Initial coin offerings or similar types of sales of virtual-based coins and tokens, are quickly becoming an important fundraising tool for many early-stage companies. Last month, our QuickLaunch University webinar series focused on initial coin offerings and recent developments for startups. Here are five key takeaways:
- While an ICO raises funds, the coins are not typical currency. Instead, the coins or tokens purchased in an initial coin offering can be used to transfer value within the new coin's ecosystem or to other cryptocurrencies' ecosystems, and so may represent other rights or functions as well. It may give the holder a right to purchase the startup's products or services, for example.
- Starting an ICO is not unlike starting a crowdfunding venture. Entrepreneurs and startups that want to launch an initial coin offering typically create a company, announce their plan to launch a token sale, and then they publish a white paper about what they intend to create, how they intend to do it, and how much money they're going to need to make it happen.
- ICOs are also similar to an initial public offering in that the tokens are typically sold at a fixed price by the startup, and then they're traded on exchanges after issuance. Laws of supply and demand determine the price on the exchanges after the initial issuance.
- But remember that the US securities laws may apply. The SEC made clear that traditional securities law analysis applies to new technologies in its recent Report of Investigation on the DAO. Read our July client alert for more information. And the SEC just this week shut down an ICO fraud that it deemed to be a securities offering—you can read the press release here. If you're selling something that has the characteristics of a security, it is going to be subject to the SEC's jurisdiction.
- The SEC did not say that every initial coin offering is a securities offering. But if a securities ICO is not registered with the SEC and it does not meet the requirements of an exemption from registration, then that would be an illegal securities offering. The consequences of a violation could be major fines, penalties, cease and desist orders that could essentially put a company out of business, and/or potential liability for the individuals running the company or involved in the offering. Before you consider floating an ICO, seek out experienced counsel to understand the legality of token and virtual currency transactions to determine if this is the right approach for your venture.