Study On Legal Regulation On Initial Coin Offerings

Initial Coin Offerings(ICO)is a new Financial Technology(Fin Tech)innovative mode utilizing block chain technology to issue tokens for the purpose of raising funds for the enterprises.The funds collected through ICOs in 2007 exceeded the amount raised through traditional venture investment.Issuers sell tokens during the ICO process and purchaser buy the sold tokens using fiat currency or virtual currencies such as Bitcoin and Ether.Then the tokens could be resold in token exchanges.There are usually four stages in ICOs which are publishing white paper,token pre-sale,project development and network launching.Since 2013 ICOs have experienced different developing stages including prototype stage,early start-up stage,late start-up stage,early growth stage and late growth stage.The tokens issued by ICOs can be functionally categorized as payment tokens,utility tokens and assets tokens.From the perspective of securities law,the tokens can be recognized as securities tokens and non-securities tokens.Chinese regulator regards the tokens as notes and bonds tokens,securities tokens and other tokens.The focus of this paper is on the regulation of securities tokens.Regulators of different jurisdiction adopt a variety of regulating policies including No Regulation,Selective Control ex ante,Full Control ex ante and Prohibitions,among which Selective Control ex ante is possibly the most balanced mode to promote innovation and capital forming.China took the strictest way to totally ban the ICOs in any forms.In July,2017,SEC published the DAO investigation report in which SEC made a legal analysis adopting Howey Test determined by the Super Court on whether the DAO tokens were investment contract in 1922 Securities Acts or not and drew an affirmative conclusion that the issuance of DAO token should be regulated by Securities Act by the virtue of that the basic principles of Securities Act governs the virtual organizations like The DAO,the virtual currencies of DAO investors constitute money investment,the investors have reasonable expectation of profit,and such expectation is from the efforts of others since the Founders of The DAO made promotion before the launching of the DAO,would determine projects and monitored the network actively,and the holders of the tokens has no enough power to control the enterprise.However,it is still not clear in the Report that the representation or promotion of the token reselling in secondary market can be construed as efforts from others.In the subsequent Administrative judgement of Munchee case,SEC ruled that the forging of business ecosystem supporting secondary market by the issuer constituted not only profit expectation but also buyer's relying on the efforts of others.Although no property rights were embodied into the tokens issued by Munchee company,having took account of the presentation of value increasing and the tradability in exchange of the tokens,such tokens shall be regarded as investment contract.SEC filed several cases in a variety of district courts aiming at unregistered token issuance and the fraud and misleading representation with the regulating purpose to enhance investor protection.China has not incorporated ICOs into the scope of supervision of the Securities Act.As for virtual currency,China regards its attribute as virtual commodity,and the United States recognizes its economic monetary attribute.Securities defined in China's existing securities law do not include investment contracts.The behaviors of Howey company in the Howey case will constitute illegal public deposit absorption as stipulated by the law of China.Investment schemes in some illegal public deposit absorption cases in China belong to investment contracts under the Securities Act of the United States.The issuance of DAO tokens constitutes illegal public deposit absorption under the law of China but not securities issuance.China does not permit the issuance of securities tokens,while the United States allows the issuance of securities tokens in accordance with its legal provisions.In practice,companies such as Overstock.com,Monster company,Protocol Labs,Praetorian Group,etc.have registered for issuance or exemption according to the provisions of the United States Securities Act,and the registrations have been or are in the process of taking effect.There are significant differences in the way the two countries regulate,with the United States still ranking fifth in terms of funding for ICOs projects in the first five months of 2018,stepping down from the world's No.1 in 2017,but still having a place.China has no relevant statistics,and is outside the ranking list.Taking this as an indicator,China's regulatory strategy has a negative impact on financial technological innovation.In order to balance the regulatory objectives of controlling financial risks and encouraging financial innovation,it is suggested that our regulatory policies should be adjusted to allow the issuance of securities tokens by initial coin offerings after having incorporated securities tokens into the scope of investment contracts in the light of the reform of the registration-based securities issuing system and the in-progress amendment of the securities act.As per the secondary market,securities tokens should be permitted to be traded in legally licensed trading institutions.At the same time,in order to protect the interests of investors,information disclosure in ICOs should be strengthened.In addition to the traditional information required to be disclosed,independent third-party should be introduced to audit technical defects of software codes and the results of auditing should be disclosed.At the same time,third-party auditing and disclosure of the implementation of smart contracts should be carried out to ensure that the smart contracts to fulfill the issuer's commitment to protect the interests of investors.