Now that 2018 is well underway, traditional debt and equity capital providers would be wise to re-examine many of their familiar forms of contracts to identify new risks – and realize new rewards – that token sales (also called initial coin offerings or ICOs) may create.
New Potential Rewards, New Potential Risks
As has been reported widely, more and more early stage companies, and, increasingly, more established businesses, are taking advantage of a new form of capital raising; namely, developing and selling digital tokens.
Token sales enable entities to raise money without having to sell equity (which often requires founders to cede aspects of control and economic rights) or incur debt (which typically would restrict the company’s activities and require repayment).
The very nature of digital tokens provides token sellers with tremendous flexibility in terms of structuring the bundle of rights that holders of a particular token may or may not have. For instance, token sellers may create tokens that have attributes typically associated with debt or equity, some that look more like software licenses, as well as many other token types.
Given their frequently international nature, many token sales are likely to implicate a broad (and sometimes nearly global) scope of regulatory frameworks, including, among others, securities, tax, financial services and money transmitter, sanctions, investment company and investment advisor and broker-dealer laws and regulations.
Token sales also generally are subject to anti-fraud, good faith and fair dealing requirements. While many of these legal and regulatory considerations exist in the context of traditional debt or equity issuances, token sales typically do not correspond one-to-one with those familiar capital raising structures and may raise unique questions for which the answers are unclear.
While token sales may provide certain companies with an innovative avenue by which to distribute their products and services, as well as raise capital, they also may raise token sellers’ risk profiles in ways that some debt and equity investors may not have anticipated or priced-in.
In 2018, many existing and would-be token sellers, as well as their investors and other capital providers, would be wise to take a close look at the terms of their equity and debt agreements in light of the token sale market. Hopefully, before any disputes or potential liabilities have arisen.