With the rise in popularity of cryptocurrency, many small
fintech businesses have begun developing their own coins and
tokens. This has led to a rise in Initial Coin Offerings
(“ICOs”) and Initial Token Offerings
(“ITOs”) as a means to raise investor
funds to develop the coins/tokens. ICOs/ITOs can trigger
registration and prospectus requirements under securities laws, and
as such fintech companies should first consider applicable
securities legislation.
ICOs/ITOs may involve securities
Each province in Canada has its own securities legislation,
which has led to some differences in how a “security” is
defined depending on the jurisdiction. However, securities
legislation in every province includes “investment
contracts” within their definition of a
“security.”1
An “investment contract” is a catch-all term which is
capable of applying to a broad array of contractual relationships.
In Pacific Coast Coin Exchange v Ontario Securities
Commission, the Supreme Court of Canada broadly defined an
“investment contract” as: 1) an investment of money, 2)
in a common enterprise, 3) with an expectation of profit, 4) to
come significantly from the efforts of others.2
On August 24, 2017, the Canadian Securities Administrators
(“CSA”) issued CSA Staff Notice 46-307
Cryptocurrency Offerings (“SN
46-307”), which noted that securities regulators have
encountered many instances where the coins/tokens in question were
securities as they fell within the scope of an “investment
contract.”3
Potential registration requirements
Companies launching ICOs/ITOs which involve securities may be
required to register as a dealer. Securities regulators will
examine whether the company is trading securities with a business
purpose to determine if it needs to be registered. This is called
the “business trigger” test and is outlined in Part 1.3
of the Companion Policy to National Instrument 31-103
Registration Requirements, Exemptions, and Ongoing Registrant
Obligations (“NI 31-103”).4
In the context of ICOs/ITOs, securities regulators have found
the following factors to be important to an application of the
business trigger test: 1) soliciting a broad base of investors; 2)
using the internet to reach a large number of potential investors;
3) attending public events to actively advertise the sale of the
coins/tokens; and 4) raising a significant amount of capital from a
large number of investors.
Registrants are subject to a number of requirements under NI
31-103, including Know-Your-Client and suitability obligations.5
Securities regulators have noted that fintech companies may be able
to meet these obligations through the use of an automated online
platform.6
Potential prospectus requirements
ICOs/ITOs may also engage the requirement to prepare and file a
prospectus. While it can be very costly and time-consuming to meet
prospectus obligations, exemptions from this requirement may be
available under National Instrument 45-106 Prospectus
Exemptions.7 Issuers typically make use of the
accredited investor or offering memorandum
(“OM”) exemptions.
While some fintech companies have attempted to utilize the OM
exemption through the publication of a whitepaper, securities
regulators have warned that fintech companies should be careful to
ensure that the whitepaper conforms to all of the disclosure
requirements of an OM.8
The CSA Regulatory Sandbox
The CSA Regulatory Sandbox
(“Sandbox”) was created to allow firms
to register and/or obtain exemptions from securities requirements
under a faster and more flexible process than a standard
application. A fintech company, or their legal counsel, seeking
exemptions from securities laws should consider advising their
local regulator that they want to proceed via the Sandbox.9
Key takeaways:
- ICOs/ITOs may engage registration and
prospectus requirements under securities laws; - Exemptions from securities laws may
be needed prior to launching the ICO/ITO; and - Fintech businesses seeking exemptions
from securities laws may want to proceed through the CSA Regulatory
Sandbox to obtain an exemption in a faster, more flexible
manner.
Footnotes
1.
Securities Act, RSBC 1996, c 418, s 1(1); Securities
Act, RSA 2000, c S-4. 1(ggg); The Securities Act,
1988, SS 1988-89, c S-42.2, s 2(1)(ss); The Securities
Act, CCSM, c S50, s 1(1); Securities Act, RSO 1990, c
S.5, s 1(1); Securities Act, CQLR, c V-1.1, s 1(7);
Securities Act, SNB 2004, c S-5.5, s 1(1); Securities
Act, RSNL 1990, c S-13, s (1)(qq); Securities Act,
RSPEI 1988, c S-3.1, s 1(1)(bbb).
2. [1978]
2 SCR 112.
3.
Available online:
https://www.osc.gov.on.ca/en/SecuritiesLaw_csa_20170824_cryptocurrency-offerings.htm#N_1_1_1_6_;
also see CSA Staff Notice 46-308 Securities Law Implications
for Offerings of Tokens, available online:
https://www.osc.gov.on.ca/en/SecuritiesLaw_csa_20180611_46-308_securities-law-implications-for-offerings-of-tokens.htm.
4.
Available online:
https://www.bcsc.bc.ca/securities-law/law-and-policy/instruments-and-policies/3-registration-requirements-related-matters/current/31-103/31103cp-registration-requirements-exemptions-and-ongoing-registrant-obligations-cp.
5. NI
31-103, Parts 13.2 and 13.3.
6. SN
46-307.
7.
Available online:
https://www.bcsc.bc.ca/securities-law/law-and-policy/instruments-and-policies/4-distribution-requirements/current/45-106/45106-prospectus-exemptions-ni.
8. SN
46-307.
9. See
the following for the application process:
https://www.securities-administrators.ca/industry_resources.aspx?id=1588.
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
