is issued pursuant to an exemption (but is not expressly debt or equity) live on a company’s balance sheet?” for example, “How is that offering taxed?” etc.
Companies who want to ensure compliance at every step will need a solid legal advisor and an open-book attitude. And maybe a few Tylenol on hand when their heads start to pound.
The Future of ICOs is Not Yet Certain
The move away from ICOs won’t happen overnight. But it is coming, in the US at least. And it’s likely that the EU will follow suit, as well as other major global jurisdictions. For now, though, it’s still a complicated and decidedly gray area in which clearer guidelines are needed.
Says Hinkes, “Even for exempted offerings, there are a number of questions about offering crypto- investment products that remain unanswered, such as custody, fiduciary duties, trading mechanics, clearance, and settlement. Although the SEC has put the industry on notice that its existing regulations apply, the industry needs clarity and guidance as to how it should implement the existing laws for this new model of issuance. This is complicated and appears to be sending capital formation offshore.”
So, it seems that everybody is paying the price for regulation, including the regulators themselves. But until we all learn to navigate these uncharted waters and set precedents where none exist, it pays to be prepared.
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