a16z: Why crypto startups should avoid public token sales in the U.S.
Andreessen Horowitz’s crypto division, a16z Crypto, is urging crypto startups to think twice before engaging in token sales within the U.S. market. They point out a mismatch between blockchain developers’ vision of decentralization and the regulatory framework enforced by the U.S. Securities and Exchange Commission (SEC), which views most tokens as securities needing registration under U.S. law.
Tensions with the SEC
The friction between crypto builders and the SEC arises from a fundamental clash of perspectives. On one hand, the SEC aims to protect investors by ensuring transparency and preventing information asymmetry among publicly traded companies.
On the other, blockchain advocates promote a decentralized model that distributes power among all participants — developers, investors, and users alike — relying on transparent ledgers and reducing dependence on any centralized authority.
This decentralized approach, which lacks a direct counterpart in traditional corporate structures, often leaves regulators skeptical and without a clear party to hold accountable. The absence of centralized control and the challenges in measuring true decentralization also make it susceptible to manipulation, posing regulatory challenges.
Strategic Guidelines for Token Launches
a16z Crypto emphasizes that understanding the U.S. securities requires a careful approach, particularly avoiding public token sales in the U.S. for fundraising, which directly contradicts SEC regulations. They suggest alternative fundraising methods, such as private sales and offerings outside the U.S., which do not trigger the same regulatory scrutiny.
The firm outlines five key rules for token launches:
- Avoid Public Sales in the U.S.: Things have changed a lot since the ICO boom of 2017, with the SEC applying the Howey Test to determine whether transactions qualify as security offerings. This has made ICOs a rare sight, replaced by other forms of token utility that do not necessarily involve an investment of money or reliance on the efforts of others.
- Embrace Decentralization: From the outset, projects should strive for decentralization to sidestep the regulatory hurdles. Achieving sufficient decentralization can mitigate many of the risks identified by the SEC, making their application essentially unnecessary.
- Careful Communication is Crucial: How a project communicates about its tokens can significantly affect its regulatory treatment. Promises of profits and central team-driven developments can attract SEC scrutiny under the Howey Test. a16z advises maintaining a strict communication policy that minimizes the perception of tokens as investment opportunities.
- Manage Secondary Market Risks: Engaging with secondary markets and ensuring liquidity without attracting regulatory penalties is a delicate balance. The SEC has penalized projects for premature listings and market-making efforts that imply a formal token offering.
- Enforce Token Lockups: Imposing at least a one-year lockup for tokens issued to insiders and affiliates is crucial. This helps prevent legal challenges and supports long-term project stability by reducing market pressure and demonstrating commitment to the project’s future.
To further safeguard against regulatory risks, a16z Crypto advises embracing strategies such as “Protocol Owned Liquidity” and “Liquidity Bootstrapping Pools” which involve indirect token sales through decentralized mechanisms like DAOs and liquidity pools.
These innovative approaches help circumvent direct fundraising pitfalls by delegating governance and financial control to a decentralized community rather than a central authority. Moreover, the inconsistency in SEC’s enforcement actions, as highlighted by cases against entities like Telegram, Ripple, and Terraform Labs, showcasing the unpredictable nature of U.S. securities law application to crypto projects.
a16z Crypto stresses the importance of adapting to these regulatory idiosyncrasies by avoiding schemes that might seem innovative but still clash with U.S. securities laws. The aim is to focus on genuine decentralization and compliance, rather than exploiting loopholes that offer short-term gains but long-term legal headaches.
