Lawless land of cryptocurrency fundraising

From raising $30 million in 30 seconds to being endorsed by Paris Hilton or vanishing into thin air: anything is possible in the risky new world of cryptocurrency fundraising, but regulators are lurking. Bypassing oversight of any kind, Initial Coin Offerings (ICOs) have sprung from nowhere to become a hugely popular way for start-ups to raise funds online, offering self-created digital “tokens” or coins to any willing buyer. ICOs herald “the democratization of investment”, said Nil Besombes, a French blogger specialized in digital currencies.

But in the lawless Wild West of ICOs, the risks are legion and Besombes himself admits to losing “the equivalent of 1,800 euros” when he fell for a slick online sales pitch - only for the company to disappear without a trace. “It’s like gambling,” he told AFP. While the term ICO may suggest a link with conventional Initial Public Offerings (IPOs), there is no flotation on the stock market and the ICO investor typically holds no ownership stake in the company which would entitle them to a slice of profits distributed as dividends.

ICOs are thus essentially a form of crowdfunding where participants are betting that the value of their “tokens” will go up and that they will eventually be able to trade them for established cryptocurrencies like bitcoin and Ethereum, which can in turn be exchanged for traditional currencies. ICOs have exploded this year with investors pouring $3.6 billion into 228 projects, according to data from Coinschedule. In 2016, that figure stood at just $96 million for 46 ICOs.

By June of this year, the money raised through ICOs surpassed that of early stage venture capital investments, the traditional way for young companies to raise funds from wealthy investors. The ICO craze has drawn the attention of regulators around the world, who have warned of the risks of fraud, the volatility of virtual currencies and the lack of clarity on what a “token” represents. “A lot of ICOs see values plummet by 80 or 90 percent but they can rebound strongly once the project begins to deliver results,” said Tristan Colombet, head of the French auction platform Domraider, itself funded by an ICO.

The “tokens” offered by his company are currently worth just a third of what they were at the launch, to the dismay of investors. Colombet says things will pick up “in early 2018” when his system to track auctions online and in the auctioneering room in real time is fully implemented, using the same “blockchain” technology that underpins bitcoin and many of the tech start-ups in the ICO universe.

Celebs and ‘digital gold’

The gold rush fever surrounding ICOs is partly down to the soaring success of bitcoin, which first hit parity with the US dollar in 2011, two years after it was created. Since then, the world’s best-known virtual currency has enjoyed a meteoric rise, defying predictions of a crash. It has now surpassed $9,500. Many ICO investors are lured by the possibility of stumbling upon the next “digital gold”. Firms issuing ICOs have raised their visibility by enlisting celebrities like LA socialite Paris Hilton, hip-hop producer DJ Khaled and US boxer Floyd Mayweather to tout their digital tokens on social media.

The endorsements prompted the US Securities and Exchange Commission to warn this month that celebrities “often do not have sufficient expertise” to judge such investments, and that they must disclose if they are receiving compensation for promoting ICOs.

ICOs herald the democratization of investment

Scrambling to respond

The proliferation of ICOs has forced regulators around the world to take notice, their responses ranging from a crackdown to a wait-and-see approach. China and South Korea have banned ICOs outright, while European supervisory bodies have voiced strong concerns. The UK’s financial regulator cautioned against the “very high-risk, speculative investments”, while Germany’s powerful Bundesbank central bank warned that the ICO trend was “attracting fraudsters”.

The European Securities and Markets Authority (ESMA) said investors risked having no legal recourse in case of a dispute, as ICOs tend to fall “outside of the scope of EU laws and regulations”. Canadian and Russian regulators however have chosen another path by creating so-called “regulatory sandboxes”, a framework that allows ICO firms to experiment for a certain time without falling foul of securities laws.

“We welcome this type of innovation,” said Louis Morisset, president of the Canadian Securities Administrators, while stressing that ICO issuers should “understand what obligations may apply”. —AFP