Initial Coin Offerings Need a Rethink

Sherrod Brown, the Chairman of the U.S. Senate Banking Committee (D-Ohio), recently stated that he is looking into legislation to protect retail investors from fraud in cryptocurrency. Regulators and legislators need to be cautious. Although casual observers might be skeptical about the innovation of cryptocurrencies’, the most obvious innovation was the initial coin offerings (ICO).

ICOs allow entrepreneurs to raise capital, bypassing decades-old Sarbanes Oxley regulations. If Congress is serious about economic growth, they should encourage initial coin offerings and limit the U.S. Security and Exchange Commission’s regulatory overreach.

Don Phan, a former congressional staffer, manages Amazon Web Services’ cryptocurrency business.

Initial coin offerings are a disruptive technology innovation that challenges the existing fundraising system, which was established after Sarbanes-Oxley. As a cautionary tale, Sarbanes-Oxley is to be cited. Sarbanes-Oxley was passed in the wake of the Enron Arthur Anderson accounting scandal. It was intended to increase investor confidence and protect retail investors.

Instead, Sarbanes Oxley has made it harder for entrepreneurs to access capital markets. Because it is so difficult to access money from the public market, startups are staying longer in private.

Also see: What is an ICO? / Learn

With the Jumpstart Our Business Startups Act (2013), the U.S. Congress made a significant step in the right direction. This Act promoted equity crowdfunding. Equity crowdfunding is most commonly associated with platforms like AngelList and Kickstarter. Congress’s intent was to make it easier for more investors to participate in the growth and success of early-stage startups. It also made it easier for founders of startup companies to raise capital from a wider audience.

While Congress pushed for equity crowdfunding, Congress couldn’t have predicted how big the ICO market would grow. CB Insights data shows that $19 billion in initial coin offerings has been raised over the past three years, while equity crowdfunding has raised only $969 million. Clearly, ICOs are the winners.

Although AngelsList was innovative and helped us understand equity crowdfunding, Kickstarter and AngelsList were centralized platforms with a limited scale. Congress’s purpose was to make it easier for founders and small investors to raise capital, which is exactly what ICOs do.

Also see: Crypto Investment: Alternatives to Bitcoin or Ether / Learn

The Securities and Exchange Commission is most responsible for ICOs’ bad reputation and has greatly exceeded its authority as an executive regulator agency. The Congress has final authority over cryptocurrency regulation, and the SEC is not. The JOBS Act was intended to facilitate fundraising, but the SEC wants an overregulated system that reproduces the worst aspects of SarbanesOxley.

If the SEC wins, less retail investors will be allowed to invest in early-stage startups. Startup founders will also be limited in their ability to raise funds from a limited number of sources. You can see the chilling effects of potential SEC enforcement in the way cryptocurrency entrepreneurs have to try to avoid the term “ICO” for fear of being caught.

To disguise what could otherwise be a straightforward fundraising exercise, founders use confusing terms like “initialdecentralized offering” and “token generation events” to hide their activities. Congress should use the JOBS Act provisions to give ICO entrepreneurs legal protection from SEC enforcement.

SEC regulation of ICOs can be viewed as protectionist over initial public offerings (IPOs). An agency headed by a former Goldman Sachs partner protects IPO ecosystem, which includes investment bankers, auditors corporate lawyers, regulators and regulators who are most at risk from disruption.

One statistic that is frequently cited is the fact that the majority of ICO-backed ventures are shut down in less than four months. Legislators as well as regulators must clearly distinguish fraud from failure. Legislators should encourage business failure and promote economic growth.

Regulating is often a zero sum game. Rules aimed at protecting retail investors (the proverbial grandmother who lost her life savings in crypto fad) come at a significant cost to entrepreneurs who have to deal with more rules and are starved for capital to grow their businesses.

Also see: The Bizarre (Sort Of) Bipartisanship of Crypto Congress

While Gensler and Brown may be sincere about their desire to support growth and tech entrepreneurs, they run the risk of limiting funding sources for future innovation.

Potential retail investors know that cryptocurrency is a scam and should be avoided. Regulation will likely have minimal impact. Entrepreneurs will find it harder to raise the funds they need to expand their businesses if there is another layer of regulation.

It is possible that the future innovative startups will be created in other countries, away from Silicon Valley and far from American shores, if more regulations are passed.