Security Token Offering - Legal Overview (EN)

Digitalization of financial securities, contextual analysis of the regulations:

 In recent years, the European financial securities market, which experienced strong growth before the crisis, has somewhat weakened. Many causes for this slowdown are advanced and many stakeholders suggest that securitization processes be modified, simplifying them, making them less opaque, so as to reduce the risks associated with them. 

Recent crises have been amplified by the misuse of financial instruments (CDO, SWAP), which has contributed to the extension of the intermediation chain, given the many parties involved. The system was then more complex and therefore more unstable, leading to speculation. This without even feeding the real economy. 

Faced with these issues, the "Tokenization" of financial securities offers viable solutions: disintermediation, greater flexibility and transparency, while ensuring a high level of security and "compliance".

To this day, the legal framework is still under construction, even in full swing. The gray areas remain numerous as to the use of Token in the context of the financial markets. However, the recent legislative developments as well as the positions taken by the Financial Markets Authority on Token in ICOs and the reports of the European authorities, show that the regulation tends towards an admission of certain types of token: "digital securities” (or Investment Tokens) as financial securities, given the considerable benefits of their use in these areas. 

The Monetary and Financial Code (CMF) defines in its article L.211-1 II the financial securities as being: the capital securities issued by the companies; debt securities; units or shares of undertakings for collective investment. For its part, the Sapin 2 law invited the Government to "adapt the law applicable to securities and securities in order to allow the representation and transmission, by means of a shared electronic registration system, of financial securities which are not admitted to the operations of a central depository or delivered in a settlement and delivery system for financial instruments ". Since the notion of central securities depository is not defined by French law, reference should be made to EU Regulation 909/2014.

It specifies that securities registered with a central depository, listed financial securities, are excluded from the admission of shared electronic registration devices ("Blockchain" technology).

However, the financial securities defined in Article L.211-1 II of the CMF are not transferable securities. As a result, those who do not fall under the obligation of admission to a central securities depository can circulate in a system based on the Blockchain. Thus, the Ordinance of 9 December 2017 (Ordinance No. 2017-1674) opens the possibility of the use of shared electronic registration devices (DEEP) to all the financial securities referred to in Article L. .211-1 II of the CMF. 

Then, is the problem of the transmission of financial securities. It is therefore necessary for the legislator to go much further than this order and continue the reform movement by expressly providing in the texts the possibility of using certain types of Tokens, as digitized assets and as separate financial instruments. whole.

Among the notable developments, the entry into force of the new European regulation "Prospectus 3" led the AMF to amend its general regulations. Thus, the national threshold from which an offer of securities must be the subject of a prospectus is raised to 8 million euros. This measure came into effect on July 21st. This should help to attract foreign investors, notably by offering financial securities on a crowdfunding website. Below this threshold, a summary information document will be required for unlisted securities offers open to the public. This is a national ad hoc information system, without prior review by the AMF (AMF Instruction DOC-2014-12).

On the other hand, the Fifth Anti-Money Laundering Directive (Directive (EU) 2018/843 of 30 May 2018) implies increased surveillance of the Fintechs, who become real players in the financial ecosystem. Crypto-currencies will be subject to regulation and virtual currency exchange and storage platforms will have to verify the identity of their customers.

In the long term, Tokens, subject to certain characteristics, must be able to benefit from the legal qualification of financial instruments in order to free the process of digitization of the financial markets. As such, the practice tends to be ahead of the regulations, especially in terms of ICO's and Tokens trading platforms. This market has grown exponentially in recent years, with strong growth in 2018.

In view of the fact that Tokens are at present not, in most cases, considered as financial instruments, a large part of this type of operation escapes any regulation. One approach is to regulate these transactions by applying the criteria of the Markets in Financial Instruments Directive, which defines the framework for the exercise of market activities in Europe and is currently under revision.

This new regulatory framework was adopted in May 2014 with the aim of improving the security, transparency and functioning of financial markets, as well as strengthening investor protection.

In France, the bill PACTE (law for the growth and transformation of companies) proposes new definitions of tokens as "any intangible property representing, in digital form, one or more rights, which may be issued, registered, retained or transferred by means of a shared electronic recording device making it possible to identify, directly or indirectly, the owner of the said property ". The majority of Tokens today, within the meaning of European law, are not financial instruments because the rights attached to these tokens are not equivalent to the equity or debt regimes. It therefore appears necessary that the regulation takes into account the diversity of Token typologies and distinguishes those that represent rights to one or more underlying assets. These are indeed relative to real financial contracts.

 In the ecosystem related to the use of Token in the financial markets, the secondary market for the transmission of financial instruments is also expanding, which required regulation. The future PACTE law will partially regulate the activities of the trading platforms and digital token transmissions with a control carried out by the Autorité des Marchés Financiers.

In conclusion, it appears necessary for any player in the FinTech / Blockchain ecosystem to send a real message of accountability, in order to show compliance to the regulations. It is above all a question of credibility, which is a crucial element in the development of this type of activity.

Published in the French Governance' think tank, September 2018.