For the blockchain and cryptocurrency industries, 2018 was a year of diverse and conflicting seasons, numbers, and narratives. Given the diversity of themes within each of those categories, fully characterizing the year can take many forms. Accordingly, the conclusions and implications an industry observer draws will vary depending upon which aspects of the broader story she accords analytical primacy. For instance, 2018 saw both record fundraising amounts, yet also an unprecedented collapse in token sales as the year progressed, while, on the legal front, it brought both increased regulatory pressures, yet considerable progress towards a regulatory compliant infrastructure for security tokens’ sale and issuance. These examples illustrate the presence of numerous conflicting themes, while quantitative measures themselves contain multiple conflicting messages.
Despite the presence of these multiple narratives, thoughtfully assembling the collective themes of 2018 can nevertheless lead to the emergence of a broader overarching narrative that captures much of the essence of the year’s developments. In effect, the year will likely come to be remembered as a period characterized by important transformations that will emerge as critical in the industry’s development. Specifically, these transitions lead from an atmosphere of uncritical over-enthusiasm relative to poorly articulated promises of blockchain’s and cryptocurrency’s potential impacts and towards a more sober assessment of future possibilities. Yet even these more restrained, less wildly ambitious characterizations of the industry and its potential nevertheless present it as a serious and promising one. Whether the potential of the structures in place as 2018 turns into 2019 is ultimately realized, and whether the industry moves into a new, more sustained uptrend built upon these structures will only become clear as 2019 progresses. However, the scale and range of activities centered around core elements of blockchain, cryptocurrency, and particularly security token infrastructure, as well as the diversity of participants, many of whom are also well-funded and highly experienced, represent solid evidence of the widely shared optimistic views that 2018’s promise will become 2019’s new reality.
2018 In Numbers: New Records (High and Low)
Illustrating the year’s complex nature, 2018 by the numbers saw record highs in both the volume of token sales and funds raised, but ultimately substantial declines from earlier levels as the year progressed. By year end, the token sale market had virtually come to a halt. The slowdown in token-based fundraising mirrored—and even exceeded—the overall bear market for cryptoassets throughout 2018, and was arguably the dominant industry narrative in popular media, at least in the latter half of the year. This weakness is not altogether surprising, given that the token sale space was forced to confront both the decline in cryptocurrency prices and emerging questions about the structures and regulatory realities of the so-called ‘utility tokens’ that were most frequently the subject of token sales throughout 2017 and most of 2018. Despite these emerging challenges, the surprising resilience of project fundraising efforts throughout the year strongly suggests that views of a complete collapse in the sector are considerably overdone. Traditional venture funding played an increased role in funding projects across the space, with such continued backing for strong projects illustrating the sector’s resilience.
Looking strictly at token sales, the strength with which the year began is evident in Figure 1 showing combined 2017-2018 sales. So great was this strength that a simple analysis of 2018 justifies its description as the year with ‘the largest ever amount of funds raised via token sales.’ While correct, this simplistic view obfuscates. As the colored bars representing funds raised by sales of larger than $500 million illustrate, a small number of large sales heavily skew the overall numbers underlying the above characterization. While the overall amount raised through token sales across 2017 and 2018 was $21.5 billion, if sales raising more than $500 million are excluded from that tally, that figure declines considerably, to $16.5 billion. This reinforces how a focus on a small number of fundraising events can skew headline numbers reported by the media. As Smith+Crown has repeatedly noted, such a tendency towards simplification can unfortunately lead observers to overlook the large number of strong projects completing more modest fundraising events in support of fundamentally strong projects. While the absence of these largest fundraising events in the second half of 2018 is unsurprisingly the largest factor in the slowdown of the overall token fundraising market during this period, focusing exclusively on large raises can lead one to underestimate the extent of the activities and fundraising still occurring.
Looking at the numbers themselves also demonstrates the outsized influence of the industry’s largest sales. For instance, both the total number of fundraising events and amounts raised increased in 2018, despite the front-loaded nature of sales in the year’s earlier months. Projects raised $13.7 billion in 578 fundraising events in 2018, compared to 2017, where over 550 events raised $7.3 billion. The size of the average sale grew from $13.2 million in 2017 to $23.5 million in 2018, with 2017’s median of $3.4 million becoming 2018’s median of $9.4 million.
Accompanying the decline in funds raised that is visible in the above chart, the monthly number of sales also declined precipitously throughout 2018, as seen in Figure 2.
When considered on a year-over-year basis, the decline in both sales and funds raised via token sales becomes increasingly striking. The observation that the token sale market virtually came to a halt is inescapable when viewed through the perspective of Figures 3 and 4 below.
While the extent of the cycles that marked 2018 are striking—from record highs to record lows, culminating in a token sale market virtually at standstill by year-end— these quantitative metrics strongly suggestive of major dislocations within the larger market structure are, to a certain extent, arguably less striking than some of the narrative shifts, considered below, that equally marked 2018’s seasons.
2018 in Narratives: Evolving Perceptions of a Market Finding its Footing
Despite intuitive impressions characterizing 2018 as a year sharply breaking with the preceding one, closer consideration reveals how the period surprisingly contains as many continuities as discontinuities. Several fundamental questions give rise to different perspectives from which to make sense of the year: which industries received what funding, what ‘types’ of tokens proved popular, and from where did the funding arrive? Smith+Crown’s collected data supports the following answers to these respective questions:
- There were no significant shifts in industry funding concentrations, suggesting the market remains in a long-term, infrastructurally-orientated state.
- SAFT sales have not found widespread use, despite initial optimism that such sales would represent a path for token sales to avoid compliance pitfalls and security regulations.
- Blunt criticism of ‘utility tokens’, particularly from the SEC, and the risk of retroactive enforcement provided token holders reasons to cut losses, and likely contributed to the decline in sales.
- What appears a novel shift towards VC funding sources, when placed in a broader historical context, more accurately represents a return to equity based funding.
- Despite limited actual security tokens offerings, significant progress was made in developing the various infrastructure requisite for their issuance, use, and trade.
A closer look at each of these issues offers further nuance and insight, as well as outlines the support for the above conclusions.
Viewed so as to draw lessons from industries’ comparative performance, 2018 saw little change from 2017, with differences being of degrees rather than fundamental shifts. Both sales’ volumes and amounts raised remain concentrated across a few key industries, with the information and finance industries remaining most prominent and media and professional services trailing behind. Whereas the information industry—which includes the blockchain protocol and smart contract platform sectors in Smith + Crown’s industry classification— received the most activity and funding during 2017, this was even more pronounced in 2018.
This continued concentration suggests the market remains in a long-term, infrastructurally-orientated state, focused on the foundational layers for the next generation of products and services. Such a trend is clearly visible across core areas such as blockchains, smart contract platforms, and various elements of an emerging financial infrastructure. Also noteworthy was that, as it did in 2017, finance also remained a leading category in 2018, unsurprising given the continued belief in the potential for blockchain-based products to have substantial impacts.The significantly greater extent to which the Finance outpaced other categories, and was itself substantially outpaced by the Information industry was notable as an indication of how the funding that continued to enter the sector during 2018 concentrated on the industry’s core sectors to an increasing degree.
Criticism of the ‘Utility Token’ Model
Prevailing practices in the token sale market faced increasing criticism in 2018. Many critics’ concerns related to ‘utility tokens’ legal and regulatory premises, particularly issuers’ argument that such tokens are not subject to the requirements and restrictions of securities laws. From the perspective of industry insiders and potential token purchasers, the lack of definable rights associated with such tokens represented a particular concern—utility token holder’s rights are disanalogous to project equity and dividend rights, as in traditional equity markets, and lack clearly stipulated legal protections. Other critics, frequently politicians and regulators, were concerned with the lack of disclosures, certified filings, or other verifiable information related to projects looking to raise millions through token sales.
Regulators from a broad range of countries comment on cryptocurrencies and raise concerns about token sales. However, comments from the United States, specifically from officials with the Securities and Exchange Commission (SEC), are notable for repeatedly moving markets with various eagerly-awaited and often over-interpreted statements that, in 2018, trended towards the negative, at best. The use of nuanced language that investors have come to expect when, for example, the Federal Reserve delivers comments about monetary policy, were nowhere to be found — regulators were not afraid to make it clear how little they thought of unregulated tokens being sold directly to the public and retail investors. While SEC Chairman Jay Clayton’s widely reported February 2018 statement that “I believe every ICO I’ve seen is a security,” is perhaps the most well-known of a range of negative comments that marked the year, in reality, it was merely one of many, from a range of public officials globally, that cast doubt upon the very funding path driving the industry forward.
Although such critical statements helped foster a negative atmosphere, the threat of enforcement activity was more problematic still. Token sale issuers risked enforcement, even retroactive enforcement, for having conducted unregistered security sales. In 2017, the SEC filed one high-profile cease-and-desist letter against Munchee to halt their ICO; in 2018, they announced numerous settlements related to past ICOs, including Paragon, Airfox, and Centra (pumped by Floyd Mayweather). This situation also contributed to the reduced the pace of new sales and factored into token holders’ decisions to sell held tokens purchased in earlier sales—the possibility of enforcement and more negative news risked further undermining held token’s value in secondary markets.
The combination of both investor and regulatory concerns relative to the viability of the utility token model, and these in combination with the virtually incessant price declines of the major cryptocurrencies during 2018, represented central elements of the decline in token sales through the year. While many of the tokens sold during 2017 and 2018 were undoubtedly ones that would have been unlikely to have found funding if they had been brought to market in more discerning times or when greater disclosures were required, the not-altogether-unsurprising impact of the shifting climate was that even well-designed tokens associated with serious projects with strong prospects of impacting real problems found themselves unable to swim against the overwhelmingly negative tide that was swirling around the entire market for much of the year.
The Shift to SAFTs was Overestimated
While evidence points to a continuity in industry funding concentrations between 2017 and 2018, the situation is somewhat less clear for the types of instruments that were sold via token sales. The so-called “utility token” model, employed by most projects raising funds through token sales, became the subject of several of 2018’s narratives, including those surrounding the newly emerging Simple Agreement for Future Tokens (SAFT). Despite initial optimism that the SAFT would present a path for avoiding compliance pitfalls and security regulations for token sales, the vehicle appears not to have found widespread use, at least in the United States.
Originally developed in 2017 by the law firm Cooley, the SAFT model was widely regarded by industry insiders as a route for projects to raise funds while avoiding potential regulatory concerns. Numerous SAFT-like instruments have been developed and deployed by other entities, a trend which began in 2017 but gathered steam in 2018, as seen in the chart below— the chart shows activity across the broader token fundraising market, with sales conducted under SAFT agreements identified in red. Most SAFT agreements are restricted to accredited investors and many are also increasingly registering with national regulatory bodies under official fundraising regimes, most commonly Regulation D in the United States.
SAFTs have not found widespread use among projects that actually raise funds—they have not appeared to take over as the predominant fundraising vehicle for token projects, as numerous insiders had expected. Figure 6 illustrates both the limited number of sales successfully conducted as SAFTs and how their pace of issuance has declined as 2018 progressed. A reversal of this trend may take place, if and when regulatory clarity around token-project fundraising increases. With attention in the space also shifting towards the emerging security token model, however, this outcome remains uncertain.
Note: Our primary data source used to track SAFT and Reg D offerings is the SEC EDGAR database. We conduct a full text search of the database using queries such as 'SAFT', 'Simple Agreement for Future Tokens', 'ICO', 'initial coin offering', 'cryptocurrency', 'blockchain', etc. The use of a SAFT is typically noted in the 'Other' field in section 9 of a Form D. As this is an emerging securities classification, it may be noted with altered phrasing such as the 'Purchase Agreements for Cryptocurrency' of Telegram's offering, which we consider to be in similar spirit to the SAFT and categorize as such. We add these filings to our database as they are completed and report specific raise amounts, on a weekly basis. This data set only includes projects soliciting from US investors, not the international-only market, and only projects that report having raised funds. This last point is crucial: the universe of sales we track are successful ones, not attempted ones. There are quite a few more SAFT instruments reported for attempted sales, but we don't systematically record them. The SAFT does not appear to be an internationally-used instrument, and databases analogous to EDGAR are not fully searchable.
Figure 7 below further reinforces this conclusion: while funds raised by traditional token sales continue to decline, sales structured as SAFTs or expressly structured as security tokens have yet to begin to fill the gap. While the most modest uptrend is identifiable through summer 2018, this alone will hardly suffice to reverse market trends.
The Reemergence of Equity-based Fundraising
With the decline in general token project fundraising and SAFT raises, venture capital funding played an increasingly important role in 2018, particularly during the latter half of the year. While VC investments took various forms— including tokens, debt, and convertible notes—the traditional VC approach, involving the sale of project equity, was most prominent. Although the rising prominence of VC funding was typically portrayed as a shift away from token-based fundraising towards venture funding, Figure 8 supports a somewhat different perspective.
Over the longer term, venture raises have proven, in fact, to traditionally be the dominant form of fundraising in the industry. This is evidenced by comparing project fundraisings on a longer-term basis, where token raises—with SAFT sales broken out as a unique sub-sector—appear alongside of venture raises. Only during the mid-2017 to mid-2018 period did token-based raises overtake equity-focused venture raises. Given that cumulative token based fundraising accounted for more than twice the amount raised by venture funding, $18 billion versus $7 billion, it is understandable how attention has focused upon token-based fundraising. Nevertheless, from an extended perspective, there have clearly been more venture raises in the space, and over a longer period, than token-based fundraising events. While several interpretations may be drawn from these observations, placing recent changes in the fundraising space within such broader context suggests the shift towards equity sales with venture capital firms that marked the latter half of 2018 might be more a return to traditional practices than the novel shift often described.
Infrastructure Development for the Emerging Security Token Space
Concerns about the prevailing utility token model link two of the year’s most widely discussed trends, the decline in token sales and the increasingly prominent role for project equity sales. A less widely noted yet equally significant development in 2018 was the widespread increase in the technical and regulatory infrastructure requisite for a new breed of regulatory-compliant tokens.
Enthusiastic discussions of the heavily anticipated security token future consumed much of 2018, as most sector observers will already be familiar with. Regulatorily-compliant tokens, registered as securities, were envisioned being sold and distributed in complaint manners in their countries of origin. While the reality was actually mildly disappointing for security token believers, for few successful token sales were actually completed during 2018, the development of a wide range of infrastructure for security tokens nevertheless represents a major theme for the year. These developments occurred across virtually every aspect of the security token ecosystem, from the development of protocols guiding the functioning of security tokens, to platforms for their issuance, trading, compliance, and institutional-grade custody solutions. These developments often occurred across jurisdictions as well, with a variety of solutions emerging in different countries and promising to meet local practices and regulations.
While the final tally for security token issuance in 2018 was limited to a handful of offerings, the robust developments occurring may likely prove more important from a longer-term perspective.
Whether the security token theme actually becomes a trend during 2019 remains to be seen and will likely depend upon a number of micro and macro factors influenced by issues such as regulatory developments and global economic trends, as we explore in our Security Token Overview Series. What is clear now is that developing the infrastructure enabling such an eventuality is likely to be seen, in hindsight, as one of the meaningful trends of 2018.
Conclusion: Security Tokens to Transform the Cryptocurrency Ecosystem Beyond 2019?
Overall, while the digestion of gains made throughout 2017 has been amongst the most widely recognized theme of 2018, virtually every aspect of the cryptoasset space saw ongoing development, considerable amounts of which were supported by equity sales and venture capital funding. This suggests that a range of actors—from start-ups, to name brands, long-established companies, investment firms, and even governments—remain committed to erecting the infrastructure for a larger, farther-reaching, and more impactful cryptoasset ecosystem.
How the funding space continues to adapt going forward, and what the implications may prove to be, warrants close observation given their profound implications for various aspects of the space. Of particular note, the range of activity relative to what might best be broadly described as the security token universe illustrates how the industry presently sits poised on a knife edge. The very substantial amount of funds and energy being devoted to developing the issuance, custody, trading, and compliance aspect of the security token universe clearly indicate that many feel a sustained uptick in activity is poised to begin.
This is contrasted, however, with the relative paucity of actual security token offerings that have come to market, and the limited ability of those to truly capture the market’s imagination. Whether the heavily anticipated security token wave of 2019 begins to emerge will in part likely be a function of whether the offerings that do come to market represent sufficiently captivating investment opportunities that are able to inspire new and creative offerings. Should security tokens prove they can assume a meaningful place within the broader world of mainstream securities, it may indeed be possible to argue that a renewed wave of interest in the space is likely to emerge.
Note on all charts: Token project fundraising includes all token projects that raised over $25,000 and did not return funds raised to participants. Amounts raised are valued according to average daily exchange rates on the date the fundraising closed. EOS’s ongoing raise is valued according to the total raised during each auction period and grouped into monthly amounts. Rounds for the same project that are separated by more than 30 days are treated as separate fundraising events. Some data may be missing or subject to future revision.