There’s a lot of hype around initial coin offerings (ICOs), with startups raising millions of dollars in cryptocurrency overnight. In fact, in August of this year, the amount of money raised from ICOs surpassed early-stage venture-capital funding for internet companies.
But the ICO fever might soon slow down with news that the SEC’s special division dedicated to ICOs, the Cyber Unit, filed its first charges last week. The criminal complaint targeted an ICO led by a company called PlexCorps that raised $15 million from thousands of different investors.
The company sold digital tokens called PlexCoin, claiming that investments in PlexCoin would yield a 1,354% profit in less than 29 days. The company’s principal executive Dominic Lacroix has repeatedly broken securities laws in the past.
“This first Cyber Unit case hits all of the characteristics of a full-fledged cyber scam and is exactly the kind of misconduct the unit will be pursuing,” Chief of the Cyber Unit Robert Cohen said in a press statement. “We acted quickly to protect retail investors from this initial coin offering’s false promises.”
On Monday, the SEC announced that it had frozen the company’s assets. But that’s not as easy as it sounds since most of the $15 million raised in the ICO came from other cryptocurrencies like Ether and Litecoin, which can be easily moved and are hard to trace. It’s unclear if the SEC can return funds to investors, and if so, how.
What is an ICO?
Think of an ICO as a hybrid of venture capital, crowdfunding, and an IPO. At its simplest, it’s just another way for companies to raise money.
Instead giving up equity in exchange for some VC funding, these firms issue their own digital currencies, or tokens, that anyone can buy. Investors receive the tokens, which are equivalent to shares in the firm, in exchange for the money they invest.
Tokens don’t necessarily represent equity as conventionally understood – but in a broad sense, they do. The more successful the company, the more valuable the token. And that leads to another comparison to stocks: Generally, the tokens can be traded on secondary exchanges.
The company establishes the initial price, but, via dynamic pricing, its value is ultimately determined by real-time market supply and demand.
The SEC responds to ICOs
The PlexCoin scam underscores how the ICO process can be exploited. While many ICOs sell tokens as a way to access new digital platforms and services, the SEC ruled in July that many of these tokens are securities and are subject to the agency’s regulations.
The SEC established the Cyber Unit in September in its latest effort to ramp up enforcement against suspicious ICOs. But it’s anyone’s guess how that regulation and enforcement will shape up in the coming months. What’s certain is that the ways governments regulate ICOs – and more broadly, cryptocurrencies – will play a large role in their future.