ICO – how it all started
ICO (Initial Coin Offering) is a term that originated in practice, linguistically imitating an IPO or Initial Public Offering – an institute of public offering of shares (i.e. a process that is regulated by law and subject to strict legislative procedures and rules). Instead of offering shares, the issuers of the tokens offered their tokens for sale (usually registered on a blockchain), which they stated give investors certain rights or bring in certain earnings.
The first ICO took place in 2013, and a year later, Etherium raised funds of several million dollars in a few hours, which started the wave of ICOs that peaked in 2018. The rise of ICOs was fuelled by the fact that Bitcoin gained a minimum of trustworthiness and the possibility for big gain, allowing anyone from any part of the world, using only a mobile phone, to become an investor in any project they liked, for the amount that does not have to be large, and without any the need to inform or request permission for such activity, without a broker or agent, without the participation of any bank.
The governments of the countries and international institutions, primarily international financial institutions, initially looked at this phenomenon reluctantly, with the conviction that it would pass, that is, fail and that it could not affect the established systems and the established way of functioning of business and finance. However, when this phenomenon led to changes in the way of investing, the way of financing business, waiting for failure was no longer an option, so there were changes in certain legislation or the application of existing regulations, but also the full readiness of all institutions that care about money (and there are few who don’t), including banks.
Initially, there was no regulation, i.e. until attention was not paid to the ICO, the ICO’s advantage was reflected in its simplicity. Namely, the issuers of tokens announced their goals through a white paper, and through a marketing campaign (usually through the Internet, and later through more versatile marketing) and offered for sale their tokens (coins) which should bring income to the owners or to grant specific rights. Interested parties bought tokens by buying Bitcoins and paying for tokens in Bitcoins. As Bitcoins are stored in a virtual wallet (which is accessed via a key, i.e. a code containing words), it meant that the ICO of countless millions of dollars, from investors all over the world, could be conducted without any permission or approval from a state authority, without regulated procedures, without any participation of the banks (the issuer of the token did not even has to have a bank account, and most often one could not open it, because such clients were not welcome in banks).
ICO in Serbia (in July 2021)
That is how it all started, and today, following the example of certain European legislators, Serbia decided to deal with the ICO and the Law on Digital Assets was passed.
According to the Law on Digital Assets, digital asset is a property on which a particular person has a title on property but the property is digitally registered (in a digital database, which can be DLT or any other technology that can serve this purpose), has a specific value, can be digitally bought, sold, exchanged or transferred, for the purpose of barter or investment.
Thus, the Law is explicit that digital assets are not used for payment, i.e. that cryptocurrency is not money, but one can exchange cryptocurrency for a service or goods, and this is treated as barter. De facto, this activity is a payment, but de iure it is not. The “exchange” was used to satisfy the central bank’s position that cryptocurrency is not money, resulting in a further impact on the legal status and the tax treatment of cryptocurrencies.
The law divides into two types of digital assets: virtual currency and digital token.
Thus, cryptocurrencies or as the Law calls them – virtual currencies, are digital assets, but not a means of payment, provided that the digital currencies of central banks (e.g. the expected digital euro) are not digital assets, nor does this law apply to them.
In addition to virtual currencies, the Law states that digital assets and digital tokens are “intangible property rights that in digital form represent one or more other property rights, which may include the right of digital token users to be provided with certain services.”
What does this actually mean?
If we recall various attempts and initiatives in other countries, not only legislative but also business attempts and initiatives, especially during the ICO hype, these attempts aimed to explain which value or right tokens issued through the ICO have, we will come to the following categories:
Utility token – an owner is entitled to a specific service provided by the issuer of the token or third person. It is the most common “trap” for both token issuers and investors, as this type of token was promoted as a way to avoid security regulations (and thus the involvement of capital market regulators, such as Securities and Exchange Commission in US). Usually there was no service for investors, just an attempt to create new cryptocurrencies below the scope of the regulator.
Security token – is a type of token that is subject to the rules that apply to securities. Regardless of the technology on which they are recorded, they fall under known and decades-old legal solutions. In practice, they were not often present, because the issuance procedure is required (regulated), and their issuer is responsible for the damage caused to the investor.
Asset token – is a type of token that gives its owner property rights in specific goods or property. If we imagine that the title on the real estate is registered on DLT or other technology suitable for implementing smart contracts, it would be possible to issue asset tokens (which could be defined as a title deed) whereas transfer of the token would lead to the automatic transfer of the title on the real estate.
Hybrid token – is a combination of at least two of the aforementioned features.
From the definition given by the Law, the conclusion is that the so-called utility and security tokens and their combination will be tokens that we will encounter during the application of this Law.
How to conduct ICO in Serbia
The issuer of digital assets can be a domestic or foreign natural person, entrepreneur or legal entity.
For the issuance of digital assets, the issuance of a license by the competent authorities is not envisaged, but the issuance of digital asset is free in compliance with specific rules introduced by the Law.
If a virtual currency is issued, the competent authority is the National Bank of Serbia. In the case of issuing digital tokens, the competence is entrusted to the Securities Commission. Digital assets, which include the characteristics of virtual currency and digital token, are subject to both institutions’ competence.
When digital assets have the characteristics of a financial instrument, the law governing the capital market shall apply, with the exception that said law shall not apply (but the Law on Digital Assets shall apply), if:
- digital assets do not have the characteristics of shares;
- digital assets are not exchangeable for shares; and
- the total value of digital assets issued by one issuer during a period of 12 months does not exceed the amount of EUR 3,000,000 in dinar equivalent at median exchange rate of the dinar against the euro determined by the National Bank of Serbia on the day of issue, i.e. during primary offering.
Provisions that regulate issuing digital assets are located in Chapter II of the Law (Issuance of Digital Assets). The list of steps that are necessary that the issuer of digital assets should or can perform, while issuing digital assets are:
- Initial offer of digital assets – The Law states that the issuance of digital assets in the Republic of Serbia is allowed, regardless of whether a white paper has been made and/or approved for it.
- White paper – approval, publication, advertising – The law introduces the term white paper and defines it as a document published when issuing digital assets and containing data on the issuer of digital assets, digital assets and risks associated with digital assets, to enable investors to make an informed investment decision. The Law does not establish the obligation to issue a white paper, so it is left as an option.
- Publication of the white paper – The interpretation of this part of the Law creates the most dilemmas because it is inconsistent. Without precedents, bylaws and practice it is not clear yet whether the competent authorities approve a white paper or publication of a white paper is subject to approval. A linguistic interpretation of the provisions of the Law leads to the conclusion that the publication of a white paper is approved, not the white paper itself. After approval of the white paper’s publication, the issuer posting the white paper on its website, no later than the beginning of the initial offer of digital assets. The white paper must be available to everyone free of charge and should be displayed in a special part of the web-site, easily accessible for both review and download.
- Rejection of the request for publication of the white paper – The Law leaves the possibility for the competent authority to reject the request of the issuer of digital assets to publish the white paper for reasons stated (e.g. issuer’s bankruptcy, liquidation, white paper content is misleading or incorrect, etc.) but also for additional reasons that the competent authorities may determine by by-laws. So, this is an open field for the issuers of by-laws to follow their attitudes towards digital assets and introduce additional restrictions.
- Advertising the initial offer of digital assets – is allowed only for digital assets for which white paper is approved (here the Law is inconsistent because it states the approval of the white paper, not the approval of publishing white paper). For advertising of the white paper, provisions of the Law on Advertising should apply.
- Registration and payment of digital assets – If the publication of the white paper has been approved for the initial offer of digital assets, the start of registration and payment of digital assets begins no later than 30 days from the publication of the white paper. Issued digital assets can be purchased by payment in cash, in digital assets (i.e. in cryptocurrency), and/or in the services of the acquirer of those assets (e.g. transfer of issued digital assets to persons who “mine” those digital assets). If the initial offer is successfully completed (and this is a criterion that the issuer should determine in the white paper), the issuer has the obligation to immediately notify the supervisory authority. The Law also leaves the possibility for by-laws to regulate the registration and payment of the digital assets.
- Report on the outcome of the initial offer – If the initial offer of digital assets is approved for publication on white paper, the issuer is obliged to publish a report on the outcome of that initial offer on its website no later than 3 working days after the end of the initial offer. The legislator leaves the form and content of this notification to be regulated by by-laws.
Issuance and advertising of the initial offer of digital assets for which no white paper has been written or the request for approval of publishing a white paper has been rejected – The Law stipulates that the publishing of not approved white paper is allowed, provided that during its publication and during the initial offer of digital assets to which the white paper relates clearly states that the white paper has not been approved. Publishing means posting on the website of the issuer of digital assets.
So, if the white paper’s publication is not approved or not requested, or even if the white paper is not produced, digital asset offering is not prohibited, but advertising is not permitted.
However, Article 17 of the Law provides exceptions to the rule above, according to which the issuer may advertise the initial offer of digital asset for which a white paper has not been approved in the following cases:
- the initial offer was sent to less than 20 natural and/or legal persons;
- the total number of digital tokens issued does not exceed 20;
- the initial offer is sent to buyers/investors who buy/invest in digital assets in the amount of at least 50,000 euros in dinar equivalent at the official median exchange rate of dinars against the euro determined by the National Bank of Serbia on the day of purchase/investment, per buyer/investor;
- the total value of digital assets issued by one issuer during 12 months is less than 100,000 euros in dinar equivalent at the median exchange rate of the dinar against the euro determined by the National Bank of Serbia.
Regarding the white paper’s content, the Law states in 10 points the data and information that the white paper should contain, leaving the powers to both the National Bank of Serbia and the Securities Commission to determine the detailed content and additional elements of the white paper. In the absence of by-laws, we do not have complete data on what can be a request, so we have to wait and believe that by-laws will be stimulating the development of this field.
This text does not represent legal advice, but the position of the author. To be continued with the additional elaboration of the framework that the Law on Digital Assets provides.
Author: Željka Motika, attorney at law, Belgrade, Serbia