Are loose regulations for security token offerings blocking growth in the US?
By Vanessa Malone
Last week, Props, a token protocol giving its owners benefits within the YouNow influencer live-streaming network, announced it will shut down its loyalty rewards program and cease maintaining the Props protocol at the end of the year.
The news puts the spotlight back on the regulatory landscape that token issuers have been trying to operate within.
Going back to July 2019, Props had just made history as the second Regulation A+ (Reg A+) token offering to be qualified by the SEC, following Blockstack. A major industry feat, the community was hopeful for Props and Blockstack to kick off a new wave of regulated token offerings that fit into the existing securities ecosystem.
The promise of Reg A+ for token offerings
If we could combine the attention and deal flow ICOs generated with necessary regulation and investor protection, it looked as though both the blockchain industry and Reg A+ model would benefit significantly.
Up until the Blockstack and Props Reg A+ qualifications, the only security token offerings to be conducted in the US using existing regulations have been through rule 506(c) of Regulation D (Reg D) and Regulation S (Reg S). Reg D only allows accredited investors, or high-net worth individuals, to participate. Reg S was for foreign participation.
Reg A+ aligns much more closely with blockchain community values. The fundraising vehicle gives investors of all levels access to early-stage investment opportunities typically reserved for high net-worth individuals. Also worth noting that securities sold in a Reg A+ offering are not restricted so investors don’t have to deal with a lock-up period like they do for Reg D.
Blockstack’s approval for a $28 million digital token sale followed shortly after by Props qualification to issue its utility token to investors of all levels under a Reg A+ securities offering seemed to clear a trail out of the messy ICO market and into the future of compliant token offerings, even for those who fit the mold of a utility token.
The regulatory roadblocks
The road less travelled clearly came with some speed bumps for our pioneers.
Blockstack reportedly spent ~$1.5 million on legal fees and 10 months from when the company submitted its confidential draft filing to receiving the qualification. For reference, a traditional Reg A+ offering from the start of the filing process to qualification typically takes 90–120 days. The company even joked that the time and money spent was a donation to the crypto community.
What Blockstack and Props did was try and fit their utility token models into traditional securities offerings. Both entities made it clear that they hoped to evolve into full utility token status, a nod to the SEC to potentially create approved framework surrounding utility tokens in the future.
Reg A+ was designed for security instruments, a tool companies could utilize to offer debt or equities securities, or securities convertible into debt or equity such as options and warrants.
Blockstack used Reg A+ to issue utility tokens to use as currency in their network. Props used it to do the same for its influencer network on YouNow.
Props gives us insight into the hurdles this created, citing the regulatory constraints that have hindered company growth in the company’s closure announcement.
“The regulatory constraints under which Props is operating, we no longer believe that the Props Loyalty Program has a viable future.”
Specifically, as qualified securities, Props felt they were unable to respond quickly enough to the changing market conditions in a way that made commercial sense.
“The Reg A+ continuous offering environment in which we operate requires us to make public filings and often get prior regulatory approval for product changes. As a result, we are unable to follow anything remotely like proper product development of “launch, measure, iterate” and struggle to launch new key functionalities we develop (like staking or per-app tokens).”
As one of the first to choose Reg A+, the weight of the issues they faced could make others hesitant to consider Reg A+ as a viable option.
Why issuers could be drawn outside the US.
While more regulation has come to the crypto market, it seems more focused on policing than smoothing the path for these types of token offerings to reach US investors or support US issuers in their ventures.
The new SEC chairman Gary Gensler has already called for more authority to police cryptocurrency trading, lending, and other blockchain trading platforms.
On January 1, 2021, Congress passed the Anti-Money Laundering Act of 2020 as part of the National Defense Authorization Act, with the biggest changes to the Bank Secrecy Act (BSA) in two decades. This extends the scope of the BSA to crypto exchanges, maintaining that virtual currency businesses are money services businesses, and therefore, subject to BSA requirements that combat money laundering and fraud.
This all comes as the blockchain community and token community continues to plead for clearer regulations that don’t suffocate innovation. For US-based issuers and investors, it may be more appealing to look outside of the US for fairer regulation.
Upstream global exchange offering a secure market for compliant security token offerings to trade among fans globally
Another critical issue highlighted through Prop’s Reg A+ offering was the lack of secondary trading opportunities available in the US. As mentioned above, Reg A+ securities are freely tradeable with no lock-up period. However, no liquid marketplace exists for these types of securities.
Props states “although we submitted to the regulation of Props Tokens as qualified securities, no US exchange has been able to list crypto assets such as the Props Token, which has hindered holders wishing to trade them.”
Along those same lines, Blockstack stated “there are currently no national securities exchanges or exchanges that have been approved by FINRA or registered under Form ATS with the SEC to support the trading of Stacks Tokens on the secondary market.”
Upstream, a MERJ Exchange Market, is a fully regulated global stock exchange for digital securities expected to go live in the near future.
Powered by Horizon’s proprietary matching engine technology, we aim to make the exchange a global hub for compliant security token offerings, IPOs, SPACs, crowdfunded companies, US & Int’l. equities, and celebrity ventures.
Although a global exchange, Upstream was built by a team of Wall Street veterans and software engineers to meet US-securities and bank-secrecy laws as standard practice.
Investors of all levels will gain direct access to the exchange via a userfriendly trading app and be able to trade using USDC stablecoin or traditional bank payments.
THIS BLOG SHALL NOT CONSTITUTE AN OFFER TO SELL SECURITIES OR THE SOLICITATION OF AN OFFER TO BUY SECURITIES IN ANY JURISDICTION WHERE SUCH OFFER OR SOLICITATION IS NOT PERMITTED. US INVESTORS ARE NOT PERMITTED TO TRADE IN UPSTREAM LISTED SECURITIES.