ICOs and the SAFT — Why, What, and How
Last week Protocol Labs, a startup building a more decentralized internet, announced CoinList, “a platform for token backed networks to raise money through pre-launch token sales” and the Simple Agreement for Future Tokens (SAFT). Protocol Labs is also the creator of Filecoin which will be conducting the first token presale on CoinList using the SAFT.
So, why, what, and how? Read on.
Over the past two years companies have raised ~$440 million through Initial Coin Offerings (ICO), or selling new blockchain based “coins” they create. These “coins” are often referred to as app tokens because they tend to have a use beyond commodity money like bitcoin. For example, Golem which is creating a worldwide supercomputer, also created Golem Network Tokens (GNT) that will be used to pay for resources in its system. Last November, Golem used a GNT ICO to crowdfund $8.6M in 29 minutes. Beyond Golem, Smith + Crown (a cryptofinance research group) has a list of over 79 completed, ongoing, and upcoming ICOs and there are over 700 “coins” listed on http://coinmarketcap.com/.
If there is such a robust ICO market why do we need CoinList and the SAFT? Enter US securities law and the legal “Howey Test” for determining if something is a security. In the US, securities are heavily regulated and selling unregistered securities can result in significant fines and prison sentences.
If a company has completed development of a token and can distribute tokens at the time of the ICO, then the token is probably not a security and we don’t need CoinList or the SAFT. The company can crowdfund via an ICO just like Golem and accept money from anyone.
However, if a company is raising funds to develop the token with a promise to distribute tokens to investors in the future, then it is conducting a token presale and not an ICO. The problem is if a company is conducting a token presale, it will possibly be seen as selling securities under the US Howey Test and run into various SEC securities restrictions and potentially costly security registration and/or reporting requirements.
Therefore, in order to not be subject to US law, which can even apply to foreign companies if they are seen as a Foreign Private Issuer by the SEC, some companies have incorporated outside the US and excluded US investors from their token presale. DFINITY, a Swiss organization, took this approach in their token presale stating “Due to regulatory uncertainty, you must not be a US person by citizenship or residency.”
Alternatively a company can choose to be subject to, and comply with, US securities law in order to legally accept money from US investors in a token presale.
CoinList and the SAFT aim to streamline US securities regulatory compliance and make it easy for companies to legally accept money from US investors in token presales.
The SAFT isn’t available yet, but what we know is that it is modeled after the YC Simple Agreement for Future Equity (SAFE) which has become a standard angel and seed round investment agreement used by startups. The SAFE promises investors future equity, while the SAFT will seemingly promise investors future tokens.
Note: An alternative form of fundraising is possible that would allow anyone to invest in a token presale. AngelList, and seemingly CoinList, only support raising funds under SEC Regulation D Offerings via Rules 506(b) and 506(c) which are limited to Accredited Investors, or in the case of 506(b), additionally up to 35 “sophisticated” investors. However, an alternative is possible — “crowdfunding” up to $1.07M/12 months under Regulation Crowdfunding (RCF) as conducted by Wefunder which does allow unaccredited and unsophisticated investors (or perhaps under SEC Rule 504). Wefunder created a WeFunder SAFE to support their crowdfunding. Hopefully WeFunder launches support for crowdfunded token presales and creates a WeFunder SAFT.
In fact, a company could simultaneously fundraise under both RCF and 506, perhaps on CoinList and WeFunder concurrently, in order to allow unaccredited and unsophisticated supporters to partake in the token presale and receive the same price as Accredited Investors.
Outside of CoinList, once the SAFT is available, a company can download it and use it on their own outside of CoinList just as many companies use the YC SAFE.
Wefunder will also hopefully create a version of the SAFT and support crowdfunded token presales on its platform in order to provide companies with an easy and legal way to allow US crowd participation in a token presale and more align its fundraising with the decentralized and distributed attributes that are a core part of blockchain technology and likely the token it is selling.
Thanks to Cristian for reading a draft and providing feedback!