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Beyond ICOs: Can Cryptocurrencies Find New Legitimacy Via STOs And IEOs?

Published 10-06-2019, 11:00 am
Updated 02-09-2020, 11:35 am

With the U.S. Securities and Exchange Commission (SEC) now suing messaging service Kik Interactive on claims the company's 2017 KIN initial coin offering violated U.S. securities laws, the ICO boom phase may have just officially ended. Indeed, as the collective reputation of ICOs grows ever more tarnished by scandal-ridden offerings and increasing financial regulatory scrutiny, two new routes to tokenization could potentially reverse much of the damage, making it easier—and potentially safer—for investors to enter the cryptocurrency space.

The two new tracks, dubbed security token offerings (STOs) and initial exchange offerings (IEOs) are worth examining, in order to understand what each opportunity actually entails.

STOs Versus IEOs Versus ICOs

Though STOs are similar to ICOs in that both raise funds by exchanging money for crypto coins or tokens, distributions from STOs are considered securities. As such, explains Cryptocurrency news, the tokens "are fungible, negotiable financial instruments with attached monetary value," much like owning shares of property or a company.

Initial Exchange Offerings (IEOs) are inextricably linked to a specific exchange. According to CryptoPotato, such offerings are conducted and administered by a cryptocurrency exchange, "on behalf of the startup that seeks to raise funds with its newly issued tokens."

As the token sale is conducted on the exchange’s platform, token issuers have to pay a listing fee along with a percentage of the tokens sold during the IEO. In return, the tokens of the crypto startups are sold on the exchange’s platforms, and their coins are listed after the IEO is over. As the cryptocurrency exchange takes a percentage of the tokens sold by the startup, the exchange is incentivized to help with the token issuer’s marketing operations.

IEO participants do not send contributions to a smart contract, such as governs an ICO. Instead, they have to create an account on the exchange’s platform where the IEO is conducted. The contributors then fund their exchange wallets with coins and use those funds to buy the fundraising company’s tokens.

Daniel Tanner, CEO of Platon Finance notes that with the emergence of STOs and IEOs the ICO phase is indeed over.

A lot of ICO scams happened. This made the whole industry look bad [even] for potentially great projects that needed to raise capital.

The industry, however, hasn't let fundraising die, says Tanner. It's developed a path for projects that "investors can be sure are trustworthy and secure." The main difference between these two and ICOs, explains Tanner, is that STOs are a safer opportunity for all parties involved since they're backed by real assets and, also, they follow government regulations and law; so the future of STO projects is really promising.

Tanner offers a note of caution on IEOs, however. For those looking to enter this space, be careful and “follow the rules.” Find an exchange where the token will be listed. This alone, he points out, can take a lot of work, effort and money. An IEO is similar to an ICO, but since it’s based on exchanges, adds Tanner:

"To start the fundraising, you need to go through the exchange and their compliance rules. It brings trust and security to the investors because the exchange guarantees that the project is honest, and has the potential to be successful.”

Rise And Fall Of ICOs

To be clear, both STOs and IEOs are being called much better options for funding a project. Both have had a more promising beginning than ICOs ever had.

Maksim Izmaylov, CEO of Winding Tree says:

“[The] ICO model of raising money allowed companies to raise funds from people all over the world, the rise (and subsequent fall) of ICOs was a singular event. Security tokens are in no way different from electronic shares, with the same limitations (only accredited investors can buy them), and blockchain and decentralization doesn't have anything to do with STOs.”

One key factor is regulation and compliance, David Williams, chief technologist at BlockRules explains. Security tokens are regulated securities that are recorded on a distributed ledger.

“Security token offerings require the same level of regulatory compliance as a traditional offering like an IPO. However, unlike a traditional stock offering that is issued and traded within the purview of a single stock exchange, an STO does not need to be confined to a single market.”

Further highlighting the promise of STOs, Williams points to a recent Fintech Forum sponsored by the U.S.'s SEC. Considered one of the more conservative national regulatory bodies, he sees the SEC event as a promising step toward the acceptance of distributed ledger technology in the financial industry. Adds Williams:

“Unfortunately, STOs are sometimes compared to initial coin offerings. True, both are offerings recorded on a blockchain. But where STOs are regulatory compliant by definition, ICOs were created as an attempt to work around regulations. It is not surprising that, free of the investor protections built into security regulations, many ICOs ended up being fraudulent.”

This lack of investor protection is why some exchanges are now promoting IEOs. However, some note that this type of offering is little more than an ICO backed by a crypto exchange. A crypto exchange, however, is no substitute for proper regulatory oversight. As with all investment vehicles, due diligence should be a critical first step.

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