In line with Vision 2021, and in keeping with the strategy of a balance between the evolving needs of the industry whilst ensuring high standards of investor protection and market integrity, the Malta Financial Services Authority ('MFSA') has, today, issued a consultation document aimed at adopting a supervisory approach relating to Security Token Offerings (' Consultation Document').
The Consultation Document recognises the benefits offered by the use of technology within capital markets, one must not ignore the risks presented by such technology advances. In this regard, the Consultation Document has been prepared with the EU legislative framework in mind as well as with the aim to provide objective guidance on the applicability of same to Security Token Offerings (STOs).
Definition of STOs
The Consultation Document makes reference to the Financial Instrument Test that must be carried out in order to determine whether a particular DLT Asset falls within the classification of a financial instrument or otherwise and, subsequently, as to whether that financial instrument is a transferable security in terms of MiFID. Should an instrument fall within the classification of a transferable security, the MFSA is proposing a further classification into Traditional STOs (TSTOs) which have identical characteristics as their non-technology enabled counterparts, and Other STOs (OSTOs) – a digital representation sharing some qualities of traditional transferable securities.
It is being proposed that the new framework should be applied initially to TSTOs as further study is required into the risks and challenges posed by OSTOs including, potentially, the use of a regulatory sandbox for same.
Applications for the Approval of Prospectuses and/or the Admissibility to Listing and Trading of TSTOs
In determining the nature of the security, the MFSA shall rely on the determination made by the Issuer but may require the Sponsor (or the Applicant) to submit a legal opinion confirming that the security is a TSTO.
Moreover, the MFSA is proposing that, initially, the issuing entity be set up as a limited liability company with other structures being reviewed by the MFSA.
Having been presented with an application for the approval of a Prospectus or authorisation for admissibility to listing, the MFSA shall carry out a tripartite analysis of the Applicant as follows:
- Financial soundness
In this regard, the MFSA shall be assessing the Applicant's solvency. In this regard, in the knowledge that a review of a TSTO could be more demanding in view of the lack of historical information and, in certain instances, limitations on the availability of industry benchmarks. As such, the MFSA would consider it necessary for such Issuers to draw up a FDDR containing an explanation of the business model with historical and/or projected financial information as well as additional security/guarantees thereby placing the Authority in a better position to asses the financial soundness of the Applicant.
- Corporate Governance
The MFSA expects the board of directors to have and maintain sufficient knowledge in order to undertake their role diligently and where the board is also responsible for the innovative technology arrangements underpinning the storage and transaction of the securities, the Cyber-Security Framework and IT Infrastructure Requirements of the VFA Act should be adhered and a Systems Auditor be appointed.
- Transparency Requirements
In this regard, the MFSA is of the opinion that the requirements of the Prospectus Regulation and the relevant Annexes adequately cater for TSTOs and no major issues are envisaged.
Additional ongoing obligations
The MFSA is proposing that where the Company itself operates an underlying DLT, the Company shall be required to prepare a Type 2 Systems Audit on an annual basis.
The Consultation Document draws a difference between centralised and decentralised trading systems and proposes that for TSTOs, a decentralised system would need to be permissioned, allowing authorised financial intermediaries to be the users of the chain and to provide direct electronic access for the DLT to their clients.
Market Abuse Regulations (MAR)
The MFSA is proposing that in view of the fact that the MAR shall be applicable to TSTOs, market operators would need to have effective arrangements, systems and procedures aimed at preventing, detecting and reporting market abuse. Moreover, Issuers of TSTOs shall also be required to comply with all requirements under the MAR.
The MFSA is proposing that the CSD would need to be the ultimate authority responsible for the coding and operation of the DLT or that alternatively, upon registration for active participation in the DLT, participants would be required to sign up to a particular governing law allowing the CSD to choose the law of the jurisdiction in which its operating platform is based.
The consultation period shall run until the 30th August and industry participants and interested parties are invited to send their feedback via email to firstname.lastname@example.org
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.