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US regulator acts to curb ICO 'fraud'

The assets of a business behind an 'initial coin offering' (ICO), as well as those of its owner and owner's partner, have been frozen by a US court in response to concerns expressed by a regulator that the scheme is a scam.06 Dec 2017

The Securities and Exchange Commission (SEC) said that since August PlexCorps had raised up to $15 million from thousands of investors "by falsely promising a 13-fold profit in less than a month".

The company, together with its owner Dominic Lacroix, are accused of having "marketed and sold securities called PlexCoin on the internet to investors in the US and elsewhere, claiming that investments in PlexCoin would yield a 1,354% profit in less than 29 days", SEC said.

The regulator was granted "an emergency asset freeze" by a federal court in New York as part of a broader case brought by its new cyber unit.

Robert Cohen, chief of the cyber unit at SEC, said: "This first cyber unit case hits all of the characteristics of a full-fledged cyber scam and is exactly the kind of misconduct the unit will be pursuing. We acted quickly to protect retail investors from this initial coin offering's false promises."

In papers filed before the New York court, the cyber unit has accused PlexCorps, Lacroix, and Lacroix's partner Sabrina Paradis-Royer, of breaching anti-fraud provisions of US securities laws. PlexCorps and Lacroix have also been charged with violating registration rules under those laws.

The SEC said it is seeking "permanent injunctions, disgorgement plus interest and penalties". It has also asked the court to issue an order barring Lacroix from serving as a company officer or director and a further order barring Lacroix and Paradis-Royer from offering digital securities. The SEC has described Lacroix as "a recidivist Quebec securities law violator".

The SEC's new cyber unit was set up in September to address "misconduct involving distributed ledger technology and initial coin offerings, the spread of false information through electronic and social media, hacking and threats to trading platforms", the regulator said.

Civil fraud and asset recovery specialist Alan Sheeley of Pinsent Masons, the law firm behind Out-Law.com, said that the UK's equivalent of the SEC’s cyber unit is the Metropolitan Police’s Fraud and Linked Crime Online (FALCON) unit. It works on tackling fraud and online crime – the most serious incidents of cybercrime are reserved for the Cyber Crime Unit which falls within the remit of FALCON.

However, Sheeley said limited resources serve to restrict UK law enforcement's actions to "stopping the fraud continuing" in most cases, in line with their ‘prevention is better than cure’ remit.

"At best, they may seek to find the fraudster and prosecute him or her," Sheeley said. "However, very rarely will they seek orders to restrain the monies, as the SEC’s cyber unit did in this case, as this is rarely the focus and drive of a UK law enforcement investigation."

"Unfortunately, in the UK, the self-help remedy of bring civil litigation is normally the victim’s best, and sadly only, route if they want to recovery money. Such litigation allows the victim to control the process and obtain freezing orders to freeze the fraudster’s bank account to assist on getting the victim’s money back and avoid dissipation of the monies," he said.

Sheeley said the PlexCorps case in the US is notable for the "sheer number of investors" who bought into the scheme. He said it is likely that there will be an increase in group litigation orders in the cybercrime fraud arena in future, as defrauded investors seek strength in numbers.

"Group litigation on these facts would enable the investors to be joined as parties to a claim," Sheeley said. "With plans in the pipeline for a new court specialising in cyber crime and fraud cases to be opened in London, this may be the perfect forum to hear a new wave of group litigation claims that could arise out of cyber crimes. Clearly, it is important that victims of fraud of any type liaise with civil fraud solicitors that are experts in this area sooner rather than later if they want to maximise the chances of recovering monies, as speed is key in fraud matters and especially so in cyber fraud."

ICOs are an increasingly popular way for businesses to raise money. Typically, businesses will develop a digital token, such as their own proprietary virtual currency, and look to sell those tokens to investors in a bid to raise capital in return for existing cryptocurrency, such as Bitcoin, Ether or Ripple rather than fiat currency such as dollars, euros or pounds. The trade of these tokens is recorded using blockchain.

Investors can in most cases sell on those tokens for profit on certain peer-to-peer exchange platforms should the value of the tokens increase. They are sometimes further incentivised into buying the tokens by being given the opportunity to share in profits generated from the business ventures that benefit from their investment. 

There has been a mixed reaction to the growth of the market for ICOs from financial authorities across the world.

Regulators around the world have been playing catch-up on ICOs and the way they should be regulated. SEC, the Monetary Authority of Singapore, and Hong Kong's Securities and Futures Commission (SFC) are among the authorities to have offered detailed views on how existing regulations apply to ICOs. The UK's Financial Conduct Authority (FCA) issued a risk warning to consumers over investing in ICOs in September.

ICOs are banned in China and South Korea. Financial services and technology law expert Yvonne Dunn of Pinsent Masons, the law firm behind Out-Law.com, recently said that banning ICOs is not the way forward for regulators, despite the legal and regulatory risks that could arise if they are not subject to proportionate regulation.

Recently, Swiss regulator the Financial Market Supervisory Authority (FINMA) issued guidance on ICOs and confirmed that it is "investigating a number of ICO cases to determine whether regulatory provisions have been breached".