ICOs, or Initial Coin Offerings, is a method of fundraising whereby new projects exchange their crypto tokens for ether and bitcoin (BTC). This method is not dissimilar to an IPO (Initial Public Offering), where investors buy company shares.
ICOs have not been around for long, however, they have become a hotly debated subject within the blockchain community. Some people regard ICOs as unregulated securities, which enable founders to access an extortionate amount of money, whereas others say that they are an evolution of the venture funding process.
The Latest Rule Changes
Recently, the SEC (US Securities & Exchange Commission) introduced a policy concerning the classification of tokens created in the notorious DAO ICO. This led to many investors and projects reexamining the funding strategies of some ICOs. One vital point to take into account is whether the token satisfies the Howey test criteria. Assuming that it does, it should be classed as a security. This means it will be governed by certain limitations that the SEC specifies.
It is simple to structure ICOs, thanks to P2P technologies such as the Token Standard ERC20, which perform much of the development work to generate new cryptographic assets. The majority of ICOs function by getting investors to send capital (normally from their bitcoin wallet, using a private key and digital signature) to smart contracts that store the capital, then distribute an appropriate value within the new token subsequently.
Not many limitations are imposed, with regards to who can take part in ICOs, in the event that tokens are not classed as securities. And, because you are obtaining funds from a worldwide investor pool, the capital that ICOs generate can be huge. One problem with ICOs is that the majority of them raise pre-product money. Consequently, investments are highly risky and speculative. Notwithstanding, this style of fundraising is helpful to incentivize the development of protocols.
The Legalities of ICOs
ICOs occupy a rather ambiguous area of the law because a case can be made for and against the notion that they are unregulated, new financial assets. Nonetheless, the SEC’s latest policy has clarified some of this ambiguity. In certain instances, the tokens are just utility tokens, which means that they give the owners access to particular networks or protocols. Therefore, they will not be classed as financial securities in these cases. In contrast, if the tokens are equity tokens, which means that their sole purpose is to increase in value, these look far more like securities.
Although lots of people buy tokens to use the platform in future, it is hard to refute the concept that the majority of token buys are speculative investments, just like bitcoin mining. This can be easily ascertained from the valuation data of numerous projects, which have not yet released commercial products.
The decision by the SEC might have clarified the status of security versus utility tokens; nonetheless, there is still lots of scope for establishing legal boundaries. At the moment, and until more regulatory restrictions are enforced, entrepreneurs will carry on profiting from this new trend.