If you are a blockchain-crypto entrepreneur trying to raise funds for your project, you are likely evaluating multiple options. Increasing regulatory scrutiny of ‘Initial Coin Offerings’ (ICOs) may have made you think about taking the ‘Simple Agreement for Future Tokens’ (SAFT) route. Here I explain what is SAFT so that you can make an informed decision.
SAFT concept is a result of ICO regulatory issues:
To understand what is SAFT, you first need to understand the background. ICOs have become really popular in 2017, and have raised US $ 5.6 billion for blockchain start-ups in that year. However, they are unregulated, and regulators world over are waking up to it.
In the US, the Securities and Exchanges Commission (SEC), i.e. the regulatory body overseeing the securities market, have sent over 80 subpoenas to blockchain start-ups. The SEC believes that a majority of blockchain ICOs sold security tokens while claiming to sell utility tokens. Most start-ups don’t even have a product at that time, therefore the tokens have no utility when they sell them.
The regulatory body views this as a serious breach of securities law, which prohibits selling securities without registration and mandatory paperwork. The SEC is even questioning start-ups selling genuine utility tokens, due to their aggressive marketing promising future profits from tokens.
If investors buy tokens with the primary objective of future profits, then it’s a security token. The start-ups issuing them must meet stringent regulatory requirements, however, they didn’t. This puts many ICOs in regulatory trouble. Read more about it in “Security token vs utility token: A comparison“.
SAFT intends to solve this issue by selling securities investment contracts up front.
What is SAFT: An overview from SAFT whitepaper
On October 2nd, 2017, Marco Santori from the Cooley law firm and a team from the Protocol Lab released the SAFT whitepaper. You can read it in “The SAFT Project: Toward a Compliant Token Sale Framework“.
SAFT will work as follows:
- Start-ups create agreements stating that they are raising money now for tokens they will provide in the future.
- Accredited investors buy these agreements and pay now while expecting to receive tokens in the future.
- The agreements are securities investment contracts, therefore start-ups register them with the SEC.
- Start-ups develop their product and launch their network.
- At that time the start-ups sell their tokens, while the investors that bought SAFTs automatically receive their tokens.
- When start-ups launch their network the tokens will be actually used for accessing the network, therefore they will be utility tokens.
- SAFTs are registered security instruments and tokens sold later are utility ones, therefore start-ups meet regulatory requirements.
Advantages of a SAFT agreement:
Many in crypto communities believe that a SAFT agreement offers significant advantages, as follows:
- The two-step process, i.e. a registered securities contract followed by utility tokens meet regulatory requirements. Note: I will provide a counter-point to this later in this article.
- Only accredited investors will buy SAFT, therefore retail investors aren’t exposed to risks of losing their money if the start-up fails.
- Since retail investors can buy tokens later when the platform is ready, they also will eventually contribute to the project development.
Disadvantages of a SAFT agreement:
Consider the following disadvantages of a SAFT agreement before you opt to take this route:
- In the US, the SEC hasn’t confirmed that the two-step process in a SAFT agreement meets regulatory requirements. Hence, the first advantage of SAFT that some crypto community members claim doesn’t have a legal backing yet!
- When accredited investors buy SAFT agreements, they don’t receive any token. However, when the start-ups release their platform and open up their tokens to the general public to buy, SAFT investors receive their tokens automatically. SAFT investors need not do anything at that time to receive their tokens, which makes it look like private sales that precede ICOs. SEC will consider such private sales of securities investment contracts as clear violations of securities regulations!
- When start-ups sell SAFT agreements, they register these as securities contracts, however, they don’t register their tokens as securities. Securities regulations will treat SAFT agreements as ‘convertible securities’ and tokens as ‘underlying securities’. Only the start-ups can create tokens later, hence only they control when the underlying securities will be available. The SAFT investors are buying convertible securities, but also accepting risks that underlying securities aren’t in the market at that time. SEC mandates registration of underlying securities along with convertible securities in such cases.
Anthony Zeoli is a legal expert very familiar with the crypto market, securities and how SEC interprets regulations. He has written about these disadvantages after researching SAFTs and meeting with SEC officials. Read his analysis in “Initial Coin Offerings: Why the SAFT is DEAD …“.
Information available at the time of writing this indicates that StartEngine, a blockchain start-up, has decided against using SAFT after studying the disadvantages.
Other disadvantages of a SAFT contract:
You need to note a few more disadvantages of a SAFT contract, as follows:
- Securities regulations vary across countries, whereas the design of a SAFT contract caters to US regulations only. You don’t know how other countries will treat SAFT contracts.
- SAFT contracts prevent the general public from investing in the project during the early development stage.
Blockchain entrepreneurs must think about how to raise fund for startup companies sustainably:
Now that you know what is SAFT, you should consider carefully how to raise fund for your blockchain start-up. Here are my suggestions:
- Consider venture capital (VC) raise: A VC raise isn’t easy, because the VCs thoroughly scrutinize your business plan. However, they also have high expertise and they hold your hands during the formative years. You also get very positive media coverage and access to their vast networks. Read more about it in “ICO vs VC: The Experience Matters“.
- Consider launching an ICO that fully complies with the regulatory requirements. It’s certainly possible. Several start-ups are doing it, and while the short-term costs are high, the long-term benefits more than compensate for it! Read about it in “How to Launch ICO Successfully: A Guide to Blockchain-Crypto ICO Launch“,