A recent ruling by the Swiss Federal Administrative Court on an entity receiving tokens as payment in kind has far-reaching consequences. So If you’re an advisor, ambassador or similar agent providing services related to an ICO or IPO, beware of accepting unlisted tokens or shares in payment for these services: they may trigger the requirement that you hold a securities dealer licence, and cause you a lot of trouble if you don’t.
1. Introduction
The Federal Administrative Court (FAC) has held in a recent decision that the acceptance of unlisted shares as payment for advisory services in the context of an initial public offering (IPO) and their subsequent distribution via distributors is not a secondary market activity, but a primary market activity that requires a securities dealer licence. This decision also has an impact on initial coin offerings (ICOs) involving tokens in the form of securities (so-called asset tokens).
2. Factual background of the case
The two companies X Ltd and Y Ltd, together forming a group (the Group), provided advisory services to third-party companies in connection with an IPO. In return for these advisory services they received payment in kind from the client in the form of shares (instead of money). The Group then distributed these shares to third parties via intermediaries to more than 20 investors. FINMA held in an order that the Group, rather than engaging in secondary market trading activity not requiring a licence as a securities dealer, had engaged in primary market activity in the form of a public placement requiring a securities dealer’s licence as an issuing house. The Group was not in possession of the requisite securities dealer’s licence, and was deemed to have seriously violated prudential regulations. FINMA subsequently ordered the liquidation of the Group.
3. Implications of the decision for advisors, ambassadors, marketing agencies, etc., that are involved in ICOs (particularly those involving unlisted cryptocurrencies)
Although the case dealt with a structure for placing shares, by analogy it can and must also be applied to advisory services related to unlisted cryptocurrencies in the form of securities (so-called asset tokens) in an ICO situation. Swiss-based advisors, ambassadors and marketing agencies are commonly remunerated for their advisory services in the context of ICOs with newly generated tokens that are − at least in the initial stages − unlisted, in other words not listed on a cryptocurrency exchange. Any subsequent sale of such tokens through third parties to more than 20 investors risks being treated as a public placement of securities that requires a securities dealer’s licence. Swiss-based advisors, ambassadors, marketing agencies and the like should therefore be careful when accepting unlisted securities tokens by way of payment and when subsequently distributing such tokens.
4. What are the preconditions for a securities dealer in the form of an issuing house?
Issuing houses underwrite securities issued by third parties in a professional capacity at a fixed rate or on commission and offer them to the public on the primary market. Securities are standardised certificated and uncertificated securities, derivatives and intermediated securities which are suitable for mass trading. Issuing houses are subject to the Swiss Federal Stock Exchange Act (SESTA), if they mainly operate in the financial sector.
4. What are the key requirements that must be fulfilled if a securities dealer licence is required?
- Professional capacity: The entity/person must act on an economically independent and self-reliant basis with the intention of generating regular income.
- At a fixed rate or on commission: The securities must either be placed on commission (in the issuing house’s own name but on behalf of a third party or be underwritten at a ‘fixed rate’. The risk bearer is in the former case the issuer and in the latter case the underwriter. The FAC re-classified the payment of shares for the provision of advisory services as underwriting ‘at a fixed rate’, because the payment has been made with the intention of placing the shares with the public. The FAC held that the advisory services of the Group represented a ‘repatriation of a part of the profits from the share purchases’.
- Public offering on the primary market: An offering is deemed to be public if it is addressed to an unlimited number of persons, i.e. if it is disseminated, in particular, by way of advertisements, prospectuses, circulars or the electronic media. Transactions between group companies or closely related parties prior to the distribution of shares do not result in a re-classification of the transactions as a primary market transaction. In this case, the FAC argued that ‘the use/instruction of intermediaries is regularly qualified as public advertising’. In addition, it notes that the shares were ‘widely distributed to various private investors’ and therefore concluded that the shares were publicly offered.
- Main activity is in the financial sector: The activity must be mainly in the financial sector. ‘Mainly’ refers to ‘an activity in the financial sector that must clearly outweigh any other activities, e.g. with industrial and commercial nature’. According to the FAC, this was fulfilled in this case, as X Ltd.’s business model involved the company financing itself through share purchases. The FAC further states that an ‘advisory activity which takes place with the intention of listing the shares of the advised companies is to be considered as an activity in the financial sector’. In other words, even if the Group only provided the consulting services in question, it could be assumed to have engaged in an activity in the financial sector, according to the FAC.
These requirements do not necessarily have to be fulfilled just by one individual actor, but can also be fulfilled by affiliated actors that operate jointly. The intention of circumventing the requirements of a financial licence is not required. The treatment as a group is justified if the activity subject to a licence is jointly carried out by several actors and the actors have close economic, organisational and personal ties, and only an overall consideration does justice to the factual circumstances at hand.
6. What should advisors, ambassadors, marketing agencies and do now when it comes to unlisted tokens?
Anyone based in Switzerland providing advisory services related to an ICO and accepting unlisted cryptocurrencies as payment should carefully review the exit scenario from such positions and ask whether the business activity does not require a securities dealer’s licence under Swiss law.
Please feel free to contact us for further assistance.
Summary
- The Federal Administrative Court has ruled that a group that distributed shares that it had accepted as payment for advice in connection with an IPO (initial public offering) violated the requirement that it hold a securities dealer’s licence.
- This ruling can apply analogously to unlisted tokens received as payment for advice in connection with an initial coin offering, so advisors, ambassadors and similar agents involved in an ICO should think very carefully before accepting in-kind payments of this sort.
- The consequences of getting it wrong are dire: following the court ruling, FINMA closed down the group that had infringed the rules.
