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 the business 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 several years, this similarity has prompted the U.S. Securities and Exchange Commission (SEC) to argue that token issues through ICOs may be securities and not currencies.
- Reverse ICOs are token sales issued by companies that are already going concerns, in contrast to traditional ICOs that raise funds for a startup for the first time.
- 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.
Understanding Reverse ICOs
The process for a reverse ICO works exactly the same way as for a standard ICO. Often, a company launches an ICO when it is looking to secure funding. The company generates crowdsourced funding by selling tokens to investors in a way that is similar to an IPO. The major difference between an ICO and a reverse ICO is that, in the latter case, the company issuing the token is already well-established in another business area and offers a crypto token for sale to raise cash and to enter into the decentralized realm of the digital currency world.
Companies can launch reverse ICOs for a variety of reasons. Pre-existing companies can sell tokens to interested investors as a way to decentralize business, to launch a new business line in the blockchain industry, or simply to raise funds. Because some IPOs are available only to accredited investors, they have a smaller pool of potential funders as compared with a reverse ICO.
Potential Issues With Reverse ICOs
While there are numerous potential benefits to be had for a business launching a reverse ICO, there are also potential issues, some of them significant.
The use of reverse ICO tokens as money is somewhat dubious, as businesses conducting reverse ICOs were able to grow and thrive using conventional fiat currency. 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 SEC sued Kik over the process, alleging that the company sold tokens to U.S. investors without properly registering the offer and sale.
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 Kin. In 2020, a federal district court entered a final judgment on the SEC's lawsuit against Kik. Among other penalties, Kik was required to pay a $5 million penalty.
The SEC filed a suit against Kik Interactive over the latter's reverse ICO of the Kin token. The suit alleged that Kik sold tokens without properly registering the sale of securities. This suit may have deterred other companies from launching reverse ICOs.
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 Iced Tea Corp. that changed its name to Long Island Blockchain and saw a huge spike in the value of its shares that were listed on the Nasdaq, despite the fact that the company had no apparent business in blockchain. It has since been de-listed and some of its top shareholders have been charged with insider trading.
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 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 Meta's (formerly Facebook) reverse ICO proposal for its Libra token ran into resistance from states and central banks when it was announced in 2019; and as of 2022, it appears that the Libra project appears to have been postponed indefinitely.
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 largely worn off.
What is a reverse ICO?
A reverse ICO refers to the launch and sale of a cryptocurrency token by a pre-existing company. Reverse ICOs can be used to generate funds for the company, to facilitate decentralizing through the use of a new crypto token, or to expand into the blockchain and cryptocurrency industries.
How does a reverse ICO differ from a regular ICO?
A reverse ICO and an ICO are essentially quite similar. Both involve the launch and sale of a new cryptocurrency token. The company launching the token is what distinguishes these two events: a company launching an ICO is typically just starting out, while one putting on a reverse ICO is usually well-established and looking for additional funds or a new business line.
What are some issues with reverse ICOs?
Reverse ICOs can be fraught with potential legal troubles. The SEC has said that reverse ICOs may constitute the sale of securities and that proper registration is required. During the height of the cryptocurrency craze, some companies used reverse ICOs or investor interest in blockchain more broadly to generate quick funding without necessarily providing an apparent business service relating to the crypto industry. For these reasons, among others, reverse ICOs have become significantly less popular in recent years.