Regulators: ICO is basically illegal fundraising, it is recommended to ban it as soon as possible

This article was written by Li Guohui from China Financial Times. The original title is "ICO is becoming more and more popular, and supervision should be implemented as soon as possible"

"Ponzi schemes" are often disguised as "financial innovation."

Data shows that in the first half of this year, the cumulative financing scale of domestic ICO projects was equivalent to RMB 2.616 billion, and the cumulative number of participants reached 105,000.

Since participation in ICO requires payment in virtual currencies such as Bitcoin, the popularity of ICO has directly driven a new round of price surges in virtual currencies such as Bitcoin. Since the beginning of this year, the price of Bitcoin has gradually risen, from more than 6,000 yuan per coin to around 30,000 yuan.

"It's reliable. A professor at a school has made tens of millions of yuan by investing in XX coin." A person in charge of an ICO platform told reporters.

However, a regulator told reporters: "ICO is basically illegal fundraising, and it is recommended to be banned as soon as possible."

The sharp contrast in attitudes shows the controversy caused by the ICO craze. Most experts believe that ICO involves illegal public issuance of securities, is suspected of providing channels for criminal activities such as money laundering, is suspected of illegally absorbing public deposits and illegal operations, and recommends strengthening the supervision of ICO financing risks.

Recently, some media reported that the China Securities Regulatory Commission is seeking opinions from some blockchain companies on ICO, mainly targeting those ICO projects that use virtual currency as a scam. Other media reported that the People's Bank of China and other departments held a joint meeting to discuss the supervision of ICO.

The above-mentioned regulator said that ICO is a cross-financial behavior, and the joint supervision of the central bank and the China Securities Regulatory Commission will be more effective.

Risk warnings are frequently issued

ICO, which stands for Initial Coin Offering, can be translated as "initial token issuance". It is a financing activity in which enterprises or non-enterprise organizations issue tokens with the support of blockchain technology and raise virtual currency from investors. It is called "cryptocurrency IPO".

The National Internet Financial Security Technology Expert Committee recently released the "2017 First Half of the Year Domestic ICO Development Report", which found that there are 43 platforms providing ICO services in China, of which third-party franchises and virtual currency trading + ICO models account for the majority. In terms of the financing currencies supported by ICO, Bitcoin and Ethereum account for the highest proportion, accounting for more than 90% in total.

Since 2017, the total financing scale of ICO projects has reached 63523.64 BTC (Bitcoin), 852753.36 ETH (Ethereum), and some RMB and other virtual currencies. Based on the price at midnight on July 19, 2017, the total amount is RMB 2.616 billion, and the total number of participants has reached 105,000. The scale of ICO financing and the degree of user participation are accelerating upward.

On the evening of August 30, the China Internet Finance Association issued a risk warning, saying that various projects raising funds in the name of ICO have grown rapidly in China recently, disrupting the social and economic order and posing a major risk. First, some domestic and foreign institutions have adopted various misleading propaganda methods to engage in financing activities in the name of ICO. The relevant financial activities have not obtained any licenses, and are suspected of fraud, illegal issuance of securities, illegal fundraising and other behaviors. Investors should remain sober, be vigilant, and guard against being deceived. Once illegal and irregular behaviors are found, they should be reported to the public security organs immediately. Second, due to the unclear assets of ICO projects, the lack of investor suitability, and the serious lack of information disclosure, investment activities face great risks. Investors should make calm judgments, treat them with caution, and bear the investment risks themselves. Third, member units of the China Internet Finance Association should take the initiative to strengthen self-discipline and resist illegal and irregular financial behaviors.

Previously, the Beijing Online Lending Industry Association issued an "ICO Risk Warning Letter" stating that when investors invest in ICO projects, in addition to the possible losses caused by virtual currency technology risks, they may also face legal risks caused by illegal fundraising, money laundering, pyramid schemes and other illegal and criminal activities. For projects with insufficient information transparency, there is also the risk of being defrauded.

ICO constitutes illegal fundraising

According to the different issuing entities, ICO can be divided into ICO with enterprises as the issuing entity and token ICO with non-enterprise organizations as the issuing entity. The issuer of the former is the enterprise. For example, a Swiss financial technology company issued Lykke tokens, and every 100 Lykke tokens can obtain 1 share of the company's equity. The issuer of the latter is not the enterprise, but a non-enterprise organization or group operating according to the contract, such as DAO (Decentralized Autonomous Organization), which is a decentralized autonomous organization.

Depending on the target, ICO can be divided into ICO with products or services as the target, ICO with income rights as the target, ICO with equity shares as the target, and ICO with equity as the target.

Among them, in ICOs where the right to income is the subject, investors can obtain the future income of blockchain projects or underlying assets with the tokens they purchase and hold, that is, the tokens are the certificates of investors' right to asset income. The income may be based on the virtual currency generated by the operation of the blockchain project itself, or it may be based on the cash flow generated by some underlying assets.

Li Aijun, professor at the Internet Finance Law Institute of China University of Political Science and Law, said that virtual currencies or their embedded tokens based on blockchain technology are not real currencies. However, if virtual currencies and embedded tokens can be directly or indirectly freely converted into legal tender, such ICOs are suspected of illegal fundraising based on the nature of economic activities.

In addition, Li Aijun said that ICOs that obtain cash flow income from underlying assets constitute asset securitization under the legal framework of my country. my country has clear regulations on market access, business rules, and risk management for asset securitization, and such ICOs are suspected of being illegal.

Talking about ICOs with equity as the target, Li Aijun said that some ICOs are actually equity, and the tokens issued are the company's share certificates. The "Implementation Plan for Special Rectification of Equity Crowdfunding Risks" stipulates that "platforms and financiers on the platform are strictly prohibited from engaging in the following activities when conducting Internet equity financing: First, unauthorized public issuance of stocks. Issuing stocks to unspecified objects or issuing stocks to specific objects with a total number of shareholders exceeding 200 is a public issuance and should be approved by the China Securities Regulatory Commission in accordance with the law. Unauthorized issuance without approval is an illegal issuance of stocks." Therefore, if this type of ICO constitutes a public issuance, it violates the Securities Law and other laws and regulations in my country.

DAO is a typical ICO with the right to income as the target. Li Aijun said that DAO is similar to contractual funds (investors' invested funds are used to invest in other projects, investors do not actually manage the investment, and investors' income and risks are stipulated in the contract), but it is also different from the latter. DAO administrators have strong actual control over DAO, and token holders have very limited decision-making power, which may lead to risks of fraud and insider trading.

ICO regulation should be implemented as soon as possible

"No matter from the perspective of the issuer, investors or the market, ICO has risks." Yang Dong, deputy dean of the Law School of Renmin University of China, said that first of all, from the perspective of the issuer, ICO involves illegal public issuance of securities, suspected of providing channels for criminal acts such as money laundering, suspected of illegally absorbing public deposits, illegal operations, etc. Secondly, for investors, ICO has risks such as fraud and insider trading. Thirdly, the rampant malicious short-term trading, hacker attacks, and large fluctuations in the value of digital currencies have become the main market risks of ICO, which will bring irreparable losses to investors and easily breed speculative behavior.

According to my country's existing laws and regulations, ICO is not the issuance of securities. At the end of July, the U.S. Securities and Exchange Commission (SEC) issued an investigation report, believing that the DAO's ICO project tokens constitute securities and should comply with federal securities laws and be registered or exempted.

"The history of financial development has fully proved that no matter what form public financing takes, it cannot completely avoid its information asymmetry, moral hazard problems, fraud and fundraising risks." Li Aijun suggested that ICOs should be subject to behavioral supervision, penetrating supervision and multi-level supervision, and strengthen supervision of market access, product prices, market exit and other aspects at the micro level, and strengthen supervision of regional and national financial operations at the meso and macro levels. Many experts suggest that ICO supervision should focus on the following points: product registration, information disclosure, asset custody, project authenticity, and qualified investment.

Regarding the current attitude of the regulatory authorities, a blockchain researcher told reporters: "Regulators have always been tolerant of new things on the basis of maintaining red lines. For example, from the perspective of traditional taxi drivers, online taxis are "black cars", but they do partially solve the contradiction between supply and demand."

The above-mentioned regulator emphasized: “There is no time to waste. The relevant departments should make their positions and attitudes clear and ban ICOs as soon as possible.”

However, one point that all parties have reached a consensus on is that "novice" users who do not understand ICOs should not participate blindly. When it comes to blockchain, virtual currency and ICOs, they should patiently wait for the regulatory hammer to fall.