Initial coin offerings took the world by storm last year. A total of $5 billion was raised, a twentyfold increase over 2016. Governments are only now waking up for the need to regulate ICOs and their related tokens. The U.S. Securities and Exchange Commission recently launched a probe. Are ICO tokens currencies? Are they commodities? Are they securities or perhaps something else? How regulators answer these questions — there is no one global answer — will determine the future of ICOs.
Initial coin offerings are a quick way for startups to raise funds from many people on easy terms. Investment comes from evangelists of the firm's products or services. The entire funding needs of a startup can be raised up front in one fell swoop, bypassing the need to raise capital in dribs and drabs from traditional sources. Founders love ICOs because they don't give up shares or control in their companies. People love them for the chance to invest in startups they otherwise would not be able to access.
In an ICO, firms sell their own newly minted virtual tokens to investors in exchange for bitcoin or alternative tokens. Issuers publish a white paper beforehand, describing the firm's business plan, what they intend to do with raised amounts, why the token is integral to their business and the risks to investors who buy them. However, the information is often limited. Contractual obligations are not as clearly defined as with a stock or bond. Importantly, there is no clear path for legal redress when an ICO investment sours. Unsophisticated investors buying ICO tokens, often across national boundaries through the internet, assume financial risks they little understand.