OK, What in the World is an ICO, Anyway?

September 26, 2017  /  Justin Connell  /  0 Comments    2017 is shaping up to be the  Year of the ICO. China recently banned initial coin offerings, and  instructed companies who had conducted such fundraising efforts return  the money they received. Although $2.32 billion has been raised through  ICOs – $2.16 billion of that has been raised in 2017, according to Cryptocompare – many people are still wondering: what in the world is an ICO, anyway? The ICO headlines have been impressive. EOS raises $185 million in five days. Golem raises $8.6 million in minutes. Qtum raises $15.6 million. Waves raises $2 million in 24 hours. The DAO,  Ethereum’s planned decentralized investment fund, raises $120 million  (the largest crowdfunding campaign in history at the time) before a $56  million hack crippled the project.  Short for ‘initial coin offering’, an  ICO is an unregulated means of raising funds and is commonly employed by  blockchain-based ventures. Early backers receive tokens in exchange for  crypto-currencies, such as Bitcoin, Ether and others. The sales are  made possible by Ethereum and its ERC20 token standard, a protocol  designed to make it easy for developers to create their own  crypto-tokens. While the tokens sold can have diverse uses, many have  none. Token sales allow developers to raise funds to finance the project  and the applications they are building. Bitcoin.com writer Jamie Redman penned an acerbic 2017 post  introducing the fictitious “Do Nothing Technologies” (DNT) ICO.  “[F]illled with blockchain word salad and loosely related math,” the  satirical white paper makes clear that “The DNT sale is not an  investment or a token that possesses any value.” It adds: “The purpose of the ‘Do  Nothing for You’ blockchain is simple to understand. You give us  bitcoins and ether, and we promise we will fill our pockets with wealth  and not help you in the least.”  MyEtherWallet, a wallet for ERC20 tokens oft-associated with ICOs, recently tweetstormed  an indictment of ICOs: “You do not provide support for your investors.  You do not protect your investors. You do not help educate your  investors.” Not everyone is so generally critical of the craze.  “ICOs are a totally free market way of raising money for financial startups,” says Alexander Norta,  a veteran smart contract expert. “It is actually an  anarcho-capitalistic way of financing, and it will lead to many cool  innovations that will significantly reduce the role of fraudulent banks  and oversized governments. ICOs will revive free-market capitalism again  and reduce this government run crony-capitalism we have now.”  According to Reuben Bramanathan,  Product Counsel at Coinbase, individual tokens serve different  functions and rights. Some tokens are essential in the functioning of a  network. Other projects might be possible without a token. Another type  of token serves no purpose, as is the case in Redman’s satirical post.  “A token can have any number of  characteristics,” says the technology-focused lawyer, a native of  Australia who now lives in the Bay Area. “You might have some tokens  that promise rights that look like equities, dividends or interests in a  company. Other tokens might present something quite new and different,  such as distributed apps or new protocols for exchanging resources.” Golem network tokens, for instance,  enable participants to pay for computer processing power. “Such a token  doesn’t look like a traditional security,” according to Mr. Bramanathan.  “It looks like a new protocol or distributed app. These projects want  to distribute tokens to users of the app and they want to seed the  network that is going to be used in the applications. Golem wants both  buyers and sellers of computer processing power to build the network.”  While ICO is the most common term in  the space, Mr. Bramanathan believes it to be insufficient. “While the  term emerged because there are some comparisons [between the two ways  of] raising funds, it gives the wrong impression from what these sales  really are,” he says. “While an IPO is a well-understood process of  taking a company public, a token sale is the early stage sale of digital  assets representative of potential value. It’s really very different in  terms of investment thesis and value proposition than an IPO. The word  token sale, pre-sale or crowdsale makes more sense.” Indeed, companies have moved away from the term “ICO” as of late  because the term could mislead buyers and attract unnecessary regulatory  attention. Bancor held instead a “Token Allocation Event.” EOS called  its sale a “Token Distribution Event.” Others have used the terms ‘token  sale’, ‘fundraiser’, ‘contribution’ and so on. Both the US and Singapore have signaled they would regulate the market, but no  regulator has taken a formal position on ICOs or token sales.  China  did put a stop to token sales, but experts on the ground their foresee a  resumption. The U.S. Securities and Exchange Commission and Financial Conduct Authority in the UK have commented, but none have established a firm position about how the law applies to tokens.  “This is a space of continued  uncertainty for developers and entrepreneurs,” says Mr. Bramanathan.  “Securities law will have to adapt. In the meantime, if best practices  emerge, we will see developers, exchanges and buyers learn lessons from  past token sales. We also expect to see some token sales move to the KYC  model or at least a model intended to limit the amount people can buy  and increase distribution.”