The day of quick ICOs based on an investment concept rather than a new functionality concept is over in the United States. That’s one of the main implications of this week’s Securities and Exchange Commission (SEC) finding that DAO tokens are a “security,” and subject to federal securities laws.
Cryptocurrency industry observers generally welcome the SEC report on its investigation into the DAO ICO, saying the report indicates the regulatory agency is developing laws to apply to blockchain technology and cryptocurrencies, a new and rapidly growing industry.
Crypto Attorney Weighs In
ICOs and other coin offerings structured as investments will need to be registered with the SEC if they are marketed to U.S. investors, said Arnold Spencer, general counsel at Coinsource, a bitcoin ATM network. Issuers will need to choose between registering with U.S. authorities or not be exposed to U.S. capital markets.
Spencer predicted some fallout for companies that had ICOs in the last six months that are structured similarly to the DAO.
Many ICOs are out there that will now be viewed definitively as securities, and yet are unregistered.
The companies will have to register as securities or risk being on the wrong end of an enforcement action.
The SEC’s guidance provides two clear messages to the digital currency community, according to Spencer. First, some digital currencies will be viewed as securities, depending on how the tokens are structured. Secondly, law enforcement in the U.S. will be enforcing the laws.
The pipeline for ICO’s just got a lot smaller.
Spencer said the SEC is not breaking any new legal ground. Its focus has always been on whether the instrument was for investment purposes or for another purpose.
“If you buy an interest in a golf course to make money from the business, it is a financial investment and therefore a security,” Spencer said. “If you join a golf club to play golf, it is not a financial investment and not a security.”
Securities Law Covers Technology
Steven Nerayoff, a venture capital attorney and an Ethereum advisor, said the SEC’s decision reinforces something many in the blockchain industry already knew: federal securities laws apply to all new types of technologies.
If anything sold has the characteristics of a security, one must follow U.S. securities laws.
“It should come as no surprise that the SEC found that buyers of the DAO token purchased a security,” Nerayoff said. “The key feature of the DAO token was indeed an expectation of profit if the investments made by the DAO were successful, and thus the DAO tokens were expressly sold as an investment.”
The DAO token had no other utility, unlike a token like Ether, Nerayoff said.
Many people in the industry at the time were concerned about the DAO for the reasons stated by SEC.
Not All ICOs Will Be Regulated
Many token sales are essentially pre-selling tokens to grant access to a blockchain application or other type product, like Kickstarter, Nerayoff said.
“Unlike the DAO tokens, such tokens are being sold for their utility, not as an investment,” he said.
The SEC’s ruling is not specific to blockchain companies or digital tokens, Nerayoff states. As the SEC’s understanding of the industry has improved, it was inevitable that it would develop a body of laws to apply to it. He said the blockchain industry should welcome the SEC’s decision as an important step towards in improving regulatory guidance and clarity.
‘A Step in the Right Direction’
Ron Chernesky, CEO of investFeed, a social trading platform dropping U.S. equities for cryptocurrencies, he said:
We welcome it, and actually think it’s a step in the right direction for the industry.
Before the announcement, it was common knowledge that ICOs have been enveloped in a regulatory gray area, he said.
One of the most telling pieces in the SEC announcement was an acknowledgment that some ICOs are completely fair investments, and some are not.
Chernesky said there are inherent risks involved with ICOs, just like any other investment.
The SEC is warning investors to be aware of the risks, and ensure they do their due diligence on the company conducting it, the structure of the token generation event, the team behind it, and the product roadmap.
Compliance Can Have Gray Areas
Perry Woodin, CEO of Node40, a blockchain governance and accounting firm, states that:
The number of businesses supporting blockchain applications have exploded over the past couple of years, and with them we’ve seen new tools for raising capital. The issues that crop up during these cycles of rapid business acceleration often lead to individuals taking a chance with compliance.
Individuals whose actions fall into a legal gray area are often shocked to find that compliance is either black or white, Woodin said.
If you’re aiming for the middle ground, you will likely find yourself out of compliance and subject to existing, or yet to be defined regulation.
Woodin adds that the SEC’s report is not a surprise since many ICOs were aiming for what he called the “compliance gray area.” They wanted their offerings to be considered “crowdfunding” even though they did not meet the “Regulation Crowdfunding” exemption.
The SEC could have decimated the entire ICO market, said Jaron Lukasiewicz, CEO of WRKFLOW, a stealth blockchain project. Instead, the agency and has provided new possibilities.
I hope the commission takes the ‘facts and circumstances’ approach outlined in its report so that blockchain companies can thrive in the U.S.
Lukasiewicz said it is not a coincidence the SEC chose to target a German company in its investigation. The agency is indicating the rules also apply to non-U.S. token issuers.
Given the wide array of token functionalities, I wish the SEC had been more clear about what types of tokens might not be viewed as a security by the agency.
The SEC’s action signals public acceptance of blockchain tools, said Ari Meilich, project lead at Decentraland, a blockchain-based virtual platform.
The market was anticipating this, and the price of non-security tokens, like Ethereum, did not fluctuate when the SEC report came out.
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