On September 12, 2017 the UK Financial Conduct Authority (“FCA”) released brief guidance (“FCA Guidance”) on initial coin offerings (“ICOs”). This follows earlier guidance from the Canadian Securities Administrators (the “CSA”) in August on ICOs, a summary of which can be read here.
The FCA Guidance defines an ICO as a digital method of raising funds from the public using a virtual currency (cryptocurrency). An ICO can also be known as a “token sale” or a “coin sale”.
ICO Risk Factors
The FCA Guidance notes that ICOs are high-risk, speculative investments with the following risk factors:
- Unregulated space: most ICOs are not regulated by the FCA and many are based overseas.
- No investor protection: investors are extremely unlikely to have access to UK regulatory protections like the Financial Services Compensation Scheme or the Financial Ombudsman Service.
- Price volatility: like cryptocurrencies in general, the value of a token may be extremely volatile and vulnerable to dramatic price fluctuations.
- Potential for fraud: some issuers might not have the intention to use the funds raised in the manner set out when the project was marketed.
- Inadequate documentation: instead of a regulated prospectus, ICOs usually only provide a “white paper”. An ICO white paper might be unbalanced, incomplete or misleading. A sophisticated technical understanding is needed to fully understand the tokens’ characteristics and risks.
- Early stage projects: ICO projects are typically in very early stages of development and their business models are experimental. There is a good chance an investor could lose their entire stake.
The FCA states that whether or not an ICO falls within the FCA’s regulatory purview is something that can only be decided on a case by case basis. While many ICOs will fall outside the regulated space, depending on their structure, some ICOs may involve regulated investments and firms which may be conducting regulated activities.
Businesses involved in an ICO are advised to consider if their activities could mean they are arranging, dealing or advising on regulated financial investments. Both promoters and exchanges are advised to consider if they need to be authorised by the FCA to deliver their services.
The FCA Guidance notes that some ICOs may share similarities with initial public offerings, private placements of securities, crowdfunding or collective investment schemes and may therefore fall within the prospectus regime.
International ICO Guidance
Other national regulators have also issued guidance or advisories on ICOs, including the CSA, U.S. Securities and Exchange Commission, the Monetary Authority of Singapore, the People’s Bank of China and the Securities and Futures Commission of Hong Kong.
Any Fintech businesses seeking to enter the cryptocurrency space in Canada should consult with counsel and be prepared to engage in detailed interaction with securities regulatory authorities.