Lexpert Magazine

June 2018

Lexpert magazine features articles and columns on developments in legal practice management, deals and lawsuits of interest in Canada, the law and business issues of interest to legal professionals and businesses that purchase legal services.

Issue link: http://digital.carswellmedia.com/i/990152

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Page 64 of 75

LEXPERT MAGAZINE | JUNE 2018 65 | BLOCKCHAIN TECHNOLOGY | US$4 billion in 2017. Initial coin offerings, also known as initial currency offerings, are a species of crowdfunding for startup companies that uses cryptocurrencies as a medium of exchange. An ICO involves the sale of crowdfunded cryptocurrency in the form of "tokens" in exchange for legal tender or other cryptocurrencies such as bitcoin or Ethereum. e value of the "tokens" is said to be in their potential as future functional units of currency when the ICO meets its goals and the underlying project launches. But ICOs currently operate in a gray zone: it remains unclear whether any par- ticular "token" is a "security" that creates an expectation of profit or a "utility" that carries an expectation of use. e former is subject to securities regulation; the lat- ter is not. But what fits where is as yet un- clear, and the uncertainty has contributed significantly to the perception of ICOs as risky endeavours — a perception borne out by Fortune magazine's report that nearly half of ICOs issued in 2017 had failed by February 2018. In response, China and South Korea have banned ICOs outright. For its part, the US Securities and Exchange Commis- sion (SEC) has stepped up its regulation of the industry, going so far as to issue a cease-and-desist order against Munchee Inc., a mobile restaurant review app, in late 2017. Other American agencies figuring out how to regulate blockchain and cryp- tocurrencies are the Commodities Futures Trading Commission, the Financial In- dustry Regulatory Authority and the Fed- eral Trade Commission. In the United Kingdom, the Financial Conduct Authority recently warned firms offering services related to crypto-deriv- atives that it had jurisdiction over them. e European's Parliament's most recent anti-money-laundering directive included measures to regulate platforms on which virtual currencies are exchanged for legal tender, a step previously taken by both Aus- tralia and South Korea. And at the March meeting of the G20's central banks, their governors committed to extending exist- ing standards, like know-your-customer directives and procedures for tracking sus- picious transactions, to the crypto-world. Canadian regulators, for their part, have not as yet released specific guidance on when a token will be considered a se- curity. According to Davies Ward Phillips & Vineberg LLP's 2018 Canadian Capi- tal Markets Report, the determination of whether a token is a security "will not be isolated to whether or not the token has 'utility' but will ultimately depend on the relevant facts and circumstances". e re- port adds: ere are a number of legitimate purpos- es for conducting an ICO other than rais- ing capital. For example, some blockchain entities use an ICO to distribute tokens to parties interested in using the platform, ef- fectively creating a user base and kickstart- ing the network. Fortunately, Canadian regulators have been willing to provide what amounts to advance rulings about an ICO's suscep- tibility to securities laws. e first was obtained by Fasken for Axion Zen, a Van- couver company, when regulators provided a formal determination that the tokens Ax- ion sought to generate for its CryptoKitties game, were not securities. CryptoKitties — the first game suc- cessfully built on the Ethereum network — allows players, using ether tokens as the medium of exchange, to purchase, collect, breed and sell various types of virtual cats — with the blockchain ledger recording and verifying all transactions. e game, so successful that it slowed down the Ethe- reum network by an estimated 11 per cent, has been hailed as an indication of the growing potential of blockchain technol- ogy. "CryptoKitties was the first legal Ca- nadian ICO," says Mike Stephens. Indeed, 2017 was a breakout year for the cryptocurrency asset class. "Many tradition- al and alternative asset managers launched investment funds and offered asset manage- ment services relating to these assets," says Stephen's partner Christian Jacques. Here again, and also in the financing field, the rapidly shiing regulatory land- scape has been primordial fodder for law- yers -- so has the need for crypto-mining fa- cilities. "Canada offers some of the world's best locations for crypto-mining facilities, whose setup has also involved our real es- tate and energy groups in various issues," Jacques says. Not surprisingly, blockchain also en- gages intellectual property (IP) issues, and in a variety of ways. At the heart of these issues is the fact that many developers are stacking soware solutions on the technol- ogy, using blockchain to power their appli- cations. "Ownership of that IP, especially as it moves into the open-source arena, then becomes a question," Stephens notes. "Clients are also asking about licensing and soware agreements, among other things." e bottom line for in-house counsel, then, is this: blockchain, either as an inde- pendent business or as part of your business, is likely coming your way. Do you know enough to ask the right questions when it does, or preferably, before it gets there?

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