This week I had the good fortune of catching up with John Salmon technology lawyer at Hogan Lovells, we had an interesting and wide ranging talk on what’s going on in crypto-land, new forms of raising money, and the laws and regulations that affect them.
Colin Platt (CP): Hi John, it’s been a little while since we last spoke, great to finally be able to catch up again. Thank you for taking the time.
John Salmon (JS): Hello Colin, yes it has been, and great to be involved.
CP: John, before we get too in-depth, would you mind sharing a bit about your background?
JS: Sure, I’m a London-based partner at the law-firm Hogan Lovells, and have worked as a technology lawyer, advising on digital and online legal issues for more than 20 years. For the last 15 years, I’ve focused on financial institutions and technology companies working in innovative areas, which we now call FinTech. As you can imagine, I have spent quite a bit of time looking at cryptocurrencies and blockchain technologies.
CP: Great place to start actually. I’m really curious about your take on this raft of acronyms that have been flying around, ICOs, STOs, IEOs. Projects are using tokens and cryptocurrencies to raise money, what are some of the challenges that you see?
JS: You’re right, they have been popular and we have had a number of discussions with clients on what is, and isn’t allowed, and the implications of what they are looking to do. There are still several areas which need further clarity from policy makers and regulatory bodies. This is an important distinction to make, while people like to group policy makers and regulators together, they have very different roles, and levels of understanding. By and large, policy makers have historically seen cryptocurrencies and using these assets to raise funds as a way for people to get around the rules. Regulators focus more on AML, terrorism funding prevention, investor protections, and increasingly cyber privacy issues like hacks. In addition to working with clients, my role has also been to educate policy makers, and regulatory bodies about these markets.
CP: I often hear people in this space say that the rules are unclear, or the existing rules unfit for crypto. What is your take?
JS: This is a complex area. To some extent there are teams that simply don’t like what the rules say, or don’t want to hear the truth, others are confused about how they apply. The fact is that while many of the existing rules do work, 10-20% don’t really work at all or were designed for an analogue, centralised world. We see wording in the rules where it was assumed that a single regulated entity could sit in the middle and act as gatekeepers. Ultimately rules, like those around money laundering, put the job of policing at the banks. In cryptocurrencies, this may not always work. We can very much look to the roots of bitcoin, which grew up in the wake of the 2008-2009 financial crisis, and found supporters who were disillusioned with the existing system and often used bitcoin as a way to get around failures.
CP: So this is an interesting point. Today we’re talking about tokens and rules, but as you point out, the early roots of cryptocurrencies, in many instances, could be seen as rejecting the rules. How does this square up?
JS: Really good point, ICOs are generally looking for clear rules rather than breaking the rules. Clients that come to us generally want to follow the law, they often just don’t know how. We talk a lot about the Howey test in the United States, but in Europe things are different, and what’s quite interesting is that European regulators have opened up the possibility of utility tokens. They have gone one step further and stated that utility tokens may completely fall outside of regulated parameters, these things are very unclear and it is currently very easy to get pulled back into a regulated area in one way or another. This can be because of the way that it was issued, or the lack of actual utility, or the way that it is marketed or promoted. It’s also important to note within EU regulations, that while EU countries are adopting more complex sets of rules for cryptocurrencies, they still also need to respect EU regulations like MIFID II, which can be complex for those working in this area.
CP: I am always fascinated by the notion of utility tokens, and personally feel like a lot of the project purporting to be utility tokens are just trying to hide what is actually a security. What are some of the things that you might look at to determine if it is actually a utility token?
JS: As I said, doing it right is really hard, and there aren’t clear tests yet, but areas like marketing, issuance and utility are important. The Swiss regulator, Finma, have expressly talked about utility at the point of issuance. Take for example a “blog token”, you sell a token that gives you access to read this blog, that’s useful today. Maybe you use that money to pay yourself and expand the blog, so in time that token could become more useful, even more valuable than the money you paid today. It’s pretty clear in this example that anyone that bought the token did so for the purpose of the underlying utility and not on the basis of trading a security.
CP: I like it, I should start charging everyone to read this blog. You did mention something important, the potential value going up over time. What about secondary markets, are those important factors?
JS: There are varying views on this. Having a secondary market for a utility token isn’t a non-starter, but some regulators may look at this as an indicator of whether the token is an investment or not. Intentions are very important, and the things that issuers do and say will have an impact. For instance, paying listing fees to cryptocurrency exchange venues could, in some circumstances be seen as a negative. Simply having a secondary market however, isn’t necessarily definitely negative, Wimbledon sold debentures to fund the development of its stadium and these are tradeable on a secondary market. Stamps are another excellent case, all postage stamps have a defined utility, but some have collector value and trade on platforms, this doesn’t detract for their utility. It is similar if we look at investors buying houses off plan and then reselling them.
CP: John, thank you very much this has been fascinating. I think that we’re going to need you to come back again soon to discuss more of these areas and look into how things evolve.
JS: It would be my pleasure to come back. Thank you.