The Token Era: ICOs, STOs and the Regulatory Landscape Future
Let’s face it, crowdfunding in 2018 is complicated.
The decline of Initial Public Offerings (IPOs) have ushered in newly-emerging fundraising methods, including Initial Coin Offerings (ICOs) and Security Token Offerings (STOs). These innovative fundraising structures have drastically impacted the landscape of securities regulation and the crowdfunding process.
The emergence of blockchain technology and the popularity of Initial Coin Offering (ICOs) have revolutionized how start-up companies acquire capital from the public. In fact, $6.6 billion was raised through 217 ICO sales this year.
ICOs are a fundraising mechanism in which a company creates a digital token and sells it to the public in exchange for common virtual currencies such as Bitcoin or Ether, or Fiat currency. Start-up, blockchain-based companies have eagerly embraced ICOs as a fundraising tool, because it allows them to raise funds without issuing equity. In exchange, investors do not receive legal or economic rights or obligations. Instead, they are given access to the startup’s network or platform, which in most cases is yet to be built.
From a regulatory standpoint, the companies believed that the nature of the token allowed them to issue virtual currencies with minimal regulatory oversight. Over time, this approach has created and raised red flags due to the upsurge of consumer fraud schemes. Since late 2017, the SEC has addressed the issue by cracking down on ICOs. In effect, companies that plan on issuing tokens are stuck in a twilight zone, grappling with pressing unanswered questions- are there ways to conduct a compliant token offering and if so, how can we do it?
Welcome, Security Token Offerings (STOs).
The “tokenization” process allows companies to issue tokens that are backed by real assets. That is to say, a security token represents an economic interest such as a share in a company or a membership unit in an LLC. By acknowledging that the token is a security, and granting predefined economic rights, a company can provide investors with legal rights and benefits including, but not limited, to dividends, profit shares, and voting rights.
Unlike most ICOs, an STO is a regulated offering which allows companies to register with the SEC or utilize an exemption under the JOBS Act. This method further ensures market transparency and may provide a favorable framework for future token offerings. In a regulated offering, the issuer will face more complex legal and technological processes before issuance. Specifically, an issuer must comply with KYC/AML requirement and securities laws. If a company is interested in conducting an STO, they may utilize security law exemptions including Regulation A+ and Regulation D 506(c), and Regulation Crowdfunding.
For companies seeking financing, an STO can ensure a compliant token offering when soliciting the public for capital. Check out future posts where we detail the different types of token offerings we’re seeing on the market right now.