Our London Correspondent Nick Ayton aka the Sage of Shoreditch looks closely at the rapidly expanding ICO market and the recent developments that are taking centre stage and about to reshape the sector as the institutional money gets ready to step in...

It’s a BOOMing business for some…

There are 100 ICOs planned for September 2017 and another 100 planned until the end of 2017. The list is growing each day and with it a plethora of new ICO platforms, service providers and PR & Marketing companies cashing in…

I have to say, I dislike the acronym ‘ICO’ and the phrase Initial Coin Offering. It’s like they’re trying to sound all official like an ‘IPO’ but there are really few similarities. I firmly stand in the ‘token sale’ camp and prefer to talk about token launches, which is a better description of the reality of a new generation of fund raising. As I have said before, crypto fundraising is a new Capital Markets 2.0 coming to terms with itself. It is a rapidly maturing teenager using ‘spot cream’ to hide the growing pains. And it will grow and mature as ACT II, lasting no more than 12 months before mutating to ACT III…

A new generation of ICO platforms are emerging…

Boohoo the SEC, or have they done everyone a favour?

The SEC have outlined their position regarding the DAO as they themselves get ‘slut dropped’ by the CFTC who came out in favour of crypto. Although the net effect of the SEC position seems to have panicked regulators and put them on the back foot, I think they give too much credence to the SECs global reach.  It was a clever ploy by the SEC to put the frighteners on even the most crypto friendly regions of the world including Singapore, Luxembourg, and Gibraltar. The EU as usual appears to be a puppet of the US and is incapable of doing anything other than wanting to control crypto and everything to do with Blockchain, as their very existence is centralisation of all authority across all member states.  It is clear the EU will never sanction crypto currencies, but the UK is not the EU.

Their rationale is also weak. The SEC suggests the purpose of ‘registration’ under the securities law is to make sure investors are sold investments that include all the proper disclosures and subject to regulatory inspection so that investors are protected. A bit of a joke really as banks, insurance companies and other capital markets players bosh out products that work against consumers and where their terms and conditions are vague at least, a bit like the definition of a Security.

Whilst I don’t necessarily agree with this protectionist posturing, where the SEC considers more or less everything to be a Security, given the Howey position; the SEC uses an ancient (1940s) definition of the word ‘Security,’ but I have to concede there is an inevitability about the shadow of regulation approaching.

Many will argue it is a good thing, and others will continue the fight and most will ignore it. Although we have time there could be retroactive consequences and I urge those contemplating an ICO to consider a different approach and put defenses in place against the mechanisms for potential retribution from regulators when they finally catch up.

How ICOs work today is rapidly out of touch as ACT II of the ICO maturity model arrives…

There are many ICO providers that have helped break new ground and create what we have today. Led by TokenMarket and my good friend Ransu and other pioneers, ICOPromo with Alex, and Andrii at Ambisafe have been more recently joined by Waves and other entrants. Some, like TokenHub, follow a more conventional VC-like funding model, but all have shaped what we have today and are swamped by sheer numbers of projects coming their way.

The emerging support community for launching ICOs, like the ICOs themselves, is a mixed bag of quality and performance. I would like to see the quality of ICOs projects improve, and the companies that deliver the services keep the standards high, and not be tempted to simply take the money. Some ICO platforms are not conforming to much at all, don’t reveal the team behind them, have not had their smart contracts audited and appear to support almost any project that comes along.

What is often overlooked is most of these platforms already fall afoul of the approaching jurisdictional anxiety. Most Tokens play the role of an unauthorised financial instrument, not only falling into the Howey net, but also the Collective Investment Scheme rules. These rules apply across Europe and in other parts of the world. It is a minefield that is about to get worse and many may soon experience the delight of prison food.

And then we have open source smart contracts that provide the apparent business logic backbone of ICO functionality. These have been broken down into pre-ICO, main-ICO, and token-distribution phases, with the final stages requiring lots of manual intervention, creating a huge customer care problem for the projects’ entrepreneurs. And then there are the ICO hackers that see the unprotected ICO websites and poor integration into ICO back ends that leave the door wide open. These playful hackers can easily steal your ETH and direct investments to fake suites and addresses not controled by you or your ICO provider. Naively publishing too much detail on Slack feeds the problem.

Yes ETHer is the other primary issue of ACT I as ICOs are generally ETH-only. This is very limiting for capital raising and the Ethereum network has shown it cannot always keep up with demand. At times the network simply stops, where transaction times struggle with peak demand, and transactions are reported missing in action!.. If your ICO gets squeezed between two big ones then it will hurt you.

The next generation of Token Launch platforms are arriving…

If I told you all ICOs are regulated and have to adhere to current legislation, directives and laws what would you do differently…?  There is no doubt those platforms that deliver ICO services are a mixed bunch. Some even want to do their own ICOs to fund their ambitions, such as KickICO. I find this strange given you don’t need much capital to handle token launches so what do you need to the money for?

But then I bumped into Dmitry, a pioneer of a second generation Token Launch approach that takes a different perspective and is engineered with regulation and compliance in mind.

I caught up with Dmitry Koval, CTO of Chainstarter.org, who explained:

“We designed Chainstarter along a different set of principles, focusing on extending the smart contracts logic to incorporate a new security layer and a full AML/KYC services that is already proving a big hit with new ICOs that involve institutional investors. The big issues with the current approach is ICO platforms collect crypto to a single address which is inefficient, makes the project vulnerable and creates extra work when it comes to token distribution. And they are not truly transparent, although they claim to be, and doesn’t allow investors can see what is going on and check the promises made by the founders.”

Chainstarter creates a single account for each investor, holding the receiving address and the sending address used for token distribution and an investor registry that can contain full disclosure information that KYC/AML requires.  

Dmitry says:

“Our KYC/AML service layer has already proven very popular with new Token launches that want to attract institutional money. Just look at Filecoin where Andreessen Horowitz and Sequoia Capital both participated. It was an SEC-compliant raise that suggests the market is about to move in a new direction where Institutional money will support projects and compete with the individual crypto investor community that wishes to remain anonymous.”

Chainstarter is one of a few new generation of Token Sale platform that ticks many new boxes including able to take multiple crypto currencies not just ETH, automates all aspects of token distribution and supports a full KYC and AML capability if required. I think Filecoin proves the point here using the SAFT option. This is the Simple Agreement for Future Tokens rule under SEC Reg D 506c, meaning Filecoin’s ICO was only open to accredited investors. But hey $252m raised...

A changing landscape…

The inevitable move towards regulation will change the dynamic of a Token Sale and where the market will be divided with so-called sophisticated or accredited investors on one side and the people deemed unsophisticated on the other. I still argue that all investors get caught by traditional financial products more than they will on any ICO. Small investors burned once will not forget.

We remember we have all been burned by banks and insurers but have no a choice, as we are forced by rules and regulations to play in conventional markets, and regulation fails time and again. There is no doubt the conventional capital markets players want a piece of the Bitcoin action. My concern is the regulators will create conditions that allow them to try to manipulate it and this is why the Bitcoin purists hold their ground.

The ICO market is maturing and needs to police itself, squeezing out the scammers and saying no to projects that are clearly focusing on the money and not the investor. While “caveat emptor” applies ICO platforms, advisers and the entrepreneurs themselves have a responsibility to investors and need to impose and maintain standards.

How long before we see a $1billion ICO? Not long. The inevitable advantages of an ICO remain: fewer middlemen, lower fees and charges where the process is much faster and generally more efficient. Even the large hedge funds know a good thing when they see it.

What is not to like…?