Why the SEC Should Give Amnesty to Illegal ICOs
With an estimated $4 billion or more raised in investment capital, 2017 was a boom year for initial coin offerings (ICOs). But it was accompanied by another kind of boom: the sound of a crashing regulatory framework.
By one count, more than 50 companies per month were using token sales to raise funds – and mostly all of them proceeded without regard to U.S. securities laws.
Then, in July 2017, the U.S. Securities and Exchange Commission issued The DAO Report, which, by employing the U.S. Supreme Court’s long-established Howey test, concluded that certain digital tokens sold to investors were “investment contracts” under the Securities Act of 1933 and therefore subject to SEC registration.
Slightly more than four months later, the SEC reiterated and enforced that determination in the Munchee case, a proceeding in which the agency administratively halted an ICO as an impermissible sale of unregistered securities.
These developments were followed in early 2018 by a cascade of SEC subpoenas and enforcement actions targeting similar token offerings – many of which smacked of fraud.
Putting aside the waning debate as to what may constitute a “utility” token that does not satisfy the Howey test (and thus is not an investment contract), it is now clear what the SEC thinks: the vast majority of ICOs conducted so far in the United States have violated federal law, and the ongoing trade in those tokens involves the illegal purchase and sale of unregistered securities.
This taint on crypto assets has had serious and adverse consequences for market participants.
For many security tokens, liquidity has dried up and prices have dropped. Moreover, the regulatory (and possibly criminal) vulnerability of ICO promoters, the resulting market instability for existing security tokens, and the flight of American capital overseas where token sales remain unrestricted, make the whole situation a royal, Humpty Dumpty-scale mess.
It’s time to clean it up.
A model amnesty program
Without recriminations of government diffidence and regulatory defiance, the SEC and ICO participants must work together to find a reasonable market fix. Any solution should have two essential components:
(1) a vehicle for integrating a new asset class into the established supervisory structure; and
(2) a mechanism for protecting, to the extent possible, the value of substantial yet legally flawed investments.
Apparently, a dialogue among stakeholders has already begun. Reportsindicate that major cryptocurrency backers, along with their lawyers and lobbyists, recently met with Commission officials to request “a broad exemption from federal oversight” that would nevertheless permit the SEC to intervene in ICOs “if a token issuer committed fraud.”
Although a “broad” regulatory exemption for unregistered security tokens is not likely in the offing, the SEC has designed and implemented an amnesty program for a different class of securities law violators that could also serve as a blueprint for unscrambling problematic ICOs.
This past February, the Commission’s Enforcement Division announced the “Share Class Selection Disclosure Initiative” (SCSD Initiative). The SCSD Initiative is an agency effort to resolve widespread and lingering violations of disclosure rules by investment advisors.
Many advisors have been selling certain classes of mutual fund shares to clients without telling them that they receive an advisor fee in connection with those shares and that other less expensive shares, that do not involve advisor fees, are available to purchase. This scenario plainly involves a material conflict of interest for investment advisors with fiduciary obligations.
Under the SCSD Initiative, investment advisors who self-report their violations are eligible to settle with the SEC according to standardized terms: (1) the issuance of a cease-and-desist order and censure on consent, in which an advisor neither admits nor denies the SEC’s findings; (2) the disgorgement of an advisor’s ill-gotten gains and the payment of interest on those revenues; and (3) the acceptance by an advisor of specified undertakings intended to correct the sale procedures that resulted in the disclosure violations.
Finally, in return for those commitments, the SEC Enforcement Division will recommend that the Commission impose no penalties on the self-reporting advisor.
The problem of unregistered security tokens warrants a similar approach.
How it would work
As some have already suggested, we basically need a regulatory do-over for the first wave of ICOs. An amnesty program like the SCSD Initiative could be one way of accomplishing that goal.
If engineered correctly, it would assimilate rogue security tokens into the fold of regulated instruments without rewarding prior violations of securities law. It could also provide issuers of unregistered security tokens with an ordered and more affordable way of resolving potentially ruinous civil liability under section 12 of the Securities Act of 1933 (establishing a cause of action for rescission or damages in connection with the sale of unregistered securities).
An ICO amnesty plan would need at least two core elements to meet those objectives.
To start, issuers of unregistered security tokens (let’s call them “old tokens”) would have to complete a formal SEC registration process for what are essentially replacement tokens (“new tokens”). Upon the approval of such a registration, issuers would have to swap old tokens for new tokens for all willing takers – a digital tender offer of sorts.
As an incentive to exchange old tokens for new ones, issuers would probably need to offer some additional consideration – possibly paid in new tokens rather than cash in order to preserve the company’s operating capital.
Furthermore, to avoid the statutory bars against investors waiving compliance with the securities laws, this second leg of the required amnesty transaction should be structured as a settlement and release of any Section 12 Claims against issuers of old tokens. As explained in the 2017 U.S. Appeals Court decision in Pasternack v. Schrader:
“as a general principle, whenever a party offers consideration to another in order to remedy an alleged violation of the securities laws, acceptance of that offer in exchange for a release of . . . claims is tantamount to establishing ‘compliance’ with the securities laws.”
Holdout investors that chose not to redeem their old tokens would, of course, retain their Section 12 Claims. But presumably the issuer would know the approximate number of holdouts in advance of self-reporting, and – in terms of liability – that number would have to be economically manageable for the company. Otherwise, there would be no point for the issuer to seek amnesty in the first place.
Indeed, an ICO amnesty process that included these elements could help to separate the good eggs from the bad. In evaluating the swap provision, investors would have to determine whether there is greater value in reaffirming their stake in the company or pursuing their rescission rights. That sober second look should promote efficient investor decisions that reflect the health and prospects of the underlying business enterprise.
Moreover, issuers of blatantly fraudulent ICOs have little chance of successfully registering their new tokens with the SEC, and therefore have little motivation to even try. That act of self-selection should significantly assist the SEC in identifying some of the most appropriate subjects for enforcement activity.
This proposed strategy to address widespread securities violations in the crypto-asset market is not intended as a comprehensive regulatory plan. To the contrary, it is presented merely as a conversation starter. Other legal considerations and possibly technological constraints will further shape the parameters of any final program, for sure.
It is urgent, however, that serious talks get underway. While regulators, entrepreneurs, and investors all walk on eggshells, innovation slows. Sometimes you just have to break a few eggs to move forward.
Written by Bitcoin.com
Former Federal Reserve Governor Supports ‘FedCoin’ Project
Kevin Warsh, a former U.S. Federal Reserve governor, recently told The New York Times the Fed should give serious consideration to releasing a government-sponsored cryptocurrency — commonly called a “FedCoin.”
Warsh is among a group of investors in Basis, formerly Basecoin, a cryptocurrency designed with an algorithmic central bank that will keep the price stable.
Warsh, was a Fed governor from 2006 to 2011 and was a leading contender to become its chairman last year.
Had he returned to the Fed, Warsh said he would have assigned a team to explore a “FedCoin.” He does not see such a coin replacing cash, but he views it as a way to conduct monetary policy when the next crisis occurs. He noted that most central banks believe cryptocurrency assets are prone to fraud and investor losses.
A distinguished visiting fellow at the Hoover Institution at Stanford, Warsh said blockchain technology would be helpful for enabling the transfer of trillions of dollars between banks.
The Bank of England and the Monetary Authority of Singapore are already exploring such a concept.
Fed Chairman Jerome Powell said in his November confirmation hearing that blockchain could have “significant applications in the wholesale payments part of the economy.”
A Peculiar Role For Crypto?
Cryptocurrency would make an unusual role for a central bank controlled currency, the New York Times article observed.
Since central banks largely focus on maintaining the stability of money’s value, cryptocurrency would be ill-suited as an exchange medium, given is volatility.
Central banks also focus on enabling law enforcement to contain crimes that cryptocurrencies are used for, such as money laundering, fraud and tax evasion.
It would also be a twist if a technology supported by those who are motivated by distrust of central banks became a tool for those very banks.
The central banks considering blockchain technology do not share the more anarchist impulses of some cryptocurrency enthusiasts, the article noted. But Warsh argues that if people believe that digital currencies in some form are the future of money, the central banks should view them as more than a novelty.
Why He Supports The Concept
If the next generation of cryptocurrencies are more similar to money than to gold and would be a reliable unit of account versus being a speculative asset, Warsh said he would not want someone to take such a monopoly away from him.
If cryptocurrency enthusiasts are correct that the technology could provide a better way to conduct routine transactions, the central banks are the institutions with the most to lose.
Basis has already raised $133 million in a private placement. Backers besides Warsh include Bain Capital Ventures, GV, Stanley Druckenmiller, Lightspeed, Foundation Capital, Andreessen Horowitz, Wing VC, NFX, Valor Capital, Zhenfund, INBlockchain, Ceyuan Ventures, Sky9 Capital and others.
Basis’ goal is to marry the benefits of cryptocurrency with centrally controlled fiat currency. Central banks mitigate volatility via monetary policy. They expand and contract the money supply. Cryptocurrencies, by contrast, have a fixed supply, which fosters volatility that makes them an unreliable form of payment.
Basis brings the benefits of cryptocurrency without the volatility, said its chief executive, Nader Al-Naji. Basis would be distributed to those participating in the system, thereby decentralizing monetary expansion. Should it accomplish its goal, Basis will benefit the efficiency of developing nations’ economies, said Al-Naji.
Written by Bitcoin.com
Monero Now Available on Circle Invest Crypto App
Circle Invest, the blockchain start-up application, has added Montero to the list of digital assets available on its platform, the firm said in a blog post on Monday.
Montero becomes the second privacy focused coin it has added in a row. In April Circle Invest introduced ZCash onto its platform saying traders and users were now able to undertake purchases and investments in the coin.
“You will now be able to enjoy instant purchases, no minimums and a seamless investing experience on Zcash and our five existing crypto assets,” the blockchain company said at the time.
The other coins available on the Circle Invest application include etherium, bitcoin, bitcoin cash, litecoin, and ethereum classic.
On Monday, Circle Invest senior project manager, Rachel Mayer, said in a blog post that the company had continued to grow its coin collection as it was now also supporting Monero.
“Last week, we welcomed Zcash to the coin family on Circle Invest. Today, we continue to grow our coin collection by supporting Monero as our new listed crypto asset,” said Mayer.
This effectively means that the Circle Invest platform now supports seven coins and Mayer says this makes it “the only platforms you can invest instantly and seamlessly in the widest breadth of coins by using your bank” account.
Circle becomes the first mainstream or regulated brokerages to add support for Monero which some believe may be associated with dark web activity. Circle Founder and chief executive officer, Jeremy Allaire, is however undettered and says the company has set its sights on expanding into Asia.
“In Hong Kong, the initial focus is on the institutional market, like the firms in Asia whose business includes investing in crypto assets and virtual currencies,” he was quoted saying.
Reports said on Monday that Monero was currently trading under a market cap of about $3,6 billion. The Economics Gazette said Monero’s four hour trading volume had peaked at around $40,5 million although in the past seven days the coin had lost ground, falling in value against the US Dollar by about 7.28%.
Written by CCN.com