SEC Warns Investors of “Potentially Fraudulent” IEOs

The Securities and Exchange Commission (SEC) is turning attention to one of the most recent and innovative forms of raising funds in the cryptocurrency space- Initial Exchange Offerings (IEOs). 

Yesterday, the Investor Education and Advocacy arm of the financial regulator sent out a statement in which it urged investors and citizens to be careful with IEOs, adding that some of these investment schemes can be used to influence investors with the prospect of outrageously high returns. 

SEC says the "opportunistic fraudsters" who brought us shady ICOs are branching out to IEOs ("initial exchange offerings") https://t.co/TT2xYbi5hf

— Jeff Roberts (@jeffjohnroberts) January 14, 2020

In its statement, the agency warned, “Claims of new technologies and financial products, such as those associated with digital asset offerings, and claims that IEOs are vetted by trading platforms, can be used improperly to entice investors with the false promise of high returns in a new investment space.”

“As described below, IEOs may be conducted in violation of the federal securities laws and lack many of the investor protections of registered and exempt securities offerings,” it added.

IEOs Have Become the New Fundraising Norm 

As the name suggests, an IEO is conducted on a cryptocurrency exchange. As the sale is conducted, issuers will need to pay a listing fee, as well as a percentage of the tokens sold during the offering. In return, the company’s tokens are listed when the IEO is over. The exchange takes a percentage of the tokens sold by a company, and can provide services – especially marketing- to the token issuer. 

y'all. it's almost 2020. i just saw a deck for a token raise where the founders will keep 40% of the cash and 40% of the tokens

the token helps people get access to IEOs.

what? pic.twitter.com/4wp5VZkDcH

— Meltem Demirors (@Melt_Dem) December 4, 2019

Unlike Initial Coin Offerings (ICOs), IEOs are administered by crypto exchanges on behalf of the issuing company that’s trying to use the tokens to raise funds. IEO participants also don’t need to send their contributions via smart contracts, as opposed to ICOs. Instead, they create accounts on the exchange and fund their wallets. The funds sent to the wallets are then used to purchase the issuing company’s tokens.   

2019 was the year when IEOs took the cryptocurrency space by storm. Binance and Bitfinex hosted several IEOs on their platforms, as companies saw this new fundraising system as being more convenient than the traditional ICO model. In January, BitTorrent- which was newly acquired by the TRON Foundation at the time- became one of the first companies to have an IEO on the Binance Launchpad, and raised a staggering $7.2 million in 15 minutes. 

Questions over the SEC’s Excessive Oversight 

Now, however, the SEC is turning a suspicious eye to the fundraising system. In its recent post, the agency explained that it is looking into requiring IEO issuers to register with it, depending on the nature of the offering itself. It added that issuing exchanges could also need to get multiple forms of approval and licensure, constantly driving home the fat that IEOs will need to comply with federal securities laws. 

Summarily, the agency warned potential investors about investing in IEOs, adding that there is currently no such thing as an SEC-approved IEO.  

Although its commitment to investor safety is laudable, the prospect of requiring registration for IEOs is yet another example of the SEC and its propensity to over-police the crypto space. The agency has already made ICOs less desirable for fundraisers, as it has hamstrung scores of projects looking to take advantage of digital tokens. 

Now that it’s turning its eye to IEOs, it begs the question of where the line is drawn.