Wilson Sonsini Goodrich & Rosati is pleased to present the October 2017 issue of the WSGR Fintech Update. This latest edition features an article discussing the U.S. Securities and Exchange Commission's new "Cyber Unit" initiative that will target cyber-related misconduct, including violations involving distributed ledger technology and initial coin offerings, as well as an article on distributed ledger platform tZERO's efforts to launch a new alternative trading system for trading initial coin offering tokens that are treated as securities under U.S. law.
New SEC Cyber Unit to Hone In on Blockchain and ICOs
The U.S. Securities and Exchange Commission (SEC) has announced that it is launching a new initiative designed to address cyber-based threats.1 The SEC's "Cyber Unit" initiative will target cyber-related misconduct, including violations involving distributed ledger technology (also sometimes called blockchain technology) and initial coin offerings (ICOs). This focus is consistent with recent indications that the SEC and its staff are paying particular attention to ICOs. (For a summary of a recent SEC release addressing ICOs, see our WSGR Alert from July 26, 2017, entitled "SEC Determines That Certain Virtual Tokens Are Securities.")
The Cyber Unit also will focus on potential misconduct, such as market manipulation schemes involving false information spread through electronic and social media; hacking to obtain material non-public information; misconduct perpetrated using the dark web; intrusions into retail brokerage accounts; and cyber-related threats to trading platforms and other critical market infrastructure. The Cyber Unit is designed to complement existing SEC initiatives in this space, including a cybersecurity working group and an effort to implement an internal cybersecurity risk profile.
1A second new initiative, a "Retail Strategy Task Force," is designed to develop targeted initiatives to identify misconduct impacting retail investors (i.e., those who do not have high net worth).
Have an "Overstock" of ICO Tokens? There's About to Be an ATS for That
On September 27, 2017, tZERO (t0), a blockchain-focused subsidiary of Overstock.com, along with RenGen and Argon Group, announced an agreement to launch a new alternative trading system (ATS) for trading initial coin offering (ICO) tokens that are treated as securities under U.S. law (security tokens). The proposed ATS—which, like all ATSs, will be registered as an alternative trading system and a broker-dealer—would be the first token exchange in the U.S. that is opting into the joint regulatory oversight of the SEC and FINRA.
Whether the proposed ATS will add to security token liquidity remains to be seen. At present, liquidity options for holders of security tokens is limited because such tokens are "restricted securities" (as defined in Rule 144 of the Securities Act of 1933 (Securities Act)) that can only be resold in compliance with securities laws. For example, under Securities Act Rule 144, a holder of a restricted security must comply with certain holding periods before reselling (e.g., most relevantly, a one-year holding period). Similarly, resales under Securities Act Section 4(a)(7) are restricted to accredited investors and are subject to a number of conditions, including that the securities at issue must be issued and outstanding for at least 90 days. Any new ATS will have to take these resale restrictions into consideration to truly provide increased liquidity to holders of security tokens.
