What Is a Reverse ICO?

A reverse initial coin offering (ICO) is a method used by existing, established real-world businesses to issue a token to decentralize its ecosystem, raise funds, and get into cryptocurrency. These enterprises have existing products and services, and they cater to real-world customers.

Essentially, a reverse ICO acts like an initial public offering (IPO) allowing an existing enterprise to launch cryptocurrency tokens and seek funds through crowdsourcing. In the last two years, this similarity has prompted the U.S. Securities and Exchange Commission to argue that token issues through reverse ICOs are securities and not currencies.

Key Takeaways

  • Reverse ICOs are almost exactly like regular ICOs; the only difference is that reverse ICOs are token sales by companies that are already going concerns.
  • During the height of the crypto bubble in 2017, reverse ICOs seemed like a way to raise capital without government oversight.
  • The U.S. SEC restricts the definition of what can be an unregulated ICO and what is an IPO by another name.
  • The most famous ongoing reverse ICO is Facebook's Libra that is reported to be ready to launch in the fourth quarter of 2020.

Understanding Reverse ICOs

The process for a reverse ICO works exactly the same way as for a standard ICO. The only difference is the company issuing the token is already well established and offers a crypto token for sale to raise cash.

The use of these tokens as money is somewhat dubious, as businesses conducting reverse ICOs were able to grow and thrive using conventional fiat currency, and the possibility that every business would ask you to convert your fiat money into their proprietary token—as if you were required to load up your Starbucks gift card before you were permitted to buy a cup of coffee—is not practical to put it generously.

Another problem with reverse ICOs is how to understand their tokens. Are they a medium of exchange, or are they securities? This was the problem the Kik messaging app had when it launched a reverse ICO in 2017 that raised $100 million.

The U.S. Securities and Exchange Commission brought a suit against Kik claiming that it misled investors because their reverse ICO was actually just another form of security like a stock. But unlike a stock, there is no return on investment in Kik's coin the Kin, which as of late 2020 trades 95% below its reverse ICO price.

Reverse ICOs: A Fad During the Crypto Bubble

During the height of the crypto bubble in 2017 and 2018, companies that said they were adding blockchain to their businesses increased in value. A notorious example from early 2018 is the Long Island Ice Tea Company that changed its name to Long Island Blockchain and saw a 500% spike in the value of its shares that were listed on the Nasdaq. (It has since been de-listed.)

Because existing businesses face regulatory hurdles if they want to raise capital by selling stock and banks often have stringent requirements that businesses prove their good credit and viability, the reverse ICO seemed like an easy, unregulated way to raise money with few strings and no oversight. The temptation to do so was even stronger when parody coins like PonziCoin that openly warned investors that the ICO was a scam still made an estimated $250,000.

The SEC went so far as to create a fake ICO page selling a made-up shitcoin called Howeycoin—a play on the Howey test the SEC uses to determine what constitutes a security—to teach unwary investors to read the fine print before they invest. The agency's continuing (as of late 2020) suit against Kik may be one reason why the reverse ICO market has dried up since the bursting of the crypto bubble.

The Future of Reverse ICOs

The possibility of a reverse ICO isn't totally dead, however; though Facebook's reverse ICO for Libra ran into resistance from states and central banks when it was announced in 2019, the Libra Association’s vice chair Dante Disparte said in an interview that he expects the Association will launch Libra in Q4 2020.

Other organizations may also find value in creating a blockchain-based token system that doesn't appear to be an illegal or legally gray attempt to dodge securities regulation, but the appeal of reverse ICOs as they existed in 2017 has worn off.