You have a great crypto or blockchain idea and want to raise millions of dollars. Great, the market is hot for Initial Coin Offerings (ICO), so the timing is right, and you’re on your way to making the world a slightly better place. However, before you do, make sure you cross your T’s and dot your I’s to ensure you launch a fully compliant ICO. Because if you don’t, you may end up breaking the law, landing yourself in jail or filing for bankruptcy, and not to mention being associated with the “pump and dump” ICO scams making headlines.
The first recommendation is get yourself a lawyer. Since you’ll be raising a significant amount of money, you’ll need to structure it properly for your jurisdiction and any jurisdiction that can participate in the offering. Winging it, relying on some blog post (even this one) is not an option. An ICO is a complex, lengthy process and according to Matthew Unger, CEO of iComply, “can cost up to US$4 million to launch.”
Of course it may depend on the nature of your ICO; your business model, how you market it, what your tokens represent, what features it offers, how it can be resold, and your regulatory environment (among many other factors). The considerations and cost ramp up dramatically if your ICO is considered a security offering.
No matter what jurisdiction you launch your ICO from, you need to be aware of US security laws. The US market represents one of the largest capital pools and has many citizens that want to partake in ICOs. The problem is, if a US citizen or company can somehow participate, the SEC can take an interest in the activity. While, perhaps they can’t enforce an action if the activity is in another country, US law officials have a long reach.
Consider the point of view of SEC Chairman Jay Clayton, “by and large, the structures of initial coin offerings that I have seen promoted involve the offer and sale of securities and directly implicate the securities registration requirements and other investor protection provisions of our federal securities laws.” That is to say, if you’re trying to avoid being labelled a security by referring to your ICO as offering a utility token, you may want to rethink this due to the SEC’s description of security.
There are four elements the SEC uses to determine if an offering is a security. A security is an investment contract in which a person:
1) invests their money
2) in a common enterprise
3) with an expectation of profits
4) based on the efforts of the promoter or a third party.
All four elements are necessary to be considered a security.
A utility token, as described by the SAFT project, “offers intrinsic utility that powers a decentralized, distributed network that delivers to the users of the network a consumptive good or service.” According to Marco Santori, one of the most prominent lawyers specializing in blockchain, “I think almost all pre-functional tokens result in a security per U.S. law.” In Santori’s opinion, a functional token is not a security, as clause #4 is not met.
To determine if your ICO meets the security criteria, check out A Securities Law Framework for Blockchain Tokens, which gives more guidance and even has a scorecard for you to quickly measure if you are over the threshold.
Steps to an Compliant ICO
In the early days of ICOs (months ago), you might have gotten away with just creating a whitepaper and launching your ICO. However, the legal scrutiny has grown significantly, with the SEC giving notice that they are watching and even laying the first criminal charges. Therefore, it’s advisable to take all the measures necessary to be fully compliant, both for legal reasons and to ensure that you maximize the success of your venture.
Note, these steps don’t have to be executed in exact order, as long as you do them; for example, many aspects of business development and product development can be done concurrently.
Publish a Whitepaper
What is your idea? What problem will it solve? How will it work? Who’s behind it and what support do you have? The more you lay out in your whitepaper, the clearer your thinking, the better people will be able to understand your vision and how you plan to achieve it.
As we are talking about a crypto/blockchain project, technical considerations such as systems architecture and user interaction are a given. However, it’s not just a technical document. As it’s intended to raise funds for the operation, the team section is crucial. A great idea with a poor team, doesn’t elicit a lot of faith from investors.
On a positive note, if you do have a great idea and an interesting whitepaper, you can leverage that to create interest and build your team.
Create a Roadmap
How will your project progress? What is your timeline and what milestones do you have on the way? A roadmap provides specificity to your vision, creating a measurable plan of action. Alpha versions, beta versions, wallet development, launch, additions of new features, whatever important developments you want to achieve should be described in a step-by-step manner.
The roadmap not only lays out the development schedule, it shows the planned use of funds. No investor wants to give a blank check, with open-ended objectives. Having a specific, detailed plan with reasonable targets shows planning, preparedness and the fact that you are approaching this like a real business.
As with any venture, the further you can develop it before raising outside funds, the better. You’ll increase the valuation and improve the odds of successfully financing your project.
Develop code on a public blockchain, allowing other developers to check your code, add to your project and otherwise contribute to your idea. No matter how much you raise, success comes down to having a community of supporters — developers, investors, users, customers — so the sooner you start building interest, the more early-adopters you can potentially get.
Determine a Token Structure
Tokenomics (token economics), how you structure your offering, is a crucial step for ICO success. How many tokens are you going to have (total supply)? How many are you going to release (circulating supply) and what rate are they going to be released, or mined? How many are you going to keep for your dev team and how are they going to be locked up?
Creating a token structure that is fair, balanced and reasonable ensures the motivation of all parties aligns properly. The token structure goes hand in hand with pricing, including how much money you plan to raise and the distribution processes you use to raise the funds.
Every business needs their paperwork in order. For businesses launching an ICO, that requirement is much more extensive. Proper business registration, audited financial statements and all other legal and accounting documentation needs vetting by professionals.
It’s recommended to be in communication with the appropriate regulators early in the process, so that any potential issues can be caught early. Having your regulator sign off in your project prior to launching is (or soon will be) mandatory. As Chairman Clayton states, “has the offering been structured to comply with the securities laws and, if not, what implications will that have for the stability of the enterprise?”
You’re almost there! You’ve got your technical, legal and business ducks in a row. All good right? Unfortunately, notifying and promoting your ICO incorrectly also has deep legal consequences. Promoting it as an investment, or anything that gives the implication it is, is problematic. Even using the term ICO, which people might compare to an IPO, is problematic.
Any public statement, press release or other communication can land you in hot water, if the language is promotional in nature, as opposed to factual. By going through all the proper steps to ensure your ICO is fully compliant, you’ll be gaining an important advantage over other ICOs; pointing out the steps you have taken to satisfy regulators will further legitimize your offering in the eyes of investors.
Now, you’re ready to launch! However, you can’t just take anyone’s money. You need to ensure that you follow Anti-Money Laundering (AML) and Know Your Customer (KYC) laws. These laws require that you properly identify investors and run them through watchlists, so that their money is not tainted and associated with criminality or corruption
If you’ve gotten to this stage, congratulations! Trulioo can help you with this stage, as we’ve helped numerous crypto and blockchain companies perform these due diligence steps. We understand the hard work you’ve done to get here and would love to help you deliver an amazing ICO launch.