ICOs for Mid-Size Tech Firms - Pathfinder · White Paper: ICOs For Mid-Size Tech Firms Pathfinder Equity Systems 1 What Are ICOs An ICO is the release of a new digital currency, and

Using Reverse ICOs Instead of IPOs to Exit with Excellent Valuations

Copyright © 2017, Pathfinder Equity Systems Inc.

ICOs for Mid-Size Tech Firms

Abstract Venture investors and entrepreneurs face a challenge: it’s getting harder to exit via IPOs because of market conditions and red tape. This means less money to reinvest and less growth for the economy. ICOs (Initial Coin Offerings) are growing in popularity as a way of funding new ventures, however they face legal challenges since they often bypass securities laws. As a result, a new ICO called a reverse ICO is an attractive alternative. Reverse ICOs are designed for existing,

successful companies and they are assumed to be securities (equity) from the start. It is functionally identical to traditional IPOs, following the same regulations, audits, and

disclosures, but issuing tokens (electronic equity) instead of traditional stock certificates. Because tokens are a “modern” version of stock, they are more liquid, more flexible, and more

tuned to the next wave of Web technology. Most important, token-based equity offers significantly better valuation for mid-size technology ventures. In this white paper, reverse ICOs are discussed and their future explored.

Table of Contents

WHAT ARE ICOS 1

OLD STYLE ICOS HAVE PROBLEMS 1

WHO SHOULD CARE ABOUT ICOS? 2

INTRODUCING THE REVERSE ICO 3

AN ANSWER TO THE IPO ‘DROUGHT’ 3

INVESTOR PROFILE 4

REVERSE ICOS COMPLY WITH SEC REGULATIONS 4

ADVANTAGES OF AN ICO OVER AN IPO 5

THE BEST CANDIDATES FOR REVERSE ICOS 5

HOW ICOS INCREASE COMPANY VALUATION 6

DON’T BE THE NEXT TANDEM 7

THE ICO PROCESS 7

RISKS AND CONCERNS 9

ABOUT PATHFINDER EQUITY SYSTEMS 10

White Paper: ICOs For Mid-Size Tech Firms

Pathfinder Equity Systems 1

What Are ICOs An ICO is the release of a new digital currency, and is all the rage in the investment community.

A company seeks funding by creating a coin or token which is offered in exchange for investment using another cryptocurrency, typically Bitcoin or more recently Ethereum.

ICOs can generate substantial amounts of capital quickly. Filecoin, a Silicon Valley ICO, raised

$200 million in an hour; Brave, an open source web browser, raised $35 million in 30 seconds. ICOs leverage the latest Web technology behind cryptocurrencies like Bitcoin, not to mention

the $70 billion now in the hands of highly tech-friendly Bitcoin investors.

Old Style ICOs Have Problems These ICOs have significant regulatory problems and it's likely in the months to come, many of them will run afoul of regulatory laws and lawsuits. The fundamental problem is this: most ICOs want to avoid being classified as "securities" because they don't want to deal with the paperwork and obligations. Most ICOs are carried out by new startups, and not existing companies. They operate much like risk capital, where there

is a very high risk in investing, but the potential for a very large return. The SEC is working to tame these excesses, but agency officials don’t want to be seen as limiting innovation. They’d like ICOs to succeed, but in an ethical (and legal) manner. It is for this reason that a new way of thinking is needed. Now there is a new style of ICO: one which retains all extraordinary benefits, add billions if not trillions of value to the economy, and helps cryptocurrency investors provide excellent value and liquidity for entrepreneurs. We call this the “reverse ICO.”

Cryptocurrency Terms

The following is a list of commonly used terms. This glossary is provided as a quick reference.

Blockchain: ledger of all ‘mined’ bitcoin. All transactions are displayed here to prevent fraud. Coin or Token: an individual unit of cryptocurrency Cryptocurrency: a currency based on math and cryptography, may include executable code ICO: the initial offering of a new cryptocurrency, similar to an IPO Mining: creation of new bitcoins from computer hardware Reverse ICO: ICO performed for established company, to sell equity in the public market Smart Token: version of a token which allows for code to trigger certain events (vesting, etc.)



Who Should Care About ICOs?

Venture Investors Venture investors have portfolio firms that

are successful, but not big enough for a traditional IPO. For these firms, an ICO is the

perfect way to get liquidity with strong valuation from tech-friendly retail investors

and alpha-seeking investment funds.

Entrepreneurs There are thousands of successful firms with

great technology and loyal customers, but Wall Street investors often don't care. ICO

investors are more tech-savvy and willing to

give higher valuation, especially to firms that embrace next-wave crypto currencies.

Investment Bankers With the steady drop off in IPO activity over the years, investment banks must find new

sources of deals. ICOs provide these new deals, and an entirely new source of high risk

tolerant investors.

Hedge Funds Crypto-currencies are the fastest growing asset, but with billions of dollars being thrown around, the potential gains are already diminished. We offer a solution: a

new class of ICOs, for existing, profitable companies, more high-quality, cash-rich investment choices.

.



Introducing the Reverse ICO Traditional ICO Reverse ICO

New ventures

Try to avoid being securities

Legal questions

Established firms

Embraces the security classification

No legal questions

A reverse ICO is an equity offering with crypto-token-based equity. An existing company with

solid revenue and history conducts the exact equivalent of an IPO, following all regulations, audits and best practices. The reverse ICO is considered a security from the start, and is treated as such. Instead of stock certificates issued to the investor, a token or coin is offered. Further differences between IPOs and ICOs are illustrated below.

IPO Reverse ICO Public capital market Public capital market Issues equity Issues equity

Stock Certificates Tokens Rights, dividends, voting, etc. Rights, dividends, voting, etc. Little or no innovation Huge innovation. Tokens can contain logic and

become part of technological infrastructure. Breakthroughs in business models.

Full IPO, Reg. A, Reg. D Full IPO, Reg. A, Reg. D, 506c Stock is priced and issued via banks and stock markets Tokens are priced and issued on web site, directly to

purchasers Only for the biggest companies Good for any size company Medium valuation High valuation

Purchased by stock investors Purchased by crypto investors

Moderately l iquid Highly l iquid

Not for small to mid-size tech firms Easy for small to mid-size tech firms

An Answer to the IPO ‘Drought’ For a variety of reasons, companies are not going public at the rates they previously had. Billionaire investor Mark Cuban lamented the lack of IPOs, saying he “didn’t understand the

reticence to go public.” There might be some good reasons for why this is the case. IPOs are too expensive and provide poor results for mid-size companies don’t have. This is a problem for the economy, so a solution is needed. Without new companies going public on a regular basis, the economy slows. IPOs can be a major driver of job growth as the money raised is invested back into the company and new

employees hired and/or wages increased. This puts more money into the hands of consumers and in turn back into the economy.



Reverse ICOs could be the answer. These coins and tokens don’t have a limit to how small a

trade can be, inviting participation from smaller companies that are typically locked out of the process. Cryptocurrency investors hold massive amounts of un-invested tech-savvy capital.

Investor Profile The cryptocurrency investor is different from the traditional investor. They’re often young, computer savvy, and prefer to stay anonymous. These investors form the basis of the cryptocurrency economy. Many have accumulated their wealth by “mining” for new coins. Their investment strategy can be summed up by this quote from an anonymous crypto investor:

“Even if the ICO fails, it will gain more eyeballs for Bitcoin. More eyeballs for Bitcoin means another 5% value increase, and my core holdings will increase

more than my ICO loss. I can’t lose.”

They’ll buy other cryptocurrencies, and buy into ICOs. Dropping a million on an ICO in minutes

is not a big deal, and they are less worried about risk. With a higher risk tolerance than most and significant liquid funds of money, these new investors will invest more on average than a

traditional investor. These cryptocurrency investors might not care as much about the SEC or Sarbanes-Oxley, but they do care about technology and ecosystems.

Reverse ICOs Comply with SEC Regulations As we explained earlier, reverse ICOs are treated like securities, and follow the same regulatory and ethical practices that any traditional capital raising would. Specifically, there are four types the reverse ICO is compatible with:

Full IPO Significant disclosure, intended for all investment types

Reg. A+ Similar to IPO, intended for smaller companies with less disclosure requirements. $50 mill ion limit on securities in a 12-month period

Reg. D No limits on amount that company can raise, l ittle disclosure but only for accredited

investors

506c Crowdfunding efforts

Traditional methods of disclosure such as prospectuses, financial audits and the like may be required as per SEC standards.



Top Recent ICOs

$35 million Founded by former Mozilla CEO, an open-source browser that pays users to view ads, using tokens as micropayments.

$257 million Amazon Web Services competitor. Uses tokens as equity and for payment of services. It was the first US-based ICO to be compliant with securities law.

$150 million (expected) Successful messaging app. Its cryptocurrency will be used as a currency on the platform in the future.

$232 million Tezos is supported by venture capitalist Tim Draper. Aims to build a decentralized blockchain capable of governing itself.

Advantages of an ICO Over an IPO While there are similarities between an ICO and an IPO, the ICO offers key advantages. The first and most important is the large pool of untapped money and investors in the cryptocurrency

market, filled with less price-sensitive investors. This has a lot to do with the dramatic increases in cryptocurrency valuation,

which in turn allows these investors to take risk on ICOs. This leads to higher valuations than most IPOs would offer.

ICOs are inherently technical, so companies gain access to more

technically sophisticated investors. The more efficient nature of the cryptocurrency markets allows for faster funding than

companies may have been able to do otherwise.

Using tokens as equity can be a way to crowdsource new customers and users, and create new business models. These crypto-investors actively participate in growing the product

market, much as customers in the past referred friends to a network. Companies gain the perception of being forward-

thinking, something that is important in the tech sector.

The Best Candidates for Reverse ICOs Traditional ICOs were intended for startups, used in place of venture capital seed or Series A funding. Reverse ICOs are instead aimed at successful midsize or large companies with a stable business model and solid revenue stream. Specifically, the best qualified candidates for a reverse ICO offering are companies with at least $20 million in revenue, in business for at least five years, and with a solid customer base. There are a large number of companies – especially in the tech sector – that fit these criteria but can’t do an IPO.

We see reverse ICOs as especially useful within venture capital portfolios. The average market capitalization of a company using the traditional IPO process was roughly $16 million in the 1980s. Today, that’s more than $100 million, a six-fold increase. This creates a problem for VC portfolios where as much as a half of those portfolios contain so-called “middle performers” that are successful but unlikely to be acquired or be able to go public

because of these increased market cap requirements. Using the ICO, VCs have a new tool in the toolbox to exit these companies

and create value.



How ICOs Increase Company Valuation In this white paper, a substantial amount of time was spent on how ICOs increase corporate valuation. But how does this work? Based on discussions with investors, Pathfinder believes there are three categories of value boost. ICOs generate higher valuations during the sale

process, gain business model advantages, and provide fuel to accelerate firms to the next wave of web technology.

Here’s what we see as the key drivers in increasing valuation:

Higher valuation during sale Large pool of eager investors who are “hot

money”

They’re primarily interested in proving that

bitcoin is mainstream They’re less price sensitive (much less

concerned with your financial statements) They’re wi l l ing to accept higher than normal

valuations

Token economics improve business models

Token align incentives between interested

parties Can become part of your payment structure

(pay for services, pay customers for content or actions)

Accelerates you into the next wave of web technology

Creates a perception of advanced technology in

your user base It’s exciting for your employees, and will help

you attract higher quality talent Not only is it perception, but it is reality.

Cryptocurrency is creating waves of change

It should be noted that these are potential valuation boosts only. These are our best guesses based on discussions with investors. No player in this market has enough experience to make any guarantees; we are showing this list so you can make your own judgements on the odds of success.



The ICO Process Earlier on in this white paper, the similarities and differences between an IPO and ICO were listed. To better illustrate the process, the chart below compares the typical IPO process with two reverse ICO processes, complete with action items. Remember, with the ICO process, several of the middlemen – banks and brokers – are

removed. These sales occur instead directly from the company website, and on your terms. The result is a quicker process.

IPO KEY STEPS Reg A+ ICO KEY STEPS Reg D ICO KEY STEPS

Key advisor agreements

Letter of Intent from Investment Bank


Engage investment bank

Engage registered transfer agent.


Engage investment bank

Choice of stock exchange

Identify compliance issues

Liquidity analysis

Choice of stock/token exchange


Liquidity analysis

Choice of token exchange


Liquidity analysis Preparation

Due diligence Prospectus

Valuation

Roadshow Prep

Research Reports Appoint co-leads, underwriters

Preparation

Due diligence Offering s tatement

Target investor lists

(consumers, institutions)

No underwriters “Test the waters” (if

des ired)

Preparation

Due diligence Offering Memorandum

Target investor list

No underwriters

Don’t Be the Next Tandem For any technology entrepreneur, the greatest concern is to miss to be caught on the wrong side of a technology wave and see your company eclipsed by the next big thing. The second

biggest fear is to miss out on some crucial change in the way that technology is funded.

When those two things happen together, it creates a perfect storm of change that could destroy established businesses almost overnight, while creating a whole new generation of

winners. The ‘dot-com bubble’ is a great example. Cryptocurrency and token economics aren’t easy to understand. Even highly technical web technologists can struggle to understand what this technology means. Sure, it could all be a scam, but the same thing was said about browser-based software, the Internet (Bill Gates

himself was skeptical!), and mobile apps.

Blockchain, crypto, and decentralized enthusiasts are building an entirely alternative technology universe which taps into the internet’s inherent power in ways that are

unpredictable and powerful. ICOs and cryptocurrencies might be a bubble, but more likely they portend major changes in web technologies.



SEC Filings Complete Registration Request

SEC filings Fi le offering s tatement

SEC filings Fi le form D

Offer Structure Completion Finalize underwriting terms

Secondary shares Lock-up periods defined

Offer Structure Completion Lock-up periods defined

Marketing Phase

Draft preliminary prospectus Roadshow

Marketing Phase

Market to consumers through online platforms

(Krowdster) Work with investment bank

on institutional orders

Marketing Phase

Work with investment bank on reaching institutions to

get IOIs

Pricing Allocation

Book building, or Auction Process

Allocation

Fi l l early (testing the waters) orders

Fi l l consumer orders

Downselect from IOI pool for institutions

Allocation

Downselect from IOI pool to fill with preferred bidder(s)

Transaction Closing / Trading Start

Final Prospectus

Final legal docs Final underwriting agreement

Transaction Closing / Trading Start

Final legal docs

Final agreement with token exchange

Transaction Closing

Final legal docs

Aftermarket Price s tabilization

Market making Analyst coverage

It is important to mention that so-called “Know Your Customer” practices still apply to ICOs.

While cryptocurrency investors prefer anonymity, a company offering an ICO without KYC sets itself up for trouble. KYC is designed to shield from criminal activity, and ensures all money

raised is done so from those who’ve obtained the funds legally.

At the moment, while regulations do exist for securities, there still are questions on how to handle foreign investment in an ICO. Some ICO strategies may prohibit foreign investment. There’s a variety of ways to handle this: companies worried about these issues might want to

consider a Reg. D ICO.

Doing so could limit your funding potential, but that’s not always the case. Filecoin was able to raise $257 million using a Reg. D-based ICO (we caution that might be the exception rather than

a rule). Other companies have either launched their ICOs in another country or limited their sale. Tezos, a “generic and self-amending crypto-ledger,” launched their ICO out of Switzerland,

while messaging service Kik blocked U.S. and Canadian investors to avoid compliance issues with either countries’ securities law.

Pathfinder Systems believes the best way is to launch an ICO using the appropriate regulatory

channels: this way there is no question over the ethics or legality. There is still widespread confusion as to how this is legal: following established regulations is the prudent path.



Data: Blockchain.info – Data from October 1, 2015 – September 23, 2017. See current data here.

Risks and Concerns

“ICO 2017 class is full of junk. But they will evolve and ICOs 2020 and later will

liberate fundraising from Wall Street and Silicon Valley." -- Naval Ravikant, CEO of AngelList

Reverse ICOs are brand new, and as with anything new, there are inherent risks.

Valuation Risks: Pathfinder proposes well-designed ICO events that yield an optimal

capitalization. Ultimately however, investor demand will determine the value for a company’s tokens and the amount of capital raised during the ICO. Pathfinder addresses

this risk by developing effective marketing strategies for all ICOs.

Security Risks: Pathfinder assists clients in planning and executing an ICOs that minimizes security risk, both to the Company and its investors. As largely an online

event, an ICO is exposed to risks in the form of data breaches, hacks, and other

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intrusions. Pathfinder helps to minimize these problems by identifying reputable

technology partners that provide world-class support.

Risks to investors are addressed by use of escrow agents and third party, verifiable audits of all sale activity. In addition, since the ICO sale event is conducted on the

blockchain, all transactions may be verified, recorded, and permanently archived.

Regulatory Risks: Today, ICOs are conducted in an evolving regulatory environment, including variances by jurisdiction. Pathfinder recognizes this reality, and proposes ICO strategies that meet compliance requirements in effect today, and anticipated in the future. Pathfinder also identifies expert legal advice to assist in managing this risk.

It is our opinion that the capital raising potential of reverse ICOs far outweigh any potential risks, and those that get in on the ‘ground floor’ stand to gain the most. There’s a vast untapped market of less risk-adverse investors in cryptocurrency, and an equally large number of successful mid-range companies that could benefit from higher valuations in the early phases.

In some cases, it might be a perfectly appropriate to wait for the dust to settle. However for some waiting it out might be disadvantageous.

This is especially true in technology. Companies that don’t stay on top of innovation in this

sector run the risk of falling behind in what may potentially be a game-changing shift. The purpose of this white paper is to provide the information that company executives and venture investors need to make their decision.

About Pathfinder Equity Systems Pathfinder Equity Systems is your one stop vendor for reverse ICOs. We have the biggest list of investors and the best process for managing and launching SEC compliant cryptocurrency

offerings. We've set up a stellar team of analysts and technology--including the Pathfinder Crypto Economic Graph, a database of ICO statistics, cryptocurrency investors, and economic

trends, coupled with deep learning, network graph analysis, and scenario evaluation tools.

Pathfinder was founded by Tom Benson, a Silicon Valley software CEO, Paul Beckman, professor of information science at SF State University, and has advisors from investment banking, capital

markets, venture investing, and crypto technology.

Pathfinder Equity Systems [email protected]

(650) 539-8950

Not Legal or Financial Advice. Pathfinder Systems is not an accounting or law firm. This white paper is for information purposes only and should not be used for legal or investment purposes. Consult qualified legal and financial advisors before making any decisions.

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ICOs for Mid-Size Tech Firms - Pathfinder · White Paper: ICOs For Mid-Size Tech Firms Pathfinder Equity Systems 1 What Are ICOs An ICO is the release of a new digital currency, and