Let’s pretend we are keen fans of the “spiral course of the progress” theory. This would mean that we believe that whatever the event, something like that has already happened before, and the same things keep on manifesting themselves over and over again in each new round of this temporal coil. If so, we could consider ICOs a conceptual descendant of IPOs, i.e. generally the same thing with necessary adjustments for the technological advancement.
The first IPO was held as early as in 1602, and legislation in this regard keeps on evolving. Compared to that, the ICO world is in its infancy. But, and that’s the question, is a security token any better than an old-fashioned and properly regulated security? Are there any advantages in posing a token a security rather than utility? Answering that would require us to analyze the status of investors and issuers in both IPOs and ICOs.
In his exclusive feature for lawless.tech, Vova Prysiazhniuk, an associate at law firm Axon Partners, offers his discourses as to why issuing security tokens might be not as awful for cryptocurrency companies as some may think.
All the Offerings
Under the U. S. legislation (mentioned jurisdiction was chosen due to its weight during ICOs launches), traditional investors have two important rights, which stand out above all the others: the right to elect directors and the right to sell shares. Still, it is important to understand that other investors’ rights, such as the right to own a portion of the company, to receive dividends, to inspect corporate books, to sue for the wrongful acts and so forth, are important as well.
In case of utility tokens, the investors are entitled only to get access to the goods/services provided by the project selling the tokens; or to get a discount or premium access to said goods/services. Essentially, it means that utility tokens cannot be viewed as investment instruments, and those rights become enforceable only when the platform is launched. The investors, if the term is even applicable, can only hope for the best.
In the traditional framework, the issuers have to undergo several procedures, such as registration under the Securities Act of 1933 which stipulates, among other things, that securities can be sold only to accredited investors. In an ICO, issuers have only to come up with an appealing whitepaper, somehow lead their tokens through the Howey test, and hold an efficient marketing campaign while maintaining certain level of credibility.
Raising money via offering utility tokens isn’t as efficient as via offering securities tokens. In the former case, all the issuers offer is the chance to access a product that is yet to be developed by investing in said development. This isn’t even an offering as such, it’s more of a new form of crowdfunding. The lack of understanding of what the end product will be, if there will be any, is a common problem. For that reason, if any legal framework has to be introduced for utility token offerings, it has to be different from that for security tokens (an attempt at that has been recently undertaken by the Wyoming State legislature). Utility tokens, under this view, are neither securities nor money, and therefore shall be exempt from regulations set forth for money and securities.
As to the offering of security tokens, issuers cross the Rubicon in a way by revealing information to the authorities and granting their investors certain rights. More or less, such scenario can be referred to as modern-day IPO. The only thing to remember here is that for many growing companies “going public” is more than just selling stock. It’s a signal to the world that the business has made it. With the ICOs, everything’s the other way round: it is just an intro song. And whether such business will have its main theme song, or such intro will turn into a swan song solely depends with the issuers’ responsibility, which in turn depends on their true intentions.
The Future of Regulation
There are substantial differences between ICOs and IPOs: generally, ICOs are held by projects at the very early phases of their developments, while holding an IPO signals that a company is mature enough. ICOs cannot replace IPOs in today’s conditions, though both can be held by the same project at different times. The main difference, however, is that they have legal frameworks that do not really resemble each other. Those legal frameworks seek to protect investors, and that’s where ICOs have their soft spot.
Back in 1929, the stock market collapsed as companies were issuing stock and promoting their companies’ value together with promises of large profits and little disclosure of relevant information about themselves. It all resulted in the adoption of Securities Act of 1933 and the Securities Exchange Act of 1934. ICOs can hardly cause a stock market crash but it is a fact they can serve as a fraud instrument. That is why Securities and Exchange Commission (SEC) has started to figure out rules for the ICO market. One can easily find tons of information on ICOs that turned out to be a scam.
The era of post-truth ICOs is about to finish. The projects that aim to raise funds for the real idea development should prepare for the inevitably regulated future. Those projects that truly want to develop an idea and need help from the outside are definitely going to face more severe legislative requirements to launch an ICO. That’s the price the issuers will have to pay as authorities have to protect investors from scams. On the other hand, an established legal framework for ICOs is going to be beneficial both for issuers and investors. The issuers gain a higher level of credibility, while the investors get some confidence in their investment. Among equally honest ICOs, investors will choose between more appealing ideas.
The regulated future of ICOs is almost here, and it dictates that ICO will be legally possible under security tokens framework. As for the utility tokens, it could become a great crowdfunding instrument, but definitely not an “offering”. Some projects are so “hot” that they raise funds within hours or even minutes, other raise funds because of the fear to be missed out. Those are the cases where investors must be sure of their legal rights and warranties.