Last week's U.S. Securities and Exchange Commission report was a watershed in the history of cryptocurrency.
And for those who missed the finer details, the takeaway was clear: the nascent crypto asset class, while certainly exciting and new, is still subject to U.S. securities laws when they function like securities.
Still, in the wake of the report, there's been a wave of opinions issued on the subject. Lawyers, investors, academics - all have had their say. Less vocal have been some of the sector's more active innovators, but they, too, are joining a broad consensus that the guidance is necessary.
Indeed, despite its embrace of the novel funding method, Beverly Hills-based investment bank and advisory firm Argon Group went so far as to suggest it's been aligning its model against this expectation all along.
Speaking at a conference on the subject, Emma Channing, the group's general counsel and interim CEO, went so far as to laud the SEC for the move.
According to Channing, it's uncommon for the SEC to issue guidance at all.
She told CoinDesk:
"They are in the enforcement business. This is a very thoughtful opening from SEC, which is clearly very sensitive to the activity in the market and to the confusion in the space. We shouldn't assume this [light touch by regulators] will continue."
On the substance of the agency's guidance, Channing was blunt: "If you have ownership rights or an income stream, practically speaking, it's an investment."
Common sense applies
Of course, for those who have been following the burgeoning sector, this insight might not be surprising.
After all, Argon is best known for advising the venture capital firm Blockchain Capital, which issued a token to accredited investors in April, completing what might have been the first large-scale issuance of a token meant specifically to function as a security.
Allowing investors to participate in the upside of Blockchain Capital's venture fund, the key advantage the tokens provide is allowing investors to have liquidity long before more traditional venture capital shares mature.
If we assume that tokens are an investment, the question naturally arises: When are token-based investing strategies worth pursuing - both for issuers and for potential investors?
Channing's take on this question, from the perspective of the issuer's advisor, is instructive. First, Argon doesn't take on what Channing calls "two-guys-and-a-piece-of-paper" ICOs.
For the banking firm to consider a company for an ICO, Channing said, it must have an existing product, at a minimum, and an existing team. They also must have, ideally, revenue and profit.
According to Channing, Argon does not believe ICOs are appropriate for companies raising Series A or Series B financing. In some cases, she said, ICOs are appropriate for Series C and Series D rounds.
For this reason, Argon does not believe that ICOs will be the death of VC funding or incubators.
Common sense rules of raising money still apply, Channing added:
"We don't encourage our clients to raise more than they actually need. If you don't have the use of proceeds worked out ahead of time, those are the kinds of project that are going to lose money - and you're going to get in deep, deep trouble."
A crucial distinction spelled out in the SEC report is that exchanges that trade securities tokens must be either nationally recognized exchanges or regulated as an ATS, or alternative trading system.
This includes ECNs, like Bloomberg Tradebook or dark pool networks, such as Credit Suisse's Crossfinder and Goldman Sachs's Sigma X.
The SEC also raised other important distinctions.
First, the corporate form that an issuing entity uses is not material to the SEC's view of whether a token is a security; if you establish an entity as a foundation instead of an LLC, for example, you are still subject to U.S. securities laws.
The jurisdiction in which the entity is domiciled is also not relevant. Bottom line, according to Channing, is "if you sell into the U.S., you get caught by U.S. securities laws."
"The law firms have advised that if you only accepted crypto [and not cash] you would be protected," she said.
This assertion was also invalidated by the SEC report.
Finally, a surprising implication: The SEC report suggests that U.S. purchasers of ICO tokens may also be subject to liability.
To quote directly:
"Moreover, those who participate in an unregistered offer and sale of securities not subject to a valid exemption are liable for violating Section 5 ... [T]hose who ha[ve] a necessary role in the transaction are held liable as participants."
The language used by SEC, to a non-technical eye, does not make clear the context or extent of the potential liability that investors may face. This is even more unclear in the U.S., which is now one of the few jurisdictions to have any insight into how regulators will act in the space.
With regard to U.S. residency, it's quite difficult for issuers to digitally filter out residents of the country. As such, Channing positioned this as a challenge ahead, and a sign that the SEC, while providing guidance, could soon seek to exercise its penchant for enforcement.
"Filtering by IP is not enough. Geofencing is not enough. If you're not taking investor addresses and verifying them, it's not enough."
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