Blockchain-Based Token Sales, Initial Coin Offerings, and the Democratization of Public Capital Markets

Abstract

Best known for their role in the creation of cryptocurrencies like bitcoin, blockchains are revolutionizing the way technology entrepreneurs finance their business enterprises. In 2017 alone, tech entrepreneurs raised over $6 billion through the sale of blockchain-based digital tokens, with some sales lasting mere seconds before selling out. In a token sale, also referred to as an “initial coin offering” or “ICO,” organizers of a project sell digital tokens to members of the public to finance the development of new technological platforms and services. After the initial sale, cryptocurrency exchanges scattered across the globe list tokens for trading and facilitate an active secondary market in which wild price fluctuations are common.\nThe recent explosion of token sales could mark the beginning of a broader shift in public capital markets. Blockchains drastically reduce the cost of exchanging value and enable anyone to transmit digitized assets around the globe in a highly trusted manner, stoking dreams of truly global capital markets that leverage the power of a blockchain and the Internet to facilitate capital formation. Lacking homogeneity, the status of tokens under U.S. securities laws is unclear. Although the SEC recently issued a Report of Investigation and has initiated several enforcement actions in which it has found that tokens are securities, confusion still surrounds the boundaries between the types of tokens that will be treated as securities and those that will not.\nIn this Article, we argue that the SEC and Congress should provide token sellers and the exchanges that facilitate token sales with additional regulatory certainty and a sensible path to compliance. Specifically, we outline extrinsic and intrinsic factors that courts and regulators should consider when applying the Howey test to digital tokens, adoption of which would help resolve the uncertainty surrounding tokens that mix aspects of consumption and use with the potential for profit. We further propose that lawmakers adopt both a compliance-driven safe harbor for online exchanges that list tokens with a reasonable belief that the public sale of such tokens is not a violation of section 5 of the Securities Act of 1933 as well as an exemption to the section 5 registration requirement that has been tailored to digital tokens.

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