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Finality, Settlement, and Validation: The Place to Start

Posted on by Thiago Tags: , , , , , , , ,

One of the most important concepts in capital market transactions is settlement and finality. Even though the payment infrastructure gets the majority of airtime, settlement finality is just as, if not even more, important in the securities markets. In the public markets, the structure of securities and the clearance and settlement process is quite standardized. In the private markets, a segment that is three orders of magnitude larger than the public markets, standardization does not exist. Rather than an issue, this is the strength of the private markets, since both private companies and their investors need flexibility in securities contracts. Regardless of all this, settlement finality is equally important in both markets.

The issue of settlement finality actually applies to all legal contracts in the sense that terms and conditions cannot be stated in probabilistic terms. Would you sign an employment agreement where the fine print says there is a one-in-ten chance that you would not be paid every two weeks?

In justifying Polymath’s latest move to abandon Ethereum as their platform of choice for security tokens, Adam Dossa, Polymath’s head of blockchain, rightly observed, “At the center of contention is ethereum’s consensus mechanism, proof-of-work (PoW), which only offers a statistical guarantee of transaction finality.” As we pointed out early last year in one of our KoreBriefings where we evaluated Ethereum, “Finality [in Ethereum] is probabilistic and not guaranteed.” Probabilistic or even statistical finality in legal agreements just will not do.

In “Principles of Market Infrastructure,” a publication of the Bank of International Settlements, Principle 8 (Settlement Finality) requires that “An FMI [Financial Markets Infrastructure] should provide clear and certain final settlement, at a minimum by the end of the value date. Where necessary or preferable, an FMI should provide  final settlement intraday or in real-time.”

Note the definitive language of “clear and certain final settlement.” This excludes probabilistic or statistical finality. Melvin Eisenberg, Professor of Law at the University of California, Berkeley, says, “The classical law approach to the certainty principle reflects the binary nature of classical contract law. Indeed, this approach is often referred to as the all-or-nothing rule.”1  Prof. Eisenberg goes on to provide examples of the “rejection of a probabilistic analysis.” While much of that treatment is related to damages due to non-performance of contracts, the concept of certain finality is quite relevant for securities transactions. This is a serious issue that has lately garnered a lot of attention.

Settlement finality is a statutory, regulatory, and contractual construct.2  Settlement is actually a two-step process: first is the operational settlement, which consists of all the steps using technology or otherwise to complete the process of trade, transfer, or corporate action. The second step is the legal settlement that happens when the regulatory framework provides the final approval, at which point a transaction is deemed to be fully settled. The problems due to the uncertain nature of operational settlement in Ethereum are well-known, even if generally ignored. The concept of legal settlement, on the other hand, simply does not even exist in the security token protocols based on Ethereum.

Blockchain technology must first achieve operational finality before the regulatory framework can certify legal finality. Public blockchains can only specify probabilistic and statistical finality. Smart contracts have to also provide for legal settlement. A permissioned blockchain such as Hyperledger Fabric is designed for guaranteed finality. The KoreProtocol of KoreChain, a blockchain application built on Fabric for managing the entire lifecycle of private securities, is designed to ensure legal finality also. One example of legal finality is that directors’ approval of private securities trades under certain conditions, as set forth in the shareholder agreement, is necessary before such trades are deemed to be final. The KoreProtocol is designed to capture this requirement and the KoreChain is designed to implement it.

While Polymath is the latest of the Ethereum advocates that has woken up to the fact that Ethereum isn’t the right blockchain platform for financial securities, they have not been the first. Several private companies, their securities attorneys, broker-dealers, and many other participants have noticed this deficiency and chosen to go with permissioned chains such as the KoreChain.

More significantly, Vitalik himself was the first to point this out way back in May of 2016 (over three years ago—a lifetime in crypto-space) in a blog post on Settlement Finality: “This concept of finality is particularly important in the financial industry, where institutions need to maximally quickly have certainty over whether or not the certain assets are, in a legal sense, “theirs”, and if their assets are deemed to be theirs, then it should not be possible for a random blockchain glitch to suddenly decide that the operation that made those assets theirs is now reverted and so their ownership claim over those assets is lost.”

Advocates of public blockchain also seem to be coming to the realization that when financial securities are exchanged between two parties, independent and unverified miners have no legal authority for validating the transaction. Parties who have no fiduciary responsibilities, no regulatory mandate, or any skin in the game cannot perform business validations. Would you ask a stranger in New Zealand to approve the transfer of your shares in a private company to your friend when you, your friend, and the private company are all domiciled in the USA? As Polymath’s Dossa observers, “How ethereum settles transactions through mining also came into consideration for Polymath. Since miners, who process and sign-off on transactions for a fee, can operate anywhere in the world, institutions could face government scrutiny if fees are traced back to a sanctioned country.” More to the point, securities law does not recognize approvals of securities transactions from parties who are not associated with or have any fiduciary responsibility for securities transactions.

Principles of settlement finality and authoritative validation of transactions remain some of the most important cornerstones of establishing trust in the financial markets infrastructure. It is up to the blockchain application designers to understand the spirit and intent of these principles and select technologies that facilitate the implementation of such principles rather than hinder them. It is up to the business participants (company management, securities attorneys, and broker-dealers) to recognize the importance of these principles and the limitations of some blockchain platforms.

Incentives often have unintended consequences. We see this happen often with children and pets. Public blockchains are all about decentralization, but in fact miners’ incentives have all but centralized the blockchains. In contrast, consider that within KoreChain we have not left the question of decentralization to the vagaries of unknown miners. Instead, the KoreChain is engineered for decentralization. It is an implementation of the Infrastructure of Trust that currently runs in production in twenty-three countries; in barebones minimal cruising mode, it is capable of handling approximately 10 billion transactions per year (~318 tps) with consensus on business validity. KoreChain’s architecture also makes it massively scalable with very little effect on performance. However, as Vitalik rightly points out, finality can never be 100% even if the technology can achieve absolute finality since the ultimate arbiter of finality is the legal system. For this reason, KoreChain includes KoreNodes that are owned and operated independently by regulated entities and regulators worldwide.

If you hold fast to the idea that your powerful car is the only way to cross the ocean, you will be in for a continual hack of trying to make your car float on water. It is much better to recognize that a good ship is the right vehicle for the ocean. Many of the challenges of building a compliant securities application on Ethereum are actually unnecessary. Securities regulation in any one country is complicated enough. Multi-jurisdictional capital markets transactions compound that complexity by several orders of magnitude. Application designers should not be distracted by trying to create their own chains; instead, the real achievement lies in making securities transactions fully compliant in all jurisdictions, promoting innovation in financial markets, enabling flexibility, minimizing process costs, and providing an Infrastructure of Trust to which all regulated entities are welcome. 

1 Foundational Principles of Contract Law, Melvin A. Eisenberg
2 http://yalejreg.com/nc/on-settlement-finality-and-distributed-ledger-technology-by-nancy-liao/

The world’s capital markets are too dispersed, complex, and huge for any one participant to dominate. Revolutionizing the capital markets is only possible through collaboration. 

www.InfrastructureofTrust.com

Global Crypto Twins one on one with Oscar Jofre co-founder of KoreConX

Posted on by Oscar Jofre Tags: , ,

The Crypto Twins are well-recognized faces in the blockchain space and have been advocates and the voice for those who are supporting the global ecosystem of digital securities formation.

This was a great interview by the Crypto Twins to gain insight from a global leading authority on where the market is moving towards.  What is the private capital markets, this is one interview if you are looking for insight you want to make sure you watch.

Blockchain Radio’s one on one with KoreConX Chief Scientist/Technology Officer

Posted on by Oscar Jofre Tags: , ,

This is a rare occasion to have our very own Dr. Kiran Garimella interviewed by Blockchain Radio’s Pierre Bourque, a leading talk show host for blockchain enthusiasts.

Kiran highlights the need for trust, compliance, and investor protection in the private capital markets. This is why the participants on the KoreChain and the owners of KoreNodes, launched in 23 countries, are regulated entities who are subject to stringent compliance requirements and who have to take on fiduciary responsibilities. 

Kiran explains how the global private capital markets are fragmented, yet the world is becoming globalized and there is a need for cross-jurisdictional opportunities. KoreChain has a large knowledge base on worldwide regulations to help the participants safely navigate through complex securities transactions.

KoreConX is not in the business of risky disruption and disintermediation. Trying to dominate this ecosystem will not work. KoreConX’s Infrastructure of Trust welcomes all reputable participants, including the regulators. KoreConX has already seeded this Infrastructure with an integrated suite of compliance-related applications that are in active use in thousands of companies. Kiran points out that rather than excluding, all are welcome because the Infrastructure of Trust and the all-in-one platform is ‘all about you.’

Hear the lively dialog between Blockchain.Radio’s Pierre Bourque and Dr. Kiran Garimella:

TalkCents Radio based in UAE interviews KoreConX Director MENA

Posted on by Oscar Jofre Tags: , , , ,

So much of blockchain is spoken in USA, Europe here is TalkCents coming live from Dubai, UAE.  TalkCents brings the latest leaders in the MENA region. Our very own Edwin Lee has an opportunity to speak to TalkCents and discuss how KoreConX’s solution in the MENA region is leading for those who are looking to do fully compliant offerings. 

Understanding Digital Assets

Posted on by Jason Futko Tags: , , , , ,

There has been a lot of talk in recent years about crypto, tokens, blockchain, ICOs, STOs, Digital Securities, etc.  What does it all mean and why should you care?  In order to navigate the new financial digital world, it is important to first understand the terminology.  Below, I have broken down the typical terms being used in this current digital environment.   In certain sections, I have provided the example of the USA, and its primary regulator, but this is globally applicable.

Distinguishing the types of secondary markets or exchanges where you can trade digital or traditional assets also seems to be confusing.  I have created the following chart to try to distinguish these.

Now, why should you care?  What does this mean to you?  Despite what some people say in the press, blockchain is here to stay.  So understanding the types of digital assets that it hosts is going to be important in making business and investment decisions.

As a co-founder of a company that is focused on revolutionizing the private capital markets, I am not going to get into cryptocurrencies as this is not my area of expertise.  This is for currency experts to discuss.  Similarly, while I know the public listed markets well and how they operate, there are plenty of people who know these markets far better than I.

My background is geared towards the issues faced by private companies. Thus, I will elaborate on the fragmented ecosystem of the private capital markets that sorely need solutions.

Since the SEC and other government regulators around the world started stepping in to ban ICO’s, other alternatives have evolved.  The security token offering or STO is one such term that got some wings in 2018. However, the institutional and traditional investment communities were still leary of the idea of a token or blockchain solution being provided by people without an appropriate understanding of the entire market they are trying to disrupt. Many people from the ICO space were just changing the name and using STO as a new hype to sell the same ideas.

Many of the players (intentional choice of word) in the ICO space were trying to circumvent securities regulations saying they know better how the ecosystem should work.  After decades of scams, the securities regulators know that the current system has built-in checks and balances for a reason.  We all understand there are issues and inefficiencies in the private capital markets, but in order to change securities rules you better have a big budget and strong case for it. As an example, the JOBS Act took well over five and likely closer to ten years to come into place.  The use of blockchain has valuable applications that can certainly provide more efficient and cost-effective solutions to current private capital markets, as long as you work within the existing securities regulations.

There is a lot of exciting stuff being built with blockchain technology. I believe that if you are looking at this as a solution to the private capital markets, you need to consider a few things if you are looking at public chains as a potential solution:

  1. Use of private wallets for sole custody of financial instruments will not work. Securities law requires the use of transfer agents in many situations and transfer agents need to have custody of assets in order to manage them. If the digital securities are being held by individuals in their own wallet, there is no way the transfer agents can have custody of them. Think of public markets: you do not hold the securities (share certificates) yourself, they are digitally represented in your brokerage account and held by transfer agents.
  2. Mining of securities: It is generally not acceptable for unknown miners to verify transactions; even known miners must be eligible to perform business validation of a transaction either because they are parties to the transaction, have fiduciary responsibility, or certified subject matter credentials or otherwise registered and regulated entities.

Gas prices are not acceptable when it comes to securities.  In order for a token to move on some blockchains, a gas price needs to be paid to miners. Transaction fees must be contractually fixed in advance and cannot be uncertain or subject to an auction style of payment (which leads to a form of ad-hoc discrimination). For individual investors, transaction prices need to be certain  and follow execution guarantees.

Facebook’s Libra Reboots the Crypto World

Posted on by Oscar Jofre Tags: , , , , ,

Facebook Libra Project set’s to rebook the crypto world.

Since the announcement by Facebook of their Libra Project, everyone in the world came out with their take on what Facebook was up to. Thousands of articles and interviews with everyone jumping in. 

It’s safe to say that what Facebook has done, no other company has been able to do on a global scale and receive such global exposure. Today, the only places where crypto is discussed is Medium, Facebook, Twitter, LinkedIn, and the crypto rags. But now, we are talking about major global media exposure like CNN, MSNBC, Fox News, BBC, etc.

Facebook today has 2.4 Billion (Facebook, Instagram, Whatsapp) users that is 31% of the world’s population.

In one announcement, Facebook woke up every central bank, bank regulator, government, and various officials in the world. Now they can’t pretend they don’t know what crypto is and how it would impact them, a huge achievement by one of the most mistrusted companies in the world.  In one announcement, Facebook created fear most never thought possible in crypto sector. Facebook can overnight be the world’s largest central bank. Think about it.

The World’s Largest Central Bank!

The current turf wars that President Donald Trump is having with China, Canada, Russia, Mexico, France, and Denmark, just to name a few, would be put to a complete halt by one company, Facebook.  That is power!

The crypto sector’s hardcore evangelists see this as validation and are rooting for the rise in the price of bitcoin and other cryptos that nobody on earth knows what they are and have no value in the real world today.

Facebook Libra would bring it to real-world and make it usable instantly to 2.4 billion users globally. No other bank or country can pull off such a stunt.

Are you awake now!

What is the impact of LIBRA by Facebook.

Some are excited its validation. Some see it as a competitor.

Here is what’s going to happen whether Facebook launches LIBRA or not. 

Facebook can and will kill over 98-99% of the crypto companies around the world that have coins which are trading but have no real value.

This will be done in two ways:

  1. Facebook decides to abandon the LIBRA project for lack of regulatory support. This will create global uncertainty that start-up projects will face the same demise as Facebook.  Investors will be asking themselves if Facebook can’t pull it off, how is this new start-up going to accomplish it?
  2. Facebook is denied by regulators to proceed. This is the worst one of all.  Today, countries like Mexico, Indonesia, Nigeria, and more are shutting down companies in light of what Facebook has launched.  Facebook is a threat to central banks, governments, regional banks, and many others who will not allow them to proceed, forcing even those who are supportive of crypto to side with regulations to shut them down.  This is the killer if Facebook goes all the way only to be shut down.  

Either way, this is going to hurt a majority of the crypto players.

As I mentioned, Facebook did what no other crypto company has been able to accomplish:  woke up everyone and bring instant global awareness.

Even the hard supporters of crypto are now wondering, wait a minute, what would happen?

Facebook made the whole crypto business real overnight and now we have a really serious discussion. We got our wish: global awareness. Sometimes, you have to be careful what you ask for!

Yes, we all agree it would have been better if it was not Facebook, as the company faces fines globally for how they manage data, and featured in the latest 2019 documentary, The Great Hack, and how its platform was used to change the outcome of many governments, not just the United States.

Every government around the world is going after this company for its untrustworthy business practice, and then the company adds crypto to the mix just to complicate matters. There is a danger that Facebook could become a Fakebook.

They are the supervillain du jour of business.

Because of their size, they got instant global exposure and has put this at the highest ever scrutiny. So, the reality of crypto becoming what everyone hopes could finally come to a very hard stop.

Politically speaking, what is happening around the world is that every country is protecting its borders and citizens. Even crypto supporters in governments, regulatory agencies, and banks will take a step back.

What Facebook has now shown them is that any of these crypto players can become bigger than any one nation or any one bank.  So best to put the brakes now before it gets carried away.

So get ready for the Great Crypto Reboot.  And it will not look like what you thought!

Many Rights Make the KoreProtocol Right

Posted on by Thiago Tags: , , , , , ,

Over the last few weeks, we have seen the highly entertaining farce of Craig Wright claiming to be Satoshi Nakamoto by registering a copyright to the original bitcoin whitepaper and code. He may very well be Satoshi. However, registering a copyright does not confer an official recognition of identity. Wei Lu, CEO of Coinsumer, proved it. Reacting to the press releases and social media statements made by Craig Wright and his supporters, the US Copyright office took the extraordinary step of publicly refuting the claim that a copyright registration is the same as official & proven recognition. This prompted the subject line of Coindesk’s May 23rd Blockchain Bites email: “Wright is wrong.”

The public blockchains provide an endless source of fun. Whatever their faults, one can’t blame them for being boring. The responsible, permissioned chains are, in contrast, boring. KoreChain in particular is relatively dull to thrill-seeking outsiders, while extremely exciting to those who truly understand private capital markets and how the KoreProtocol is spearheading innovation for private issuers and investors.

The KoreProtocol defines many types of shareholder rights in private digital securities. These rights, some mandatory and some discretionary, are well-established in securities law and corporate law. The innovation and complexity of shareholders rights is only limited by the willingness and imagination of the participants. In the absence of automation and a single source of immutable truth, the implementation of rights can become a bureaucratic nightmare. This, more than anything, becomes a limiting factor for innovative contracts. By defining shareholder rights rigorously in the KoreProtocol and implementing the full workflows in KoreChain for their exercise, the KoreProtocol and the KoreChain take away the pain and effort of managing these rights. This opens up private capital markets to very flexible and complex shareholder agreements to suit the needs of the participants.

The KoreProtocol and the implementation within KoreChain include rights such as (to give a few of the more prominent examples):

  1. Voting/non-voting
  2. Financial participation in the form of dividends or revenue
  3. Distribution of revenue or dividends as cash, reinvested securities, or other forms of payment
  4. First right of refusal
  5. Tag-along rights
  6. Drag-along rights
  7. Pre-emptive rights

Each of these rights and their numerous variations have implications and consequences in secondary market trading and in corporate actions. The KoreProtocol provides a structured way to define these rights and their impact on securities transactions. The KoreProtocol implements complete end-to-end management of financial transaction processes, some of which may be very long-running.

The definition of protocol functions to handle all the complex scenarios in securities transactions is not a trivial undertaking. However, it is much easier than the actual implementation of the protocol since that requires handling long-running processes and making tradeoffs between manual and automated processes, data sharing mechanisms, and choice of endorsers. Every step of the process must be fully compliant with securities laws, corporate laws, and the provisions of the underlying contracts.

Trying to shoehorn securities transactions into inadequately defined protocols and delegating the implementations to someone else is to do the worldwide financial community a huge disservice. Implementing the rights of issuers and investors is a very complicated undertaking. For example, ERC-1404, in the words of its creators, “…solves for the compliance challenges that are part of the issuance process and beyond.”

How does ERC-1404 solve the problem of whether senders can send tokens to a receiver and whether receivers can receive tokens from a sender? By defining two functions: CanSend() and CanReceive(). The github code itself shows one function:

detectTransferRestriction(fromAddress, toAddress, numTokens) //I made it a bit readable.

With no trace of irony, the authors of this protocol point out that: “The specific logic covering who can send and receive can be configured outside the token contract itself.”

It is easy enough to write protocols as long as we leave the messy details of implementation to someone else!

In reality, the transfer of digital securities in a fully-compliant way is quite complicated. It is not just a matter of “who can send and receive”, but also a question of the circumstances under which securities can be transferred or not. There are complex workflows and numerous checks that need to be followed before any transfers, whether P2P, beneficial, or trade-related, can occur. The checks relate to the jurisdictions and exemptions under which the securities are issued, domicile of the participants, securities laws that govern all subsequent inter- and intra-jurisdictional securities transactions, corporate laws, the rights spelled out in the shareholders’ agreements, and the presence or absence of various types of events such as corporate actions, regulatory actions, and economic events.

To be fair, the creators of simplistic protocols may very well be aware of these complexities; however, the fact remains that they come nowhere near expressing the richness and complexity of global private capital markets. Also, they offer no guidelines for implementation or even a hint of the treacherous complexities.

At KoreConX and in KoreChain, knowing the business as we do by being an SEC-registered transfer agent, we chose to not only develop a comprehensive protocol but also implement it in all its complexity. Tapping into our worldwide partner network of securities lawyers, secondary market operators, broker-dealers, academics, and other thought-leaders, we tackled the problem by creating a legal base that incorporates much of the complexity of securities law and corporate law worldwide. This includes inter-jurisdictional transactions, Blue Sky laws in the US, Canadian provincial laws, etc.

Private capital markets provide enormous flexibility for creating complex shareholders’ agreements. We have so far not seen two offerings or agreements that are similar. The public markets are relatively standardized, which can be a strength in terms of offering liquidity at the expense of flexibility of contracts. Private companies and their investors want more control and flexibility.

By incorporating the various types of rights (some mandatory, some optional, and some that are negotiated) into the KoreProtocol and implementing through the KoreChain, our mission is to create the right infrastructure to preserve and foster innovation in global private capital markets while also furthering the cause of efficient liquidity.

www.koreconx.com

www.KoreConX.io

Exempt Market Update 2019

Posted on by Oscar Jofre Tags: , , , , ,

The exempt market in Canada is going through some major developments that will fundamentally change how the private market will be seen by investors.

Digital Securities provide companies, who are raising capital, the opportunity to offer their investors another potential exit that until now was only seen as a pipe dream.

It’s no longer a dream, it’s in fact reality. Digital Securities are a direct representation of the securities a company offers to investors, but instead of a piece of paper, it’s put on a technology that is immutable. 

Companies around the world are raising capital offering investors Digital Securities, which would allow them to have secondary market trading.

ATS (Alternative Trading Systems) have been around for decades around the globe, in most cases unused due to inefficiencies and high costs.

With over 16 ATS now launching in the USA and more coming in Europe and ASIA we will see more ATS secondary markets for private shares than public stock exchanges in the next 24. The reason is very simple. There is more private companies than public listed.

450 Million private companies vs 85,000 public listed companies worldwide.

$2.4 trillion raised by U.S private companies vs. $2.1 trillion by public companies, a gap that has been widening for 6 years. With the decline in the number of public companies and the rise of private financing will drive a need for efficient secondary market trading of private shares. A blockchain enabled and global compliant digital security is critical to the success of secondary markets for private shares.

On 29 May 2019, OMEGA has filed an application with the regulators to launch a Digital Securities ATS. This announcement shows you how the market is evolving to provide further liquidity in the private capital markets. This will not be the first ATS in Canada. 

KoreConX is leading the market by providing the tools for Exempt Market Dealers to put their business online, in a secure and compliant manner, to be connected in the private capital markets ecosystem.

The KoreConX all-in-one platform, powered by IBM’s Hyperledger Fabric, is the key infrastructure that, until now, was missing from the private capital markets. Our globally compliant digital securities protocol is the key to creating efficient securities management throughout their lifecycle. 

KoreConX Revolutionizing Private Capital Markets

www.koreconx.com

www.KoreConX.io

KoreConX launches $15M Digital Securities Offering using its own Fully-Compliant KoreProtocol

Posted on by Oscar Jofre Tags: , , , ,

KoreConX is excited to announce its Digital Securities Offering that will utilize its own KoreProtocol. The KoreProtocol is the world’s first complete end-to-end protocol that has built-in AI to manage the entire lifecycle for tokenized securities, from issuance, trading, and all types of corporate actions.

The global securities marketplace is changing, and the future is tokenization. Combining corporate and securities law with tokenization facilitates efficient liquidity and fully-compliant transactions in multiple jurisdictions.

“We are thrilled about developing and launching our Digital Securities Offering on our KoreChain. KoreConX’s AI-enabled blockchain, based on Hyperledger Fabric and hosted at IBM, provides the highest level of security. The KoreProtocol handles the complete lifecycle of the security token, from issuance, secondary trading, and all types of corporate actions,” said Dr. Kiran Garimella, KoreConX’s Chief Scientist and CTO.

KoreConX will be working with established broker-dealers worldwide to make this initial offering of $15 million USD available to accredited investors in multiple jurisdictions (countries).

KoreConX believes in complying with securities regulation and corporate law to protect investors, issuers, and other participants in the global capital markets.

“KoreConX has been a fully operational all-in-one platform for several years helping many clients worldwide with compliance activities. The opportunities are tremendous for using tokenized securities to create efficiencies, reduce costs, and provide stronger governance for private companies. Our unrelenting focus is on ensuring the safety, security, and investor protection in global private capital markets,” said Oscar Jofre, co-founder, CEO of KoreConX.

For more information visit www.koreconx.io

Reg A+ Webinar: Q&A Part I

Posted on by Oscar Jofre Tags: , , ,

The content on this webinar and associated blogs are provided for general information purposes only and does not constitute legal or other professional advice or an opinion of any kind.

During our last Regulation A+ webinar with Sara Hanks and Darren Marble, we received dozens of questions about the topic.

As promised, we have answered each one of these questions and we are publishing the results here. To make things simple, we are diving it in Part I (Sara Hanks answers) and Part II (Darren Marble answers).

If you haven’t watched the webinar or want a recap, you can access the full version here.

Reg A+ Webinar – Q&A Part I

  • Is there a specific exemption that can be used in Canada along with Reg A to sell in Canada?

You need to check with Canadian counsel. Canada does not generally have federal securities laws as we do in the U.S., and you have to find an exemption from the Canadian equivalent of registration in each Canadian province you want to sell in. Some provinces have crowdfunding-type exemptions (not Ontario) and most have some type of exemption for sales to accredited investors.

  • If a company decides not to list on an exchange, can they have a bulletin board on their own website where their own shareholders can buy and sell their shares to others?

Under limited circumstances, yes. Any kind of “matching platform” will need to follow existing no-action letters that specify the circumstances in which a company operating some kind of introduction service for buyers and sellers will be deemed not to be a broker-dealer. You need to make sure the service does not amount to acting as a broker or an “alternative trading system” (ATS). In very general terms, the more sophisticated and automated a matching platform gets, the more it is likely to be deemed to be an ATS.

  • I am quarterbacking a Reg CF offering, they have a product that used to exist and want to bring it back. What are the top two questions I should be asking?

Do you still have the intellectual property rights to the product? And if a different/earlier company sold the product before, is that company a “predecessor” under the accounting rules?

  • Do you need to complete the offering before filing Form 211 for a listing?

In general, we have found that the market maker for a company that is going to be listed or quoted on OTC (a minority of Reg As) want to be able to confirm that all the existing shareholders were acquired in legit offerings before it files the 211, which would mean you would need the Reg A offering to be closed, but it may depend on the market maker.

  • I understand that there is a Blue Sky nuance if you do not use a BD, is this correct?

Yes. If you don’t use a broker, there are some states that won’t let you offer (Nebraska) or require the issuer to file as an “issuer-dealer.” More details here.

  • Sara and Darren have mentioned real estate, etc. in terms of companies best suited for Reg A offering, are there any Blockchain/DLT based startups that have successfully gone through the process yet?

Not yet; perhaps coming soon.

  • Can you comment, in general, on the Blockstack filing?

I’ll wait till I see the correspondence between the lawyers and the SEC (published when the offering qualifies) before I comment on the implications of this offering.

The second part of the Q&A will be published next week. If you want to read more from Sara Hanks, you can visit the CrowdCheck Blog. We highly recommend it. You can also contact Sara and her team here.

Minimizing Failure Vector Surfaces for Digital Securities

Posted on by Thiago Tags: ,

Modern capitalists and ancient Chinese may disagree on many things, but the one thing they do seem to agree on relates to security of the realm. George Washington, back in 1799, said, “…offensive operations, often times, is the surest, if not the only (in some cases) means of defence.” A similar sentiment can be seen in Sun Tzu’s writings. It is now a common saying in football: The best defense is a good offense.

If digital securities are to play an innovative and differentiating role in modern capital markets, the one thing they have to support is the trend towards democratization of capital. Ironically, Main Street retail investors have been sidelined in the ‘public’ markets that ostensibly were designed with the general public in mind. 90% of households are generally unaffected by the gyrations of the stock market.

Decentralization of capital brings with it several risks. Inefficiencies aside, some of the financial risks are poor governance, insecure transactions, hacking, and architectural instabilities in the financial platforms. The general public will never be able to store their own private keys safely. Public blockchains are still too new and fragile to support widespread adoption by the vast majority.

The most important lens through which we need to look at this is that of the lay investor, whose primary need is safety. They may not say it, but they definitely think it. For financial systems and in particular digital securities, we need to minimize the number of ways in which the security of digital securities is compromised. Security experts have a fancy term for this, ‘attack surface’, which is the entire set of vulnerabilities possible through all the ‘attack vectors’, each of which is one method of attacking applications or networks.

Unlike the usual attack vectors such as phishing, email, pop-ups, attachments, chats, etc., digital securities can be compromised by non-traditional vectors such as forking, hacking, and adverse selection by miners’ activities, and commingling of cryptocurrencies and digital securities. Adverse selection, in particular, is not criminal activity, but the net effect is that retail investors suffer the consequences since concentration of mining power centralizes points of failure or throttles securities transactions.

All of the ways in which digital securities can fail are the ‘failure vectors’. The collective magnitude of these failure vectors defines a failure vector surface. The surface area, in some intuitive sense, captures the magnitude of potential failures. The larger the surface area, the higher the risk. (Move your mouse onto the various surfaces for color highlights.)

The spider chart above shows various failure vectors, some of which are outright attack vectors, while others represent potential failures not from attacks but due to the inherent nature of the underlying blockchain. Such a visualization is useful only when comparing two or more subjects of evaluation and that too in a relative way and by ignoring the actual values.

One caution: Do not conclude from this chart that public blockchains are necessarily bad. This chart is not an evaluation of the technology or the competence of the developers. It just speaks to the potential problems that developers and users must keep in mind when using it for this particular use case, that of digital securities.

Can public blockchains systematically reduce the magnitude of all these failure vectors? There is certainly awareness of these failure vectors. However, all current reengineering in public blockchains, such as the ERC20-based protocols, is a defensive strategy.

Keeping to the wisdom of the ages about offense being the best defense, another approach is to start with a blockchain that has been engineered from the ground up to specifically minimize the failure vector surface as much as possible.

For this reason, we chose Hyperledger Fabric as the base blockchain on which we built the digital securities platform. The risk of failure is mitigated because some of these failure vectors either don’t apply or they are considerably minimized due to the nature of the Fabric blockchain. We prefer to let Fabric deal with a number of these failure vectors, while we focus only on those failure vectors that are specific to KoreChain, the digital securities blockchain application.

Meet the KorePartners: David Benizri, Rivver

Posted on by Oscar Jofre Tags: , , , ,

This post is part of a series of short interviews about the companies and faces that are part of the KorePartners Ecosystem*.

We believe that behind every great company there are people, and behind every person, there is a story to tell.

KorePartner: David Benizri, CEO & Co-Founder at Rivver

Born in: Montreal, Canada
Based in: Tel Aviv, Israel

What was your first job?
 Ice hockey referee

How and when did you get involved in the tech industry?

July 2016, I was hired as a sales associate in an e-commerce startup in Montreal. I then fell in love with the dynamic nature of the Hi-Tech field and began launching my own ventures in both Canada and Israel.

How do you see the Tech industry today, especially when it comes to the new Digital securities wave? In that aspect, is it possible to have an idea of what the next five years will bring?

To me what is beautiful about the tech industry as a whole is the fact that there are always new technologies being discovered, which by association ensures that there is always room for startups to build applications on top of that new technology and monetize. The last big innovation which we knew was technologically unprecedented was Blockchain, so we decided to apply it to securities. Within 5 years time, we see a securities industry where the use of distributed ledger technology is a given.

What does your company bring to the KorePartners Ecosystem?

Rivver brings the first blockchain-based fund issuance and administration platform, specialized for Private Equity funds. By building the first fund administration platform for the digitized fund ecosystem, Rivver’s goal is to ensure that KorConX Private Equity clients and the entire Digitized Fund ecosystem can scale.

What is it about the partnership with KoreConX that most aligns with your company strategy?

For Digital Securities to achieve adoption, industry leaders will have to provide a solution which is adoptable for legacy players today and not just in 10 years. By us both building on top Hyplerledger Fabric, we at Rivver saw obvious synergies and are certain that our partnership with KorConX will help materialize this mission.

*The KorePartners Ecosystem is a group of organizations that follows our governance standards and share with us the same goal: to provide entrepreneurs with the tools they need to grow their business.

Reg A+ Webinar: The Highlights

Posted on by Oscar Jofre Tags: , , , , , , ,

In our last webinar, we’ve talked about a very complex topic in the startup industry: The Regulation A+.

For those of you who have never heard of it (no shame in learning, folks), Regulation A+, or Reg A, is a section of the JOBS Act that allows private companies to raise up to $ 50 Million while offering shares to the general public.

This can have a profound impact on how startups work. Unfortunately, there’s still a great deal of confusion surrounding the topic.

That’s why we brought in Sara Hanks, a top attorney with over 30 years experience in the corporate and securities field and Founder of CrowdCheck, and Darren Marble, Co-Founder and CEO of Issuance, with extensive experience in the capital raising process.

Here are some highlights of the discussion:

Sara Hanks: Regulation A+ is a popular name for a series of amendments to existing laws there were made in 2015. The Regulation A was an exemption for full regulation with the SEC, that permits a company to make a public offering, without the restrictions on the security being sold, but not to go through the full SEC process. So it’s an exemption for a public offering.

And that’s important because it’s public, the securities that are sold are not restricted, they can be free traded, if you can find a place for them to trade, you can trade them immediately, after the qualification of the offering. The companies who can use Reg A are U.S. or Canadian companies.

Darren Marble: The most interesting question to me is what companies are ideal candidates to use the Reg A Securities exemption as a capital raising tool. And just because you might be eligible to do a Reg A offer doesn’t mean you should. You know, if there’s a cliff that’s 50 feet above the ocean and you’re on that cliff, and you can see the ocean, doesn’t mean you should dive in. You probably need to be a professional diver.

I say that you don’t choose Reg A, Reg A chooses you. And what I mean by that is I think the Reg A exemption discriminates in that aspect. They will save a very particular type of issuer and it will punish or harm another type of issuer.

We also talked about:
– Marketing strategies that need to be considered for a Reg A+
– Who qualifies for it?
– What are the benefits?
– What does the Due Diligence look like?
– What liability is there for the issuer?
– What liability is there for any who promotes the offering?

To watch the full webinar, click here.

You can also watch the full version of our previous webinars:

Digital Securities Webinar

Marketing Your Raise Webinar

 

Digital Securities Webinar: Your Questions Answered!

Posted on by Oscar Jofre

We had an overwhelming response to our last webinar on Digital Securities. While Oscar Jofre and Darren Marble did their best to answer all the questions, we didn’t have time to go through it all.

So as promised, here are the remaining questions from our Q & A on Digital Securities. If you missed the webinar, you can watch the full version using the link at the end of this post.

ICO vs. STO vs. DSO Webinar Q & A
Oscar Jofre and Darren Marble
April 17th, 2019

 

Is an ETO (Equity Token Offering) the same as an STO?
ETOs are essentially ICOs that sell “stock shares”, by issuing cryptocurrencies over a public blockchain.

Are there any exchanges today that trade Securities Tokens?
Yes, there are.
In the USA: OpenFinance, Templum, TZero, AX Trading, RialTo Trading, SharesPost
In Europe: Blocktrade
Asia: Vaultex

What jurisdictions in the world have regulated STOs?
Securities are regulated in all countries in the world. When you decide to do a Securities Offering you must follow the securities law of each country you are selling the securities into.

Can Securities Tokens be marketed to retail investors?
Digital Securities can be sold via RegA+ which allows you to sell to retail investors worldwide.

If one uses a Reg D exemption for digital security, how does one move to secondary trading of those securities? You cannot publicly trade Reg D securities, correct?
Under RegD 506(c) the investors will be on a 12-month mandatory hold. Once that hold period is removed the company can apply to the Regulated Secondary Market platforms for a listing of their company so their shareholders can trade. Secondary Market is NOT a Stock Exchange

What actions do you see from local regulators to take steps? I believe OSFi in Canada issued some guidance recently, can you speak to the regulatory aspect?
Each Securities Regulator USA (SEC), Canada (CSA and the OSC and many other provincial regulators), Switzerland, Singapore (MAS), China, Australia, have come out with Warnings that if you are selling these Digital Securities, calling them a Token or utility will be deemed a Securities and you will need to make sure that you follow the securities law.

Does a DSO require a Blockchain platform?
Digital Securities are created on blockchain technology.

What do you all think about the liquidity solution that Reitbz offering from BTG Pactual has adopted?
This is not an offering that meets any of the regulatory requirements in the countries we operate on so it’s difficult to comment on something that is not following securities laws. But since it does not, this cannot offer any investor any form of liquidity as it does not meet any of the regulatory securities obligations.

In Oscar’s 1st slide, he states that Digital Securities allows for 24/7 trading. And later on, when talking about Reg A+ advantages, Oscar (I think) said upon closing of Offering, Securities are tradeable. But if there are still no secondary markets, where do they trade?
As the SEC Transfer Agent to many RegA+ companies, we are required to do transfer and trades. Now, these trades are not done on a secondary market, this is where the seller has found a buyer on their own without posting anywhere who is interested in purchasing their shares in the company.

Click here to watch the full webinar.

Click on the link below to watch our previous webinars:
Marketing Your Raise From Traditional Capital to Digital Securities

Webinar sheds light on Digital Securities Terrain

Posted on by Oscar Jofre Tags: , , , , , , , ,

The regulator’s message is clear: there’s no room for tampering with the regulation when it comes to capital raising, and many companies that invested time and energy on ICOs (Initial Coin Offering) are now facing the consequences.

But that doesn’t mean that the private capital markets are dead when it comes to digital assets, on the contrary. Companies have been tirelessly researching to find an alternative to ICOs that is compliant with regulations.

The private market industry is now being inundated by terms such as Digital Securities, Tokenization, STOs, ICOs. To decide the fate of their business in the digital arena, entrepreneurs need to be on top of the game and know the concepts, the differences, and who are the stakeholders behind every new term.

Having all this in mind we, at KoreConX, put together a Webinar “An Industry Evolving: Digital Securities, Tokenization, STOs, ICOs… What are they? How do they differ? Who’s regulating them?“.

To provide the public with the most up-to-date information about the topic, we invited two experts in the field. Oscar Jofre, CEO and Co-Founder of KoreConX, and Darren Marble, CEO and Founder of Issuance, will discuss the landscape for traded securities utilizing different forms of distributed ledger technology.

The webinar will happen this Wednesday, April 17th, at 11 am EDT.

Click here to register for free.

Click on the link below to watch our previous webinars:
Marketing Your Raise From Traditional Capital to Digital Securities

Much Ado About Nothing: the SEC’s No-Action Letter

Posted on by Oscar Jofre Tags: , , , ,

On April 3, the SEC issued its first no-action letter saying that the tokens proposed to be issued by the applicant, TurnKey Jet (or TKJ, a Florida-based charter airline operator), are not deemed securities. The actual letter is here. The media widely reported this using, in their headlines, the words “crypto”, “ICO”, and one reference to Turnkey Jet as a “cryptocurrency business” (which it is not).

None of these phrases are referenced in the SEC’s no-action letter itself. In fact, the Forbes article is blatantly misleading, beginning with calling Turnkey Jet a “cryptocurrency business”. The very first paragraph of the Forbes article sounds very encouraging to the ICO community:

The U.S. Securities and Exchange Commission has issued its first ever letter assuring investors in a startup using crypto-tokens similar to bitcoin to raise capital that it will not take an enforcement action against the company, and in a separate document explained the rationale behind the decision for future companies.

If anything, the no-action letter implies exactly the opposite!

Firstly, TKJ is not a “cryptocurrency business”.

Secondly, TKJ  is not proposing to raise capital through the issue of tokens, which are purely utility tokens and have no investment value. The company’s tokens are neither cryptocurrency nor securities.

Thirdly, the SEC letter does not provide investors an absolute guarantee that no action will be taken against them or the company, since this is not legally binding precedent and the SEC staff reserves the right to change positions reflected in prior no-action letters. Even the current no-action letter is valid only as long as the representations made by the applicant (TKJ ) are correct and fully followed subsequently.

Unfortunately, the misleading headlines give false relief to those who do not read beyond the headlines. It is important to read the actual submission by TKJ and the SEC response in the form of a no-action letter. In the murky world of ICOs that for the most part turned out to be fraudulent, and of the rest, only a tiny fraction had even a semblance of a credible business plan, TKJ stands out as an example of a legitimate business that took great pains to ensure that its utility tokens have absolutely no resemblance to ICOs or bitcoin. Here are the key factors that led the SEC to issue its no-action letter:

  1. No investment or capital raise. The proceeds of TKJ’s token sale are not to be used for developing the product or solution; instead, the funds are kept in escrow to be used for payments to service providers upon redemption of the tokens by its customers (travelers on their charter jets), or for repurchase or liquidation (but only at a discount). The only “capital raise” aspect of this is that the interest amount from the interest-bearing accounts is kept by the company and the interest amount is not distributed to the token holders. However, to prevent this becoming a potential loophole by mimicking an ICO-type of sale, the tokens are to be used only for purchasing air charter services and not for development.
  2. No trading. The tokens can be traded, but only among members of TKJ, and not in a wide secondary market; the motivation to trade is not speculation or investment. TKJ makes unlimited tokens available at a face value of USD 1 per token and repurchases them only at a discount, so speculative trading is meaningless.
  3. No gain in value. The tokens obviously cannot gain in value from their face value of USD 1 per token, since the company issues them at that price in unlimited quantities as necessary.

In summary, the SEC granted this no-action letter to TKJ as long as the following conditions are met: no capital raise for funding development, the existence of viable products and services before the tokens are sold, no trading on secondary markets for speculation or investment, no storage in third-party wallets, no repurchase at premium, no expectations are set for increase in the value of the tokens, and that the tokens are not marketed as investments.

This is as different from an ICO as a camel is from a camel-dropping.

What is astonishing about this whole issue is that there is already a well-established model that doesn’t even come under the aegis of the SEC: rewards points in various flavors, from Uber Rewards, AMEX Membership Rewards, Starwoods’ Starpoints, Delta SkyMiles, etc.

All of these membership and loyalty reward programs have been chugging along merrily for decades without any controversy. Utility tokens are no different, except that they are implemented on a blockchain or DLT—and therein lies the rub. The fraudulent ICOs have so tarnished the use of blockchain that any company with a legitimate business such as TKJ feels they have to go through the time and expense to seek a no-action letter for what is no more than a sophisticated implementation of a membership program.

The real value of enterprise blockchain or DLT, in general, is in its ability to bind a fragmented ecosystem of participants into a trusted network and provide operational efficiencies for their business processes, not to flout regulation at the expense of investor protection.

Meet the KorePartners: Dan Eyman, Meld Valuation

Posted on by Oscar Jofre Tags: , , , , ,

This post is part of a series of short interviews about the companies and faces that are part of the KorePartners Ecosystem*.

We believe that behind every great company there are people, and behind every person, there is a story to tell.

KorePartner: Dan Eyman, Founder and Managing Director of Meld Valuation

Born in: Seattle, USA
Based in: San Francisco, USA

What was your first job?

My first job was washing dishes for $4.00/hour at an Italian restaurant.

How and when did you get involved in the business industry?

I used to be a research scientist. My background is/was in Molecular Biology. Not wanting to pursue a PHD I opted to pursue my MBA and rest is history.

How do you see the SME scene today? In that aspect, is it possible to have an idea of what the next five years will bring?  

I think it is promising. I believe the level of venture and PE funding will level off in the coming years forcing companies to focus more on profitability and core business, while some might debate, I think this is a good shift for the SME market.

What does your company bring to the KorePartners Ecosystem?

We bring focused and tailored valuation services combined with a rigor not seen at other firms, all at a reasonable price.

What is it about the partnership with KoreConX that most aligns with your company strategy

Being of service both professionally and personally is part of our mission. I have seen this resonate across both companies.

*The KorePartners Ecosystem is a group of organizations that follows our governance standards and share with us the same goal: to provide entrepreneurs with the tools they need to grow their business.

Meet the KorePartners: Adrian Alvarez, InvestReady

Posted on by Oscar Jofre Tags: , , , , ,

This post is part of a series of short interviews about the companies and faces that are part of the KorePartners Ecosystem*.

We believe that behind every great company there are people, and behind every person, there is a story to tell.

KorePartner: Adrian Alvarez, Co-Founder & CEO at InvestReady

Born in: Miami, USA
Based in: Los Angeles, USA.

What was your first job?

I was a clerk for a mortgage service company. Very exciting =)

How and when did you get involved in the startup industry?

In college, I was the first employee of a tutoring company for standardized tests. That led me to go off on my own with my own tutoring service a few years later. During grad school where I did a JD/MBA, I became involved with the University’s startup incubator and after graduating, I worked there for 4 years as the assistant director and program manager. We helped advise thousands of startups and helped a lot of students with their projects. I also met my co-founders for InvestReady in that job as well.

How do you see the startup scene today?

I’m seeing a lot of work behind the scenes preparing for 2019 in the crypto and private investment scene. I believe 2019 is going to be huge for security tokens and we’re preparing ourselves for it. It’s an exciting time.

 

What does your company bring to the KorePartners Ecosystem?

InvestReady provides accredited investor verification services under the US and international law. Our API allows issuers, brokers, exchanges, portals, service providers and more verify that their users are eligible to participate in the investment in a secure and scalable manner.


What is it about the partnership with KoreConX that most aligns with your company strategy

I believe our shared focus on providing exceptional service at scale is a huge factor. We’re also both constantly re-tooling and thinking about how we can improve our service which also helps.

*The KorePartners Ecosystem is a group of organizations that follows our governance standards and share with us the same goal: to provide entrepreneurs with the tools they need to grow their business.

Meet the KorePartners: Rick Tapia, Blockchain Agility

Posted on by Oscar Jofre Tags: , ,

This post is part of a series of short interviews about the companies and faces that are part of the KorePartners Ecosystem*.

We believe that behind every great company there are people, and behind every person, there is a story to tell.

KorePartner: Rick Tapia, Chief Marketing Officer & Partner at Blockchain Agility

Born in: Indianapolis, USA
Based in: Miami, USA

What was your first job?

My first job was as a congressional intern in the state of Indiana. I learn and experienced so much about politics, networking, the U.S. government, and many other areas. It really helped lay the foundation for my future endeavors.

How and when did you get involved in the Blockchain Technology industry?

I first got involved with blockchain technology just over 2 years ago. Like many others, I had started off by learning about Bitcoin and other cryptocurrencies. From there, I began to understand the underlying technology and how it could be applied to a vast array of businesses across many different industries. I’ve always been an entrepreneur at heart and have helped many startups in the past and felt that this technology could provide value in a multitude of ways. From there, I began advising different startups on how they could utilize blockchain technology to add value to their business. Thereafter, my 3 partners and I got together and formed a blockchain advisory firm to help guide companies that are wishing to utilize blockchain technology.

How do you see the Blockchain scene today? In that aspect, is it possible to have an idea of what the next five years will bring?

I believe we are starting to see the merging of the “blockchain world” and the “real world”. Meaning that blockchain technology is beginning to be utilized vastly across many different industries and niches and isn’t just being used exclusively by startups or technology platforms. Additionally, the capital markets realm is beginning to jump in as the benefits of issuing digital security tokens is being realized. I don’t have a magic 8 ball that can see into the future but I believe that blockchain technology is here to stay and that in the next 5 years, it will be intricate part of how private companies raise funds in a compliant manner in addition to being the underlying technology in a lot of different existing businesses that we know today.

What does your company bring to the KorePartners Ecosystem?

Our firm brings value in a few different ways to the KorePartners Ecosystem. For one, we have a vast industry network that provides a strong level of value to the ecosystem with the many connections and introductions we can make. Secondly, our firm is committed to helping organizations that are looking to conduct a digital security offering and can help with many different areas from start to finish. We believe our services can help take an organization to the next level.

What is it about the partnership with KoreConX that most aligns with your company strategy?

I believe our partnership aligns with KoreConX because we are committed to a collaborate approach. In my experience, collaboration with other organizations that share similar values and goals is vitally important, especially in a niche’ that is still new and emerging. And with the world of digital securities coming into the fold, it’s more important than ever to make sure that organizations that are leading the movement work together as we have a tremendous opportunity in front of us to help usher in a new era of tokenization.

*The KorePartners Ecosystem is a group of organizations that follows our governance standards and share with us the same goal: to provide entrepreneurs with the tools they need to grow their business.

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