Regulators worldwide increasingly scrutinizing initial coin offerings

Recent announcements and other actions by financial regulators around the world signal growing regulatory concern over the rapid growth of initial coin offerings (ICOs) and other token sales as a fundraising mechanism.

Since July 2017, numerous financial regulators have issued public notices or other statements confirming that ICOs may be subject to securities and/or other laws within their jurisdictions:

• Canada – In August, the Canadian Securities Administrators issued a staff notice regarding cryptocurrency offerings. The notice indicates that many offerings of cryptocurrency involve sales of securities that would be subject to Canadian securities laws if Canadians were involved in the purchase or sale. The Ontario Securities Commission provided further guidance on ICOs via Twitter on October 10, 2017.
• United States – In July 2017, the U.S. Securities and Exchange Commission issued an investigative report signalling that depending on the facts and circumstances, ICOs are subject to U.S. securities laws. Read Osler’s summary of the investigative report here.
• United Kingdom – In September, the UK’s Financial Conduct Authority (FCA) issued a consumer warning regarding the risks of ICOs, noting that whether an ICO is subject to regulation by the FCA will be decided on a case-by-case basis.
• Australia – In late September, the Australian Securities & Investments Commission (ASIC) issued guidance to issuers of ICOs. ASIC’s guidance notes that, depending on how the ICO is structured and operated and the rights attached to the coin or token, the ICO may be a managed investment scheme or other securities offering subject to regulation.
• Switzerland – In late September, Switzerland’s Financial Market Supervisory Authority (FINMA) issued guidance regarding various Swiss laws that could be applicable to ICOs. FINMA also disclosed that it is investigating a number of ICOs to determine whether regulatory provisions have been breached.
• Singapore – In August, the Monetary Authority of Singapore clarified that digital tokens will be regulated by the MAS if the tokens are products regulated under Singapore’s Securities and Futures Act.
• Hong Kong – In early September, the Hong Kong Securities and Futures Commission issued a statement on ICOs advising that depending on the facts and circumstances, digital tokens that are offered or sold may be “securities” subject to the securities laws of Hong Kong.

Although these announcements do not make definitive statements that all ICOs or token sales are subject to securities laws and/or other laws, they all strongly imply that regulators will treat such offerings as subject to securities regulation unless there are clear and compelling reasons not to.

In addition, some countries have banned ICOs entirely:

• China – In September, The People’s Bank of China and various other Chinese authorities banned fundraising through ICOs and directed that any funds raised through past ICOs be returned. Chinese authorities subsequently directed the shutdown of exchange platforms for buying and selling all forms of virtual currency.
• South Korea – Following on the announcement by Chinese authorities, in late September the South Korea Financial Services Commission also banned ICOs.

In addition to providing guidance on the application of securities laws to ICOs, regulators appear to be increasing ICO-related enforcement activity:

• Québec – Following aggressive enforcement steps taken in July and August 2017 relating to the PlexCoin virtual currency, Québec’s Autorité des marchés financiers continues to pursue enforcement action concerning PlexCoin, most recently obtaining orders requiring a financial institution and payment processors to freeze funds and other assets under the control of PlexCoin’s alleged principals.
• United States - The SEC recently charged an individual and two related companies with allegedly defrauding investors through ICOs supposedly backed by real estate and diamonds. The allegations include that the defendants have been selling unregistered securities.

Implications

The recent announcements and other steps taken by regulators have a number of implications for those involved in or otherwise considering ICOs:

• Some entities pursuing ICOs and token sales have attempted to manage legal risks by restricting the initial sale of tokens to purchasers outside of jurisdictions where securities regulators had publicly stated a position on the legality of ICOs. As securities regulators in more and more jurisdictions publicly announce positions on the legality of ICOs, the continued practicality of this approach seems questionable.
• So far, publicly announced enforcement activity appears to be focused on allegedly fraudulent ICOs. In our view, it is merely a matter of time before regulators take enforcement steps against those involved in ICOs who have allegedly failed to comply with applicable securities laws, even if there was no fraudulent intent.
• For entities that wish to pursue an ICO in compliance with applicable law, the complexity, costs, time and effort required to do so are increasing.