OSC allows a firm to offer an ICO via the offering memorandum exemption.
recent regulatory exemptions granted to companies in Ontario regarding initial coin offerings (ICOs) represent a significant shift within the financial services sector.
In October, Toronto-based TokenFunder Inc. received regulatory relief from the Ontario Securities Commission (OSC) to launch an ICO. TokenFunder is exempt from dealer registration requirements for now and can offer its ICO under the offering memorandum prospectus exemption.
“This is just the very beginning of what I believe is a new world of digital finance,” says Alan Wunsche, CEO and chief token officer of TokenFunder.
An ICO — a.k.a. an initial token offering — is similar to an initial public offering (IPO) in that an ICO is a means by which a company, typically a technology firm, can raise capital. The difference, though, is that individuals who put money into an ICO receive a “coin” or “token” rather than equity in the company in exchange for his or her investment. These coins are a form of crypto-currecy similar to bitcoin. Individuals who invest in TokenFunder’s ICO, for example, will receive the firm’s FNDR tokens.
TokenFunder’s goal for the ICO is to raise $10 million, with which it plans to build a “smart token asset-management platform.” This platform will help other startups launch their own ICOs in a manner that’s compliant with OSC regulations. For example, the platform will help startups with “know your client” and antimoney laundering requirements.
Once TokenFunder’s platform is up and running, FNDR token holders can expect to receive distributions from operating profits, which will come from fees collected from companies that choose to use the TokenFunder platform.
“[A TokenFunder distribution] is like a dividend,” says Wunsche. “[But] it’s not equity; it’s a new kind of financial instrument.”
TokenFunder will have regulatory relief for a year, after which the company will be required to apply for dealer registration.
The OSC approved relief to TokenFunder through the Canadian Securities Administrator’s (CSA) “regulatory sandbox.” Prior to the OSC’s approval, TokenFunder had worked with the OSC LaunchPad, an initiative meant to help startups and regulators understand how new businesses can fit into today’s regulatory environment. (See story at right.)
TokenFunder’s I CO is the second ICO to receive regulatory approval in Canada. The first was Montreal-based impak Finance Inc., which received approval for its impak coin from the Autorité des marchés financiers in August. Individuals who invest in impak Finance receive MPK coins that can be used to purchase goods and services from vendors that qualify for impak Finance’s impact economy ecosystem.
“The impak philosophy is that we want to encourage businesses to comply with the ‘three Ps,’ or a triple bottom line: people, planet, profits,” say Kosta Kostic, a partner with McMillan LLP in Montreal and co-founder of impak.
Taking a different tack, Waterloo, Ont.-based Kik Interactive Inc. decided to exclude Canadians from its recent ICO because of “weak guidance from the [OSC],” according to blog post released in September by Ted Livingston, Kik’s CEO and founder.
Where and how these types of fundraising initiatives fit within securities law still is unclear.
“We’re getting lots of calls on this,” says Allan Goodman, partner with Torontobased law firm Goodmans LLP. “But we can’t say, ‘Look at page 66 of the act.’ [The situation] still is very grey, and we’re still waiting for pronouncements from the regulators.”
The question is whether a company’s coin is a security (it meets the criteria of an investment contract, such as an expectation of profit from the efforts of others) or a utility (the coin’s function is closer to something like a reward points program that can be used in a closed system, such as the issuing company’s platform).
In recent months, global regulators have issued notices that they’re watching this development and to give some indication about their view on ICO products. Earlier this year, statements from regulators such as the U.S. Securities and Exchange Commission (SEC) and the U.K.’s Financial Conduct Authority indicated that these coins may fall under securities law. The SEC also has issued warnings of the potential for fraud through these new offerings. China has banned ICOs outright.
According to a CSA notice published in August: “In many cases, when the totality of the offering or arrangement is considered, the coins/tokens should properly be considered securities.”
The OSC, for its part, encourages companies to talk with the OSC LaunchPad team about potential ICOs.
“The last thing we want is a firm [that] doesn’t even realize they’re in a regulated space,” says Pat Chaukos, chief of the OSC LaunchPad, who adds that the OSC has had its eye on ICOs for some time. She believes that such cryptocurrency offerings “have the potential to change how financial services are offered to Canadians.”
For example, “blockchain” technology (which links related digital records together) could improve the efficiency of securities-related functions such as clearing and settlement, trading and payments. As well, ICOs are a new area of potential investment for individuals and funds that would invest in these companies.
Furthermore, traditional financial services firms may have to decide whether they will stick to offering conventional IPOs or also offer ICOs, the latter of which have lower fees.
Says Eamonn Maguire, global and U.S. leader for New Yorkbased KPMG LLP’s digital ledger services: “The question for some of the conventional players in the sector becomes: ‘Am I having a Kodak moment?’ In the negative sense, as opposed to the positive sense.”
“It’s not equity; it’s a new kind of financial instrument”