ICOs world over have received rejection due to their unregulated activities. Governments have not stopped at anything to render them illegal and ban any offerings to the market. However, this does not mean that all is lost for the supporters of the digital currencies. Last week Akon the musician announced that he would be building the ‘Real Wakanda City’, a crypto city which will be using his own digital currency called Akoin. He was given a 2000 acre piece of land by the President of Senegal to construct it. In Kenya, cryptocurrencies were banned in one year and allowed in the same one, this back and forth shows the lack understanding that is in the market as to how to safely transact in the currencies, Bitcoin being the most common one.
All said and done, the largest challenge such currencies will have is to gain the trust of the African, in a continent where Ponzi schemes have rendered people deeper into poverty and that internationally there are crypto exchanges that have collapsed. Despite all these there are still optimists who believe that the digital currency craze is not just a bubble but is here to stay, with that in mind let us consider the basics of the process of investing in the currencies.
An Initial Coin Offering (ICO) is the process of launching a cryptocurrency where supporters (early investors) are invited to contribute money to the development of the currency. Before an investor decides to participate in an ICO many things need to be considered but a few are paramount. This however, does not constitute legal advice rather it is legal information.
- Token legal design
Before investing in an ICO, it is prudent to know whether it is being launched as a security or a utility. Tokens can be used as currency, asset, company share, method of payment etc. As a security, an ICO is a tool for raising capital to get money to develop the currency so that once it is developed and acquires value it can be used to purchase commodities and at this point it has utility.
As security, the tokens will be representative of shares in a business hence you own an asset but cannot take possession. In the U.S. the SEC suggested that to categorise a token as a security it must pass the Howey Test which includes:
- an investment of money or assets
- the investment of money or assets in a common enterprise
- an expectation of profits from the investment
- profit come from the efforts of a promoter or third party i.e. the investor has no control over how the profit comes from the investment
As utility tokens, the ICO will be offering the token as a service/product that can be purchased. Utility tokens as the name suggests have a use. Akon’s proposed Akoin edges on being a utility token as he intends to use Akoin as the official currency of the city. The price of such tokens increases when the demand for a service or product goes up.
As a security token, there is limitation on who can launch an ICO and is associated with fewer legal risks than utility tokens. The bipolar nature of crypto currencies is important to understand.
- Simple Agreement for Future Transfer(SAFT)
A SAFT is an investment contract where an investor agrees to purchase tokens even before they are created with the future hope that once it is created and in use its value will increase. The investor is allowed to sell the tokens at a future date when the token price increases and this is how they make their money. This is a legal safeguard for early investors as proof that they gave out money to the issuer for some future benefit.
A whitepaper provides information to potential investors on the philosophy behind the coin. A typical ICO whitepaper contains the following categories: introduction, problem to be solved, use of the token, how to purchase the ICO, how the funds will be used and the team behind the creation. As an investor this should be sufficient preliminary information to prepare your mind on whether to invest or not. Sample statements of most whitepapers: on use of funds; “80 percent of funds will go to the development of the platform and 20 percent of funds will be distributed to the market”. However, a whitepaper should not be the reason you invest in an ICO, whether a company has users, a product or traction are vital questions to ask. In the paper, it is mandatory that it states that in the event the intended amount is not raised all the raised money is returned to the owners.
This means how does the token operate i.e. its usage and the underlying business model and it is close to the legal design. It involves the rights accruing with the token, the value exchange, the toll, how the earning will be made and the currency.
- Know Your Customer Policy
That cryptocurrencies are likely target for use for money laundering and other illegal activities is not news, what is news however is the fact that jurisdictions are coming up with their own lists of accredited investors thus not anyone can be an investor. KYC policies are necessary to verify investors. Your policies should however stick to the jurisdictions privacy laws. With the GDPR in force it is important to put safeguards on how the investors’ information will be processed and stored.
With investor confidence ICOs are set to increase and be successful. Governments should embrace the currencies rather than seeing them as a threat to the centralized financial system. As one William Mougayar said, “The stone age did not end for lack of stones”. Central players such as Central Banks will not go away rather appreciation of block chain enabled innovations could see an integration with the current financial system.