Apocalypse of compliance issues for STO under Reg A+
Editor's Note: This article comes fromEditor's Note: This article comes fromBabbitt Column
The author is Zhang Ling, partner of Han Yi Law Firm.
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There are a series of compliance issues in Blockstack’s STO under Reg A+. The relevant issues may not be unique to the project, nor are they just common issues among blockchain companies planning to conduct STO under Reg A+. Common problems faced by all blockchain companies planning to issue security tokens. Regardless of whether Blockstack can be successfully issued, this case will be of reference significance for the practical and theoretical circles to further understand how the US securities rules apply to the issuance of virtual currencies.
The revised Regulation A (Reg A+) is applicable to small and medium-sized enterprises, which can be exempted from securities registration and can be publicized. Investors are not limited to qualified investors and the number of investors is not limited. Unrestricted sales, issuance requirements, required time and costs are lower than traditional IPO issuance methods. In recent years, it has been widely concerned and discussed in the blockchain circle, but today, it has been recognized by the US Stock Exchange (SEC). Securities token offerings (STOs) under Reg A+ are still extremely rare.
In mid-April this year, Blockstack Token LLC (a blockchain software company based in New York) announced that it had formally submitted Form 1-A to the U.S. Securities and Exchange Commission (SEC), planning to issue and sell no more than 2.95 tokens in accordance with Reg A+. 100 million tokens STX, financing 50 million US dollars.
This is not Blockstack’s first token sale. According to its disclosure, between 2017 and 2018, Blockstack has adopted Regulation D, Regulation S, Simple Agreement for Future Tokens (SAFT), etc. There have been multiple private offerings and sales involving STX.
The author noticed that this is a rather special case, not only because it is a rare STO project planned to be carried out according to Reg A+; ); and the function of STX is not purely for financing or commercial purposes, but for one currency to have both financing and commercial functions. These characteristics of this case directly touched a series of unavoidable compliance issues under the US law for fundraising by issuing virtual tokens.
In response to some of these issues, the issuer made detailed explanations and explanations, and believed that its business operations and this issuance are in compliance with relevant regulations, but at the same time further stated that in some cases, its conclusion of compliance may not be Must be so sure.
Now, based on the information publicly disclosed by Blockstack, the author extracts some compliance issues of the project, and shares some observations and understandings of the author with you.
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1. Whether the token constitutes a security
according toaccording toBlockstack's Release Notes
, in a word, the answer to this question: yes, no, and variable.
(1) The tokens issued this time are securities
The issuer believes that the STX issued this time constitutes securities under the US securities law system, but it does not belong to equity securities (investors do not enjoy dividends, distribution or voting rights similar to equity), nor does it belong to debt securities ( Investors do not enjoy the principal and interest return rights similar to creditor's rights), but investment contracts.
(2) Tokens held by the issuer are not securities
When determining whether an issuer constitutes an investment company that requires registration, the issuer considers that the tokens it holds do not constitute securities.
According to the "Investment Company Act" of the United States, generally speaking, if more than 40% of the company's non-cash assets are securities, the company will constitute an investment company, which needs to be registered in accordance with the provisions of the law, and the company must not engage in the current business of the issuer. blockchain-related businesses.
The issuer believes that although its holdings of tokens may be worth more than 40% of its non-cash assets, the Howey test is not met because such expected returns do not depend on the efforts of others but its own efforts ( Howey test) on the test criteria for constituting an "investment contract", so the tokens held by the issuer do not constitute securities, and the issuer should not apply the provisions of the "Investment Company Law". However, the SEC may disagree with such views.
(3) The tokens held by miners are securities
There is a mining mechanism in the Blockstack project, which will start in 2019 or 2020. The issuer believes that since the currently issued STX constitutes securities, the tokens received by miners for mining in the foreseeable future will also constitute securities. Unless the exemption conditions are met, they need to apply in the federal and state in accordance with the provisions of the U.S. Securities Law Securities registration.
According to the issuer's statement, it may be difficult to comply with the current securities exemption registration conditions (for example, under Reg A+, one of the conditions for exemption from registration is that the total amount of token issuance per year shall not exceed US$50 million, and the issuer expects that in its mining Under the mechanism, the total value of tokens rewarded to miners each year will exceed this limit; if there are other exemption registration rules, there will be a limit on the number of miners, and it is not commercially reasonable for the issuer to limit the number of miners), so the future may It is necessary to apply for securities registration at the federal and state levels before the mining mechanism starts.
(4) Use within the issuer’s platform is not a security
The issuer believes that the use of tokens within the Blockstack platform (including transfers between users) does not constitute securities, and there is no need to apply for securities registration or exemption from registration.
(5) The nature of tokens may change
The issuer believes that STX may not constitute a security in the future, especially after its platform has been fully decentralized. However, the issuer is currently not sure whether the nature of the token securities issued this time can be converted, when and how it can be converted.
2. Is it applicable to Reg A+ issuanceRule 261 (§ 230.261) of Regulation A ]
According to Reg A, only eligible securities that meet the requirements can be publicly issued under Reg A+. The qualified securities defined in the regulations only include equity, debt, or securities that can be converted or converted into equity, and do not include other types of securities such as investment contracts. [
As mentioned above, the tokens issued by Blockstack are investment contracts, not equity or debt securities. Whether this type of securities can be issued under Reg A+, the issuer has not explained this, and it depends on how the SEC understands it.
3. Do miners need to be registered as broker-dealers?
Under the U.S. Securities Exchange Act of 1934, brokers provide services for securities transactions of others. SEC staff once stated that one of the decisive factors in judging whether a subject constitutes a broker is whether the subject charges Commissions or compensation related to securities transactions.
With regard to the token income earned by miners for adding new blocks and recording transactions in the Blockstack blockchain, the issuer believes that since these tokens are not based on fee payments for securities transactions (but are generated based on pre-set algorithms, And it has nothing to do with whether the transaction recorded by the miner is a securities transaction), and the miner has not engaged in broker-like activities, so the miner does not constitute a broker. However, the issuer cannot guarantee whether the SEC agrees with the issuer's views.
4. Whether the issuer, miners and the blockchain constitute a transfer agent (Transfer Agent)
Under the U.S. Securities Exchange Act of 1934, a "transfer agent" is one who registers an offering of securities, supervises the offering of such securities, registers a transfer of securities, exchanges or conversions of securities, records the transfer of ownership of securities through a book-entry system, etc. (where "person" refers to natural persons, companies, government agencies, etc.). Under the Act, transfer agents are required to register with the SEC.
The issuer believes that although the issuer, miners and the blockchain will facilitate the transfer of tokens, the related activities may be similar to the activities of the transfer agent, but because the tokens issued by the issuer are not registered securities under the Act; The activities of the issuer, miners and the operation of the blockchain are not actually the activities of the transfer agent as defined by the regulations; and the relevant actions are completed automatically on the blockchain, and the blockchain is not a person as defined by the law, Therefore, the issuer, the miner and the blockchain do not need to be registered as transfer agents. However, the SEC may disagree on this.
5. Whether the issuer, miners and the blockchain constitute a clearing agent (Clearing Agent)
Pursuant to the U.S. Securities Exchange Act of 1934, "clearing agent" primarily refers to acting as an intermediary in the payment or delivery of securities-related transactions, or for purposes involving the comparison of securities transaction settlement data, the reduction of securities transaction settlement quantities, or securities settlement obligations The person who provides facilities and conveniences such as distribution ("person" refers to natural persons, companies, government agencies, etc.). According to the Act, liquidation agents are required to register with the SEC.
The issuer believes that although the issuer, miners and the blockchain will be involved in assisting the transfer of tokens, and the related activities may be similar to those of a clearing agent, the behavior of these parties and the operation of the blockchain are not as defined by the regulations The activities of the clearing agent; and the relevant behavior is automatically completed on the blockchain, and the blockchain is not a person defined by the law. Therefore, the issuer, the miner and the blockchain do not need to be registered as the clearing agent. However, the SEC may take a different view on this.
6. Whether the platform constitutes an exchange or an alternative trading system (ATS)
Under U.S. law, generally speaking, a platform that provides and maintains markets and facilities for securities transactions, gathers a large number of buyers and sellers, and matches securities trading orders will constitute an exchange or ATS, which is subject to the SEC and the U.S. Financial Industry Regulatory Authority ( FINRA) (except in cases where there is only one seller, even if there are many buyers).
The issuer believes that the Blockstack platform does not aggregate and match securities trading orders, and as a token issuer, when it distributes tokens on the blockchain, it is actually the only one that is selling tokens; and, due to The fee payment incurred by the platform for providing services, because it is not a securities transaction, does not involve securities orders (such fee payment is the consideration payment incurred by the user for using the distributed application (DApp) on it or purchasing goods or services through internal programs ), therefore, the platform should not be considered to constitute an exchange or an ATS. However, the SEC does not necessarily agree with the issuer's opinion.
7. Is Regulation M applicable to the transfer of tokens when they are destroyed?
The issuer believes that when the user destroys STX while selling STX to the user, the user does not transfer the securities to the issuer, but transfers it to a "black hole" that is out of reach of everyone including the issuer (blackhole) address, the issuer did not receive the tokens. Whether regulators will agree, however, is another question.
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2. The enlightenment and impact of this case
1. The nature of tokens may be analyzed in specific situations
In this case, the nature of the tokens is not static, but depends on the specific circumstances (whether in terms of the nature of the tokens issued this time, or in terms of whether the issuer constitutes an investment company that needs to be registered), the identity of the holder (Whether it is an investor, a miner or an issuer), the usage scenario of the token (whether it is used in the platform), and the stage it is in (whether it is currently or after the development of the future platform has been completed).The issuer’s view that the determination of the nature of its tokens needs to be analyzed on a case-by-case basis is in line with the views of SEC Chairman Jay Clayton. Jay Clayton was in March of this yearin an open letter
In addition, when the issuer stated that the tokens it held did not constitute an investment contract (and thus did not belong to securities, it therefore did not constitute an investment company that required registration), it also referred to a statement issued by the SEC in April this year on whether digital assets constitute an investment contract. ofAnalysis frameworkAnalysis framework
, believes that the key issue in judging whether the tokens it holds is a security is whether the return corresponding to the tokens depends on the efforts of a third party.
Generally speaking, the issuer’s determination of the nature of its tokens has certain rationality and theoretical origins. However, there is no clear legal basis and precedent for whether, when, and how the nature of tokens can be transformed. Can the SEC accept this? Its statement still needs to wait for the practical test. In addition, whether the identity of the holder will affect the nature of the token, and then affect whether the issuer is an investment company is a new issue, and it depends on how the SEC sees it.
2. It may no longer be a problem for One Coin to realize the dual functions of financing and commercial useAt present, most of the STOs issued in practice are typical security tokens, and these tokens usually do not have commercial functions. In order to realize the two functions of financing and commercial use, and to avoid the legal restrictions and risks in the issuance and circulation of security tokens, some projects previously adopted the principle that the financing function belongs to security tokens, and the commercial function belongs to functional tokens. Clearly defined dual-currency structure (such as MintHealth, EpigenCare; for issues and analysis of the dual-currency structure, please refer to the author's previous article "》。
Babbitt column | One currency or two currencies, that is a question
In this case, the nature of the token can be explained according to the specific situation, and it can also be transformed. The issuer can realize the dual functions of financing and commercial use by adopting a one-token structure. If the SEC can accept the issuer’s design and explanation, it will be of great significance to blockchain companies that need financing and have token commercial function scenarios—it can be realized by using a one-token structure under the compliance framework The dual functions of financing and commercial use are naturally the "most blockchain" and the easiest way to design a business model, as well as the most efficient and cost-effective way.
3. The dilemma of choosing the type of security token
In this case, the issuer identifies the type of token it issues as a type of security—an investment contract. In this case, the issuer can try to claim that the tokens held by the issuer do not constitute securities and therefore do not need to register as an investment company on the grounds that “the return of tokens does not depend on others but depends on their own efforts”. However, in this case, it may be doubtful whether the securities can be issued under Reg A+, because literally, investment contracts are not eligible securities under Reg A+ (including equity, debt and securities that can be converted into equity) ), mainly depends on how the SEC understands.
If the nature of the token is equity or debt securities, there is not much controversy in theory about the application of Reg A+ issuance; however, in this case, the issuer may constitute an investment company that needs to be registered with the SEC (because in the In the judgment of whether a token constitutes a security, only when the token is an investment contract (rather than equity or other types), the judgment standard includes the factor of whether the income return of the token depends on the efforts of a third party. It is difficult for the issuer to claim The equity or debt tokens held by it do not constitute securities and thus do not constitute investment companies).
It can be seen that if the project party intends to carry out STO according to Reg A+, and the value of the tokens it holds may be relatively high (more than 40% of its non-cash assets), how to choose the type of securities to which the tokens belong (equity type) , investment contract or other) may be a problem, and it is a dilemma, and this problem will directly relate to whether the issuer can issue smoothly in accordance with Reg A+ or whether it can meet the compliance requirements.
4. How high is the compliance requirement for issuance according to Reg A+
As we all know, the compliance requirements for STO in accordance with Reg A+ are relatively high, but to what extent, the SEC has not issued an official opinion, and there has been no precedent to fully demonstrate it before. This time Blockstack is on the stage, providing a sample for the market.
In this case, the issuer comprehensively expounded various compliance issues and risks related to the characterization of tokens, and various subjects involved in the production, use, destruction, transfer, and circulation of tokens. For example, whether the miners constitute a broker, whether the issuer constitutes an investment company, whether the issuer, miners and the blockchain constitute a transfer agent or a clearing agent, whether the platform constitutes an exchange or an ATS, etc.
The comprehensive elaboration of various compliance issues by the project party, on the one hand, shows that it attaches great importance to project compliance, which is helpful for obtaining the approval of the SEC; The question was thrown to the SEC, and the SEC's opinion was indirectly sought.
