The regulatory stance in respect of Initial Coin Offerings varies from jurisdiction to jurisdiction. Outright bans are in place in South Korea and China, whereas Singapore, Japan, Gibraltar and the Isle of Man have a policy of welcoming them and exploiting the opportunities they offer.

In recent months, however, the ICO model of raising capital has come under a great deal of scrutiny. There is evidence of ICOs being established for the sole purpose of extorting money from unsophisticated investors on the lookout for the next Bitcoin. It is often the same story; a pretence of genuine and viable products which immediately disappear once the ICO closes, leaving investors with nothing more than a token with little to no value. Regulators are now, quite rightly, trying to protect investors from such deceptive schemes.

Having said that, some of them also believe that business owners and investors ought not to be shackled by regulations too oppressively, lest innovation and economic growth suffer. They think of a complete ban of ICOs or punitive taxing policies (as seen in instances in the USA) as too prohibitive.

Closer to home

The Channel Islands have issued statements on the issuance of ICOs, highlighting their unregulated nature and the risks involved. On 2 February, the Jersey Financial Services Commission (JFSC) voiced its concern about claims that certain ICOs were regulated when, in fact, they were not. It announced that any Jersey company issuing digital coins or tokens from Jersey, just like any other Jersey company raising capital through the issuance of shares, would need to obtain its consent to set up that company (pursuant to the Control of Borrowing (Jersey) Order 1958, known as COBO).

The grounds on which the JFSC can decide whether or not to grant consent under these circumstances are limited by statute. It is likely to ask itself whether potential investors have been provided with sufficient information about the company and the risks of investing in it. In addition, it might impose conditions on any consent it grants, insisting perhaps on a clear warning to consumers on any marketing materials that the company produces (saying, for instance, that the ICO is a highly speculative form of investment, that the investor may lose the entirety of his initial investment and that the investment is not subject to existing capital market regulations).

First mover

On 12 February 2018, the Government of Gibraltar and the Gibraltar Financial Services Commission (GFSC) confirmed they were developing legislation relating to tokenised digital assets. After taking comments from interested parties into account, it has now begun to draft legislation to regulate: (a) the promotion, sale and distribution of tokens by persons connected with Gibraltar; (b) secondary market activities relating to tokens, carried out in or from Gibraltar; and (c) the provision, by way of business, in or from Gibraltar of investment advice relating to tokens.

Siân Jones, the senior advisor on the subject of distribution ledger technology (DLT) at the GFSC, said: "Token regulation is the natural progression following the regulation of DLT providers, being vital to the protection of consumers. One of the key aspects of the token regulations is that we will be introducing the concept of regulation authorised sponsors who will be responsible for assuring compliance with disclosure and financial crime rules."

The law, when it appears, will undoubtedly offer an example to other offshore financial centres such as the Channel Islands.

An alternative to ICOs

While debate around the use of ICOs continues, Initial Loan Procurements (ILPs) have emerged as a new fundraising method. An ILP is similar to an ICO but in the form of loans rather than coin acquisitions. It enables borrowers and creditors to sign loan agreements through legally binding smart contracts. With an ILP, a creditor's investment is contractually tied to the performance of the company and eliminates the wild swings of volatility that have been associated with a vast number of ICOs. In simple terms, as long as the company makes a profit, the creditor receives annual returns.

Two Estonia-based companies, Blockhive and Agrello, have formed a partnership to provide the first ILP of its kind, named Blockhive. Blockhive's model removes the issuance of tokens (in the anticipation of future appreciation of those tokens) and replaces it with a contractual entitlement to 20% of their annual operating profits.

Agrello is a legal technology start-up that builds legally-binding, self-aware agreements on blockchain. The use of Agrello ID, a piece of digital identification and signature software, provides the support for legally necessary KYC (know-your-customer) and anti-money-laundering exercises. The agreements from Agrello ensure that creditors' data is encrypted and stored unalterably in the blockchain. To access and transact on the Blockhive platform, users must register 'fully' and receive the protocol's Future Loan Access Tokens (FLATs, which are transferable loans that can be assigned to third parties) as soon as they lend funds to the company. This could go a long way towards alleviating regulators' concerns about fraud and money-laundering.

The ultimate objective is to continue the decentralised crowdfunding opportunities that are similar to ICOs, only this time in a more practical way and without restrictions imposed by regulatory bodies. 

For businesses that do not need tokens, ILPs provide an attractive alternative that allows people to spend more time and energy on developing their businesses, rather than creating tokens with no actual use.

* Luke Sayer can be reached on +44 (0)1481 741508 or at luke.sayer@careyolsen.com