18 June 2019

Will the Kik lawsuit impact the appetite for tokenised capital market raises?

For the past few weeks, the threat of legal action has been hanging over the Canadian mobile messaging app Kik Interactive Inc. over whether they conducted an illegal $100 million securities offering for its ‘Kin’ token back in 2017.

In anticipation of such a lawsuit being filed by the U.S. Securities and Exchange Commission (SEC), Kik launched a “Defend Crypto” crowdfunding initiative in May, to support any court battle.

Their pitch is that “a lawsuit would eventually result in a new Howey test for crypto tokens, to determine which ones are a security.” So in short, it would benefit all.

Since then, the SEC has filed its lawsuit for Kik’s 2017 Initial Coin Offering (ICO).

The use of ICOs is controversial – some see them as viable investment tools, technologies and the future for a modern cashless society, with others seeing them as a medium to facilitate criminal activities.

ICOs , also known as ‘token sales’, are a digital way of raising funds from the public using a virtual currency (or cryptocurrency) – they rose in popularity in 2017, along with cryptocurrencies generally.

The problem with ICOs is that the tokens have no underlying tangible value, unlike stable coins which are tethered to fiat (standard) currency or commodities and which have a core underlying asset/legal ownership by the token holder.

This has led to the emergence of Security Token Offerings (STO) and Initial Exchange Offerings (IEO) where there is greater regulatory certainty, increased due diligence/security and increased compliance to protect investors.

 

Regulatory uncertainty

 

The SEC’s primary allegation is that Kik did not register the ICO sale with the correct authorities and therefore they are in violation of US securities law.

The case raises some interesting issues. The digital asset space is incredibly fast-moving and, as is often the case, regulators have to play catch up. While growing quickly, the sector is still immature, so regulators will not want to make any snap decisions. Indeed, the UK Cryptoasset Taskforce set up by the Financial Conduct Authority is tasked with simply assessing the potential impact of Cryptoassets and Distributed Ledger Technology in the UK and considering appropriate policy responses.

The lack of regulatory certainty, combined with the industry’s desire to grow rapidly, has led a number of people to comment on the attractiveness (or otherwise) of certain jurisdictions for young crypto businesses.

The Financial Action Task Force (FATF) has kicked off its meeting to discuss global cryptocurrency regulations which the G20 countries have committed to follow, so watch this space for updates.

The US, which is currently a natural home for successful start-ups, particularly in the tech sector, may not hold that status for future blockchain businesses and in particular, digital asset businesses.

This gives other jurisdictions, the UK included, an opportunity to attract these entrepreneurs and become a real incubator for digital asset businesses.

 

What does the future hold?

 

As the demand for digital assets increases, so does the need to proportionately monitor, regulate and enforce against infringers. Kik’s suit has the potential to shape future securities law for digital assets in the US.

This will not happen overnight. In the meantime, there will still be a demand for fund raises. The market shift towards STOs and IEOs is no coincidence but people are still steering away from the US as a jurisdiction for investment at the moment. There is an emerging market for STOs/IEOs, with participants such as Securitize, Polymath, Harbor, Swarm and Securrency leading the charge.

We believe the appetite for STOs and IEOs will increase but there is a definite shift towards more regulated and controlled primary issuing of tokens in capital markets.

Speak to our experienced team if you would like to discuss any aspects of blockchain for your business including digital assets, STOs and IEOs.

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About the Author
Harry Bengough, Partner, Head of Banking and Finance Team
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