Cryptocurrencies, Blockchain and Initial Coin Offerings
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The document discusses the emerging landscape of cryptocurrencies, blockchain technology, and initial coin offerings (ICOs), highlighting their rapid growth and associated risks, such as cybersecurity and regulatory challenges. Aon aims to develop tailored insurance solutions to address these unique exposures faced by companies in financial services and technology sectors. The increasing regulatory scrutiny of ICOs and the need for distinct management liability insurance are emphasized as critical components for businesses in navigating this volatile environment.
![4 Cryptocurrencies, Blockchain and Initial Coin Offerings
Initial Coin Offerings
Along with the emergence and rapid growth of
cryptocurrencies, several innovative companies
have successfully raised capital by selling virtual
coins or tokens, which is known as an Initial Coin
Offering (ICO). These coins or tokens differ in utility
and may provide the holder with the right to a
future service, earnings or another form of currency.
Many ICO issuers are focused on blockchain and
may have venture capital backing, but ICOs are also
a threat to VCs as an alternate source of funding.
ICOs have been largely unregulated and provide
few, if any, protections for investors. Nonetheless,
so far in 2017 over 200 ICOs have raised capital in
excess of $3B, with the pace accelerating.
Risks and Solutions
In comparison to management liability insurance for
a traditional company, ICOs present heightened risks
surrounding: valuation, management experience,
unproven business model and, generally, “the
unknown”. However, the most concerning risk at
this point is the uncertain regulatory landscape.
Many ICOs have sought to reject the label of a
“securities offering” and as such haven’t been
in compliance with securities regulations, which
hasn’t gone unnoticed. It is clear ICOs have
gotten the attention of the SEC, on November
9th, 2017 SEC Chairman Jay Clayton warned:
“I have yet to see an ICO that doesn’t have a sufficient
number of hallmarks of a security. [Moreover], there
is also a distinct lack of information about many
online platforms that list and trade virtual coins or
tokens offered and sold in initial coin offerings.”
Indeed there are not only domestic regulators
paying attention. By nature of their underlying
distributed ledger technology, ICOs are
global and therefore subject to the laws of
many jurisdictions. China and South Korea
have banned ICOs. Any eventual action on
the part of regulators will impact the volume,
structures and disclosures of future ICOs.
While regulatory enforcement tops the list of
heightened risk factors, ICOs are subject to the
vagaries of the plaintiff’s bar through investor
litigation. The lack of registration with the SEC does
not shield ICOs from investors mounting litigation
rooted in securities regulation violations and
other statutory and tort based claims. In October
a class action was filed against blockchain startup
Tezos as a result of their coin. It was not the first
class action and very likely will not be the last.
Based on the risks outlined above, it should not
be surprising that, at this point, D&O insurers
do not have much of an appetite to provide
management liability insurance for ICOs. In
certain cases, a limited product offering may
be negotiated for D&O exposures associated
with ICOs. The need for these ICO companies to
successfully differentiate themselves is paramount
to successfully obtaining coverage in the market.
For example, those companies that are selling an
ownership stake, and therefore potentially deemed
in violation of securities laws, will have more
difficulty obtaining management liability insurance.
Aon expects the availability of D&O insurance
to be largely dictated by any developments and
further clarity with respect to regulations.](https://image.slidesharecdn.com/finalcryptoblockchainicowhitepaper2018industryfsg-180809160059/85/Cryptocurrencies-Blockchain-and-Initial-Coin-Offerings-6-320.jpg)
Cryptocurrencies, Blockchain and Initial Coin Offerings
- 1. Cryptocurrencies, Blockchain and Initial Coin Offerings Aon Risk Solutions
- 2. Introduction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 Cryptocurrencies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2 Risks and Solutions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2 Blockchain . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 Risks and Solutions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 Initial Coin Offerings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4 Risks and Solutions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4 Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5 Table of Contents
- 3. 1 Cryptocurrencies, Blockchain and Initial Coin Offerings Introduction Much attention is being given to cryptocurrencies, blockchain and Initial Coin Offerings (“ICOs”) – and with good reason. Bitcoin (a cryptocurrency) is hitting record highs; blockchain is being touted as a transformative technology with a variety of uses across industries; and the amount of money raised by start-ups via ICOs is rivaling traditional venture capital funding. Much has been written about both the benefits and likely fates of these new technologies, but none appears to be going away any time soon. Aon’s product and industry experts have been working to understand these quickly evolving technologies, discussing the related exposures with our clients and collaborating with the insurance marketplace to develop appropriate risk transfer solutions. These technologies and trends impact the full spectrum of our financial services clients, from early stage companies with a primary focus on new technology, to large complex global financial institutions. Whether utilizing cryptocurrency as an asset, a foundation for a startup business plan, or contemplating blockchain technology use cases for process transformation, Aon works with financial institutions to understand the evolving landscape and its related impact on risk transfer strategies both for long-established and first time insurance purchasers.
- 4. 2 Cryptocurrencies, Blockchain and Initial Coin Offerings Cryptocurrencies There are over one thousand cryptocurrencies (or “digital currencies”), with the largest being bitcoin and ether. Cryptocurrencies are largely unregulated and their rapid emergence has raised concerns of an asset bubble, manipulation and fraud. Cryptocurrencies have also stirred controversies hitting the headlines; among them are Mt. Gox, Silk Road and the DAO theft. Recently, however, several developments suggest cryptocurrencies are on the path to legitimacy. Both the Chicago Mercantile Exchange (CME) and Nasdaq plan to begin trading bitcoin futures contracts by year end, and several large financial institutions plan to facilitate their clients’ ability to trade in these instruments. Several large companies, including Microsoft, Overstock.com and Subway, accept payments in bitcoin. Bitcoin also is serving as an increasingly important currency in nations with central bank policy concerns, such as Venezuela and Zimbabwe. Risks and Solutions With cryptocurrencies on the rise, companies have been seeking insurance solutions to address new expsoures. Two obvious risks related to these cryptocurrencies are cyber security and fraud/theft. These risks are particularly impactful for cryptocurrency exchanges or depositories, investors and investment managers, financial institutions or any other entity involved with the handling of cryptocurrencies. Bitcoin has unique exposures; as an example, unlike many cash accounts, bitcoin is not backed by a government program, such as the Federal Deposit Insurance Corporation. Naturally, the question has arisen with regard to potential insurance cover for cryptocurrencies. Companies should consider whether their current Crime and Cyber insurance policies are covering the exposures associated with their handling of cryptocurrencies. The fact is, most of the “off-the-shelf” policies do not cover cryptocurrency exposures, as traditional crime policies were designed to address valuable physical property like cash, securities and precious metals. Typically, cyber policies cover many first-party and third-party aspects, such as forensics, investigations and notifications, but not necessarily the face value of the cryptocurrency. It is critical that crime and cyber policies are tailored to address a company’s unique risks related to these exposures. In recognition of the growing exposures and limitations of traditional insurance, Aon has developed a policy form to protect against loss of cryptocurrency (bitcoin), which is unlikely to be covered by a traditional crime policy which typically limits coverage to tangible assets. Aon has been working with a number of emerging companies providing bitcoin depository and trading services and have designed insurance products to help protect against internal and external theft.
- 5. 3 Cryptocurrencies, Blockchain and Initial Coin Offerings Blockchain Across all industries, technology advancement is an important component of cost reduction strategies. For financial institutions in particular, in the post- crisis environment, they have encountered lower revenues coupled with significantly increased regulatory costs. These entities turned to advancements in technology (including blockchain) as a means to reduce costs, improve margins and enhance their customers’ experience. While bitcoin may continue to have many skeptics, its underlying technology, “blockchain,” is garnering increasing praise as a useful and impactful technology. Blockchain is a “distributed ledger technology” (“DLT”) which means that there is no single master database held by a central party. Instead, various parties hold copies of the entire database. Blockchain implementation spans a wide spectrum of industries including financial services, real estate, energy, and others. By reducing or removing the reliance on intermediaries, blockchain based technologies can lead to faster and cheaper processes. As an example, a financial institution can use blockchain to improve post-trade processes by increasing efficiency and reducing settlement times and collateral requirements. Furthermore, blockchain is expected to facilitate the acceleration of disruption from other emerging technology trends such as connected devices (Internet of things), sensors, artificial intelligence and robotics. Risks and Solutions New exposures emerge as companies utilize and/or develop their own DLT-based solutions and client offerings. When there is a distributed ledger, who is in control (and, by extension, liable for potential loss)? Risks will vary depending on the structure and features of the blockchain – for example, is it “public” or “permissioned”? It is critical for both established financial institutions and emerging fintech companies to understand their risks and the available insurance solutions. As financial institutions increase their reliance on technology, Aon recommends an in-depth a review of professional liability (E&O) and cyber liability policies to avoid potentially significant gaps in coverage. One challenge is that most insurers are not appropriately structured to address these “FinTech” risks as they underwrite Technology and Financial Institutions in two historically different business units. Aon has been successful in developing comprehensive solutions to meet our clients’ developing technology exposures.
- 6. 4 Cryptocurrencies, Blockchain and Initial Coin Offerings Initial Coin Offerings Along with the emergence and rapid growth of cryptocurrencies, several innovative companies have successfully raised capital by selling virtual coins or tokens, which is known as an Initial Coin Offering (ICO). These coins or tokens differ in utility and may provide the holder with the right to a future service, earnings or another form of currency. Many ICO issuers are focused on blockchain and may have venture capital backing, but ICOs are also a threat to VCs as an alternate source of funding. ICOs have been largely unregulated and provide few, if any, protections for investors. Nonetheless, so far in 2017 over 200 ICOs have raised capital in excess of $3B, with the pace accelerating. Risks and Solutions In comparison to management liability insurance for a traditional company, ICOs present heightened risks surrounding: valuation, management experience, unproven business model and, generally, “the unknown”. However, the most concerning risk at this point is the uncertain regulatory landscape. Many ICOs have sought to reject the label of a “securities offering” and as such haven’t been in compliance with securities regulations, which hasn’t gone unnoticed. It is clear ICOs have gotten the attention of the SEC, on November 9th, 2017 SEC Chairman Jay Clayton warned: “I have yet to see an ICO that doesn’t have a sufficient number of hallmarks of a security. [Moreover], there is also a distinct lack of information about many online platforms that list and trade virtual coins or tokens offered and sold in initial coin offerings.” Indeed there are not only domestic regulators paying attention. By nature of their underlying distributed ledger technology, ICOs are global and therefore subject to the laws of many jurisdictions. China and South Korea have banned ICOs. Any eventual action on the part of regulators will impact the volume, structures and disclosures of future ICOs. While regulatory enforcement tops the list of heightened risk factors, ICOs are subject to the vagaries of the plaintiff’s bar through investor litigation. The lack of registration with the SEC does not shield ICOs from investors mounting litigation rooted in securities regulation violations and other statutory and tort based claims. In October a class action was filed against blockchain startup Tezos as a result of their coin. It was not the first class action and very likely will not be the last. Based on the risks outlined above, it should not be surprising that, at this point, D&O insurers do not have much of an appetite to provide management liability insurance for ICOs. In certain cases, a limited product offering may be negotiated for D&O exposures associated with ICOs. The need for these ICO companies to successfully differentiate themselves is paramount to successfully obtaining coverage in the market. For example, those companies that are selling an ownership stake, and therefore potentially deemed in violation of securities laws, will have more difficulty obtaining management liability insurance. Aon expects the availability of D&O insurance to be largely dictated by any developments and further clarity with respect to regulations.
- 7. 5 Cryptocurrencies, Blockchain and Initial Coin Offerings Conclusion Since the days of Alexander Hamilton, fiat currency has posed risks of speculation, asset bubbles, and fraud. However, the convergence of the digital economy with digital currency has created an environment where the pace of change rivals that of the federal monetary system in the late 1700’s, and the exposures for our clients are developing just as quickly. As evidenced above, the age of cryptocurrencies, blockchain and ICOs is upon us. Aon is working to proactively create solutions to meet our clients’ needs and encourage insureds to collaborate with their broker to map their unique, emerging exposures relative to the programs in place or for first time insurance purchases. Aon will continue to monitor developments in this sector and collaborate with the insurance market to create solutions and inform our clients accordingly............
- 8. About Aon Aon plc (NYSE:AON) is a leading global professional services firm providing a broad range of risk, retirement and health solutions. Our 50,000 colleagues in 120 countries empower results for clients by using proprietary data and analytics to deliver insights that reduce volatility and improve performance. © Aon plc 2018. All rights reserved. The information contained herein and the statements expressed are of a general nature and are not intended to address the circumstances of any particular individual or entity. Although we endeavor to provide accurate and timely information and use sources we consider reliable, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation. www.aon.com/crypto GDM04940