Eth sale by ICOs, December 2018.
Some of the top eth projects are also some of the top eth sellers. SingularDTV being the biggest of them, with Aragon and Kyber not far behind. Status has been selling and selling, but all four still have huge sums of eth, although such sums are now not worth very much. All tracked ICOs still have about 2.9 million eth, which is now worth just $290 million, about as much as one top ICO was worth last year.
It’s worth noting that despite ICOs selling by hundreds of thousands a month, the total combined sum remained the same at circa ◊3.3 million. That however has changed recently, suggesting there aren’t many new ICOs making an entrance. That is probably because SEC has exercised jurisdiction, and after months of megaphone negotiations, it does look like they have now reached a position that can allow this space to work with them. That’s because we kind of got what we wanted as far as general principles are concerned. So to understand where we are, and how to move forward in a reasonable or equitable manner, we need to understand where we were.
The Slockit DAO was eth’s debut in 2016 through a pretty fascinating idea of a Decentralized Autonomous Organization (DAO) that promised an innovative method of addressing some corporate governance problems. In corporate governance, there are some well known and very difficult problems that basically deal with the matter of trust. Shareholders, who are the owners, have to delegate the daily running of the company to managers or executives. That gives the latter great power. As the former are dispersed, their ability to hold the executives to account is weak and limited.
What the concept of the DAO proposed was the idea of the shareholders, or in this case eth holders or it can be token holders, maintaining custody over the funds by sending them to a smart contract that then moves the funds on if/then based rules. So in effect removing trust to some extent. That proposal was new and unique, but how to actually make it work wasn’t an easy question. A common sense and impartial analysis of it led to basically a redesign of the current corporation with some key differences.
Looking at what was innovative and what wasn’t, we had a new way of pooling funds through a method which allowed those who pooled the funds to still have custody over them and to have a binding say over how they are spent in a generally non-playable manner. The only real innovation here was that instead of handing over the funds to directors to manage or mismanage them, you hand over the funds to an inanimate entity – to the smart contract – which is answerable only to the shareholders through code based rules on voting outcomes on whether to move or not x amount to x.
That small difference was and remains very radical because it effectively eliminated or minimized the opportunity for the management class to abscond or misbehave. They were effectively turned into contractual workers, fireable at will, so placing the shareholder in charge. It was however a limited improvement. You still needed the management class. The workers. The accountants, so on. The shareholders were basically made the CEO or the directors, but how now to really make them do that function was the question.
We never got to the answer. The obvious starting point was to have professionals bid for professional roles with the main professional here being some sort of HR personnel that looks and analyzes things, puts up reports, with shareholders bothered only occasionally when a decision needs to be made, somewhat the same as CEOs who are there mainly for direction or to choose a path when there are crossroads. You can see the problem. What if the HR person doesn’t deliver, or is rubbish at it, or whatever report is misleading, or the professional misbehaves? Well you fire them by shareholders not voting to renew their contract, thus not releasing new funds, same as CEOs or executives currently keep them in check.
Does that work? Reality intervened so we didn’t get to experimentally find out the answer. A bug in the Slockit smart contract was exploited. The idea of shareholders having custody now needed a qualifier of: if some smart kid doesn’t take custody due to some bug. If something goes wrong who is accountable – Jay Clayton, the current SEC chairman, recently said – and if the answer is no one, well it better not go wrong. Was there an audit of the Slockit smart contract? Should have there been a cap considering it was so new and thus bugs were to be expected? Did they mislead, firstly by calling it the DAO, so tainting the whole concept?
What’s gone has gone and as stated this was all very new. A toddler learning to walk is expected to fall and quite often. There were mistakes of course, but understandable and easily forgivable. SEC, however, turned around during summer last year to say the Slockit DAO was a security, but no liability for the Slockit DAO devs. Clayton has now revealed that he, and more widely SEC, had no clue about what was going on during summer 2017. They were sort of being introduced to this new world. So we don’t think that report has standing as far as the Howey test of what is a security is concerned.
That requires an investment of money in an enterprise. Where Slockit was concerned, there was no investment of money, but a transfer of money to a smart contract. A smart contract of course is not an enterprise, it can be merely a bank vault if designed well like multisig wallets. SEC could, or would have to, say that so far there is no security. It’s a mere pooling of funds, but that pooling of funds was aimed at effectively acting as a Venture Capital (VC) investor. Eth holders who had put money in the smart contracts were to be asked by entrepreneurs to give them some of the funds in order to build whatever. The shareholders would then vote yay or nay.
SEC could turn around and say that although this is raising money from the public through the facility of a smart contract, it is still raising money from the public. There still needs to be some way of holding that entrepreneur to account for delivering. How to do so was subject of much debate, with the obvious one being the giving of small sums subject to delivery, so unlocking funds gradually.
Had that all been tried, we would be in a different place, but as stated that experiment was cut short. Effectively the whole idea was thrown out overnight. There would no longer be a smart contract that gives shareholders pretty direct custody of funds (pending bugs), there would be no binding votes, no incremental release of capital, no DAO and really no innovation where corporate governance is concerned. There would instead be only a plain handing over of money on the promise of building something in a fingers crossed way because now they can abscond, not deliver, and so on.
And some did abscond. Roman Mandeleil, a then trusted and a somewhat prominent member of ethereum’s community, raised quite a lot of money to then only vanish from the scene in a pretense of being ill. Ill with partying on other people’s money. Now obviously no one wants that sort of thing, except for thieves, so ethereans turned against this sort of capital formation as it amounted to a considerable misallocation of limited funds in many cases. They effectively called in SEC, or maybe we did in amplifying their voice. When SEC came, however – and very quickly – we had a situation whereby two worlds were learning about each other.
We of course were quite familiar with this space, but not so much with securities laws. SEC was familiar with securities laws, but not so much with this space. So there probably were things said by both sides that now they might not repeat, but our main concern was whether a token is a caterpillar that can transform into a non-security and whether a start-up can have the ability to raise funds from the public.
We argued for both, and both have been promised. SEC’s Director of Corporate Finance William Hinman, the “good cop,” has now promised to flesh out SEC’s policy towards token ICOs, which is really more of a general policy of say a basement dweller with an innovative idea who wants to raise funds from the public, a slightly more established start-up who might want to raise $20 million, a more established company who might want to raise up to $100 million, and then we get to someone who should have all the lawyers and resources, so it’s kind of outside of our main concern. From an impartial and common sense perspective, which is kind of what all good laws are about, compliance shouldn’t cost someone who wants to raise say $10 million more than 1% of the funds or 2% at most at $200,000.
That’s still quite a lot, and in effect makes VC seed-funding almost mandatory, but while SEC does have a duty to protect investors, it does also have a duty to promote capital formation. The former shouldn’t come at the cost of the latter being impossible where the public is concerned. There needs to be checks, but very, very different ones for $10 million as compared to $1 billion because obviously there are far less investors to be protected in the former. SEC’s chairman has now promised a laddered approach. Congress has asked them to produce a number of studies and reports, so we don’t doubt they genuinely mean it because as times change, the law does need to adapt, or it loses public support and thus it is no longer the law.
Even a start-up that raises $20 million, however, does need to deliver at least yearly figures of revenue, profits, users numbers and so on. Otherwise one can’t judge, on probabilities, whether the investment is worth it as they’d be shooting in the dark. Now for a basement dwelling start-up raising say $5 million, it may be that they can be taken at their word under a signature of oath which places them at risk of criminal liability if they are lying. Some will risk it, of course, but we can’t eliminate risk completely, only minimize it.
Where raised funds are say $50 million, then you need audited accounts. Higher than that, then maybe a best efforts clause and so on. Many projects that have ICO-ed are currently providing effectively no information whatever, even though they should. Some of these projects have raised hundreds of millions, yet there is no accountability. No one has a clue whether they are managing or mismanaging the people’s money. Basically investors are at their mercy.
Obviously that’s the opposite of what was aimed. The idea was to put investors in charge, not make them weaker than they were. So all these ICOs that keep selling hundreds of thousands of eth need to provide accounts. They need to comply with reporting requirements, especially if they have raised more than $20 million. They need to implement some sort of binding input from token holders and so on. Maybe what was, was, and a line can be drawn under it, but the ICO space does need to mature as do SEC’s rules with many details remaining unanswered, which may change in this new year.
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