The U.S. Securities and Exchange Commission (SEC) recently held a hearing about cryptocurrency. The SEC, formed after the 1929 stock market crash to protect investors, is scrambling to regulate the usage of digital currency. The recurring topic being the legitimacy of ICOs, initial coin offerings. The panel concentrated on whether ICOs are operating crowdfunding legally.
“To date, we have brought some enforcement actions concerning ICOs for alleged violations of the federal securities laws.” — Jay Clayton, Chairman, U.S. Securities and Exchange Commission
In December, the SEC shut down a food review ICO created by Munchee, Inc. What caught the SEC’s attention? The ICO filed as a utility token but marketed as a security investment. The review app initially raised $15 million in utility token sales. After a cease and desist was issued by the SEC, Munchee, Inc. refunded every penny back to investors.
“After being contacted by the SEC last December, a company halted its ICO to raise capital for a blockchain-based food review service and then settled proceedings in which we determined that the ICO was an unregistered offering and sale of securities in violation of the federal securities laws. Before token delivery to investors, the company refunded investor proceeds after the SEC intervened.”
— Jay Clayton Chairman, U.S. Securities and Exchange Commission
Virtual Currencies: The Oversight Role of the U.S. Securities and Exchange Commission and the U.S…
THE COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS will meet in OPEN SESSION to conduct a hearing entitled, Virtual…www.banking.senate.gov
The drop in IPO registration
Now, the SEC is attacking ICOs, which seem to have replaced traditional public funding. IPO registration has declined 65%. 363 companies registered in 2014. In 2016, the number dropped to 128.
“The size of the ICO market has grown exponentially in the last year, and it is estimated that almost $4 billion was raised through ICOs in 2017. Note that this number may understate the size of the ICO market (and the potential for loss) as many ICOs “trade up” after they are issued.”
— Jay Clayton, Chairman, U.S. Securities and Exchange Commission
Jay Clayton Christopher Giancarlo Testify Hearing Virtual Currencies, Feb 6 2018
Securities and Exchange Commission (SEC) Chair Jay Clayton and Commodity Futures Trading Commission (CFTC) Chair…www.c-span.org
ICOs struggling with credibility
In January 2018, Ernst & Young published research on the risk of investing in ICOs. Reportedly, more than 10% of $3.7 billion raised in ICOs has been stolen.
Phishing is the most effective approach to hacking ICO proceeds. Phishing involves emailing, calling, and text messaging potential investors posing as legitimate organizations. Is there something ICO leaders can do to help investors? How can we tell which ICOs are straight up frauds?
Facebook has banned all cryptocurrency marketing from their platformon grounds of “financial products and services frequently associated with misleading or deceptive promotional practices.”
“I do want to recognize that recently social media platforms have restricted the ability of users to promote ICOs and cryptocurrencies on their platforms. I appreciate the responsible step.”
The challenge the government has with ICOs is the lack of transparency. IPOs must submit a criterion of information, by completing a prospectus to register. The prospectus provides a summary of the company’s financial information. This requirement, available to investors, gives a full analysis of a company’s profile.
“A number of concerns have been raised regarding the cryptocurrency and ICO markets, including that, as they are currently operating, there is substantially less investor protection than in our traditional securities markets, with correspondingly greater opportunities for fraud and manipulation. The ability of bad actors to commit age-old frauds with new technologies coupled with the significant amount of capital — particularly from retail investors — that has poured into cryptocurrencies and ICOs in recent months and the offshore footprint of many of these activities have only heightened these concerns.”
— Jay Clayton, Chairman, U.S. Securities and Exchange Commission
ICOs have less regulatory oversight. The whitepaper is used by companies to offer information to interested investors. Unlike a prospectus, the white paper does not have an industry standard. A well-rounded ICO whitepaper identifies a problem, offers a solution, describes the token implementation, and introduces members of the team. But is this enough?
According to crypto investors who have filed complaints with the SEC, the answer is clear. There is a demand for more transparency. The U.S. government is reviewing gaps in crypto coin offering regulation.
SEC reviewing gaps
OnFebruary16, 2018, disciplinary action ensued. Cherubim Interests Inc. (CHIT), PDX Partners Inc. (PDXP), and Victura Construction Group Inc. received suspension orders from the SEC for evading STO responsibility by starting ICOs. These suspended companies have something in common. They were initially IPOs seeking a switch to an initial coin offering (ICO) yet did not submit 10-K and 10-Q forms. Both forms provide an overview of the company’s financial condition.
CHIT, PDXP, and VICT acquired AAA-rated assets from a subsidiary of a private equity investor in cryptocurrency and blockchain technology among other things. According to the SEC order regarding CHIT, it also announced the execution of a financing commitment to launch an initial coin offering.
The switch to STOs
STOs, security token offerings, are financial securities because they mimic traditional shares. These types of tokens give investors some rights to the company. Security Tokens may be the answer to the government’s woes. Why? In order to start an STO, a business must complete the traditional registration process of an IPO.
STOs are projected to have a market cap of $10 trillion in 2020. Polymath,led by Trevor Koverko, is banking on being the catalyst for STO market growth. The term STO is hard to Google. That’s millennial-speak for research. However, 2018 is poised to be the year of the STO. Shook by SEC regulations, U.S. businesses are looking for a cleaner way to generate capital from crowdfunding.
Polymath is coining its brand as the Ethereum of security tokens. The firm aims to create a smart platform for STOs in the same way Ethereum simplified ICOs. Streamlining the process of starting a security token offering is a trillion dollar solution.
The STO is a genius way to get the blockchain community to follow government security regulations. Who knows? STOs may start a beautiful relationship between the SEC and the cryptocurrency community.