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The Marriage of Technology, Markets and Sustainable (and) Social Finance: Insights from ICO Markets for a New Regulatory Framework

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Abstract

It is generally agreed that gaps in sustainable and social finance should be met by increased marketization. However, there are significant challenges in galvanising the investment community used to conventional securities and other investment market instruments. Our article proposes using technological innovations in fund-raising, observed in the initial coin offerings (ICOs) market, to transform the asset class of sustainable and social finance in order to achieve greater marketization, creating an integrated form of social-commercial value for a variety of different investors, from conventional to crowdsourced marketplaces. Key to our proposal is the innovation of tokenisation introduced in ICOs. We argue that tokenisation holds transformative potential for restructuring investment opportunities, as assets need not be tied to the expectations and obligations of conventional financial value creation. Tokens can offer different classes of financial and non-financial rights and rewards. We propose that sustainable and social finance can be raised by corporate structures dedicated to sustainable or social purposes, as dual-class offerings. One class of tokens allows holders to commit to the sustainable or social ends and exercise governance rights as part of their investment. Such token-holders are also expected to be long-term investors and subject to lock-in periods, in order to support the ultimate fulfilment of the sustainable or social project. The other class of tokens would carry no governance rights but be immediately tradeable. This class of tokens likely attracts more transient investors but would provide an important source of finance for sustainable and social projects. The success of ICOs reflects the importance of market conditions and liquidity for this class of investors and we make some proposals as to how such markets can be made more robust by appropriate regulation.

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Notes

  1. Whether we refer to public bodies, development institutions, international organisations or private banks.

  2. A hybrid approach in governing green bonds is discussed in Park (2018).

  3. Section 3.

  4. See http://www.un.org/sustainabledevelopment/sustainable-development-goals/.

  5. Black (2002).

  6. The wealth of some multinational corporations would dwarf some countries’ gross domestic product, see ‘World’s largest corporations make more money than most countries on Earth combined’, The Independent, 13 September 2016, at https://www.independent.co.uk/news/business/news/worlds-largest-corporations-more-money-countries-world-combined-apple-walmart-shell-global-justice-a7245991.html. Multinational corporations sometimes bring infrastructural, economic and innovative developments to emerging countries that host them, see Dunning and Lundan (2008), chs. 10, 11, 16, 17 and 18; Boddewyn (2017); Narula and Guimón (2009); but not without externalities too, see e.g. Ruggie (2017); Dine (2000, 2004), ch. 5 (‘Transnational corporations out of control’), pp 151–175; Bakan (2003).

  7. Gunningham (2012); Boscheck (2008).

  8. Brousseau, Dedeurwaerdere and Siebenhüner (2012); Drori and Meyer (2006).

  9. Roberts (2011). Also discussed in Cafaggi and Renda (2012); Abbott and Snidal (2009).

  10. Sourced from World Resources Institute online at http://www.wri.org/our-work/project/climate-finance.

  11. Discussed below in Sect. 2.3.

  12. Sourced from World Resources Institute online at http://www.wri.org/our-work/project/climate-finance.

  13. Adeyemi (2014); Herbertson and Hunter (2007).

  14. Weber (2015).

  15. Cornée and Szafarz (2014) on social banks charging lower interest rates on lending in order to mitigate defaults; Clifford and Jung (2016) on social impact bonds generating lower returns on average than conventional investments; Brandstetter and Lehner (2016).

  16. Tischer and Remer (2016); Weber and Duan (2012).

  17. Credit Unions Act 1979 now superseded by the Co-operative and Community Benefit Societies Act 2014. Also cf. co-operative or community banks in other jurisdictions, Bonoldi, Broccardo, Erzegovesi and Leonardi (2016).

  18. Balboni, Kocollari and Pais (2014); Burtch et al. (2013); Harms (2007); Lehner (2013) document the importance of altruism, the alignment of social value and non-financial motivations as being important to social crowdfunding alongside or relative to financial motivations.

  19. Such as long-term sustainable or social finance being aligned with the long-term maturity of investment obligations for pension funds, see High Level Expert Group (HLEG) (2018), pp 74 et seq.

  20. HLEG (2018).

  21. OECD, Green Finance and Investment Mobilising Bond Markets for a Low-Carbon Transition (2017), p 33 on initiatives to standardise green bond issuance terms.

  22. Discussed in Eurodad (2017); Gillet and Salaber-Ayton (2016).

  23. Such as the FTSE4Good Index; Dow Jones Sustainability Index provided by leading stock exchanges. Discussed in Eurodad (2017); Vogel (2005), ch. 3.

  24. Cowan v. Scargill [1985] 1 Ch 270; also see Richardson (2007).

  25. UNEPFI (2009); Sandberg (2011).

  26. Explained as ‘singularising’ the profit of investment as a monetised measure, see Amaeshi (2010).

  27. The duty of care imposed on pension trustees in sections 1 and 2 Trustees Act, or imposed on mutual fund managers in the EU undertakings for collective investment in transferable securities (UCITs) Commission Directive 2010/43/EU [2010] OJ L176/42, Art. 23.

  28. Discussed in this Section.

  29. The duty of loyalty refers to non-deviation from the primacy of financial value creation, thus investing for other purposes such as for social and ethical purposes could potentially be contrary to the requirements of the duty, an issue dealt with in UNEPFI (2009); Generation Foundation, UNEP and UNPRI (2016); this issue still not satisfactorily resolved, see Hoepnerab, Rezec and Siegl (2011); Yeoh (2014).

  30. See Leibowitz (1986), pp 68–75 and 47–57 respectively.

  31. Morley (2013); Fender (2003).

  32. E.g. Fitch rates asset managers and funds, and Morningstar also provides a much trusted bond and equities funds ratings service.

  33. Iain MacNeil, ‘Mapping the Landscape of the Legal Framework for Sustainable Finance’, at the Sustainable Finance Workshop, University of Glasgow, 29 March 2018.

  34. E.g. UN Principles of Responsible Investment, at https://www.unpri.org/pri/what-are-the-principles-for-responsible-investment and Puaschunder (2016).

  35. Geobey (2016); Royal, Sampath and Windsor (2016).

  36. Such as Principle 4, UK Stewardship Code 2012; the EU Shareholders’ Rights Directive 2017/828/EU [2017] OJ L132/1, Art. 3 g.

  37. High Level Expert Group (HLEG) (2018), pp 7, 20–21.

  38. It remains elusive how the ESG reporting impacts on investment decisions, see Chiu (2014) and (2017).

  39. EU Non-financial Reporting Directive 2014/95/EU [2014] OJ L330/1, Art. 19a, transposed into s. 414CA, UK Companies Act 2006. See also High Level Expert Group (HLEG) (2018), pp 23–25.

  40. Such as the capital asset pricing model and the developments in modelling since. Sun, Louche and Pérez (2011).

  41. Glémain (2011); Château Terrisse (2011).

  42. Tekula and Shah (2016); Islam (2015), ch. 2.

  43. Gray, Collison and Bebbington (1997); Islam (2015); Climent and Soriano (2011).

  44. High Level Expert Group (HLEG) (2018), pp 5–7, 46–8, 55–58.

  45. Gillet and Salaber-Ayton (2016); Déjean, Le Theule and Oxibar (2011); Anderson (2016); Richardson (2009a).

  46. Kroeger and Weber (2016); Chiu (2011).

  47. Such as the standardisation of the International Accounting Standards to be used in EU corporate reporting, Accounting Standards Directive 2001/65/EC [2002] OJ L243/1.

  48. Hess (2008).

  49. Brandstetter and Lehner (2016); Casasnovas and Ventresca (2016); and this issue is faced in many jurisdictions, see e.g. Black (2016); Preu and Richardson (2011).

  50. Empirical research reports that renewable energy projects have been cancelled as their financial value creation is too uncertain for investors in market-based finance, see Herbertson and Hunter (2007).

  51. Lauesen (2016).

  52. Cetindamar and Ozkazanc-Pan (2017).

  53. Amaeshi (2010).

  54. Portfolio turnover may generate better returns if asset managers actively switch in and out of assets depending on their performance, but it is inconclusive if portfolio turnover is a key determinant of investment performance, Ippolito and Turner (1987); Payne, Prather and Bertin (1999).

  55. Above Sect. 3.1.

  56. E.g. Art. 84, UCITs Directive 2009; Arts. 16, 18, AIFMD.

  57. Art. 85, Schedule A, UCITs Directive 2009; Art. 19, AIFMD.

  58. Abner (2010), ch. 2; Gastineau (2010).

  59. See the discussion in Barker and Chiu (2017), chs. 6, 7.

  60. Taranto (2016).

  61. Against market abuse.

  62. See Walter et al. (2016), pp 67–74, 87–92; Miles (2005).

  63. On social venture capital, see Cai (2016); Martin (2016); Glémain (2011); Château Terrisse (2011); Crifo and Forget (2013). On specialist institutions such as social banks and microfinance, see; Clifford and Jung (2016); Tischer and Remer (2016); Tekula and Shah (2016). On social crowdfunders and their engagement with the project, see Lehner (2013); Schwienbacher and Larralde (2010); Frosio (2015).

  64. Section 2; Preu and Richardson (2011).

  65. Walter et al. (2016), pp 15–20.

  66. High Level Expert Group (HLEG) (2018), pp 6, 20, 70–72.

  67. See the discussion in Barker and Chiu (2017), ch. 4.

  68. High Level Expert Group (HLEG) (2018), pp 15–19.

  69. See https://www.coinschedule.com/stats.html.

  70. Adhami (2017).

  71. Adhami (2017).

  72. Zetzsche (2017).

  73. Kaal and Dell’Erba (2019).

  74. Hacker and Thomale (2017); Zetzsche (2017); Rohr and Wright (2017).

  75. Zetzsche (2017).

  76. Barsan (2017); Chen (2017) and documented by Zetzsche (2017) as the majority of the type of tokens issued.

  77. SEC (2017).

  78. La Porta et al. (2006).

  79. See Committee of European Securities Regulators (CESR) (2010) documenting financial intermediaries’ less than optimal treatment of clients in imposing charges and fees, and this paved the way ultimately for new and restrictive rules on charging customers for research expenses in connection with dealing, MiFID Commission Directive 2017/593 [2017] OJ L87/500.

  80. Discussion in Chiu (2017).

  81. E.g. problems revealed in poor custody of client moneys and assets in Lehman Brothers International (Europe) (in administration) v. CRC Credit Fund Ltd and others [2010] EWCA Civ 917; In the matter of Lehman Brothers International (Europe) (In Administration) and In the matter of the Insolvency Act 1986, UK Supreme Court, 29 February 2012 [2012] UKSC 6.

  82. A ‘hot’ wallet which can be accessed over the internet is more risky, and resulted in the hack at Coincheck, causing a loss of the equivalent of USD$500 million in digital tokens. A ‘cold’ wallet which is stored on computers not connected to the internet are regarded as more robust to cybersecurity risks.

  83. Dimpfl (2017).

  84. It is reported that exchanges have to limit subscribers due to a surge in the volume of demand, and new exchanges arise to fill the gap for unmet demand, see ‘Latest Digital Asset Exchange BITPACTION Slotted To Get Rolled Out Soon’, 17 January 2018, at http://www.nasdaq.com/press-release/latest-digital-asset-exchange-bitpaction-slotted-to-get-rolled-out-soon-20180117-01294.

  85. ‘36 bitcoin exchanges that are no longer with us’, at https://bravenewcoin.com/news/36-bitcoin-exchanges-that-are-no-longer-with-us/; ‘Melotic shits digital asset exchange’, Coindesk.com (2015), at https://www.coindesk.com/melotic-shuts-down-digital-asset-exchange/.

  86. These markets may however require registration with the SEC if investment tokens, thus securities, are traded.

  87. Fink and Johann (2014).

  88. Dimpfl (2017).

  89. Fink and Johann (2014); Scaillet (2017).

  90. Perez (2002) and (2010).

  91. ‘ICO bankruptcy: what happens with tokens of failed projects’, at https://bitnewstoday.com/market/ico/ico-bankruptcy-what-happens-with-tokens-of-failed-projects/.

  92. Bianchetti (2018).

  93. Fink and Johann (2014).

  94. Chiu (2018).

  95. Ho (2014), on this development for corporate securities.

  96. A new set of directors’ reporting requirements pursuant to government recommendations to strengthen directors’ duties to account for how they have taken environment, social and stakeholder factors into account in promoting the long-term success of the company, see s. 414CZA, Companies Act 2006, as amended 2018.

  97. The soft law in the UK Stewardship Code Principle 4 encourages engagement with ESG issues, but this is now strengthened in the EU Shareholder Rights Directive 2017/828/EU [2017] OJ L132/1, Art. 3 g in relation to the best practice that institutions need to put in place in relation to their monitoring and engagement, subject to a comply or explain basis. The developments in reconciling investment managers’ fiduciary duties towards financial value creation and taking into account ESG factors have also scaled up, see High Level Expert Group (HLEG) (2018), pp 20–21 arguing that investment managers’ fiduciary duties towards investors should explicitly incorporate the need to consider material sustainable and social factors.

  98. Discussed in Sect. 2.

  99. Ambec and Lanoie (2008); Richardson (2009b); Richardson and Cragg (2010).

  100. There is a lot of innovation in terms of investment instruments for financial value creation, such as alpha, beta and smart beta techniques for investing in portfolios of conventional securities assets, see Fidelity, ‘Alpha, Beta and Smart Beta’, at https://www.fidelity.com/learning-center/investment-products/etf/smart-beta.

  101. There is a marked rise in the appetite for green bonds largely because of regulatory efforts aimed at standardising and marketising them, remarks made by Gavin Templeton, ‘Green Bonds’ at the Sustainable Finance Workshop, University of Glasgow, 29 March 2018.

  102. Bell and Haugh (2016).

  103. Brakman Reiser and Dean (2017a).

  104. Dulac (2015) on mooting the possibility of benefit corporations going public.

  105. Chiu (2018).

  106. Catalini and Gans (2018).

  107. The relevance of non-financial motivations such as wishing to benefit the community or attain a collective good, see Paranque (2016).

  108. Schäfer (2012).

  109. Fullwiler (2016).

  110. Discussed in Sect. 4.3.

  111. Such as people willing to engage in social crowdfunding for the ‘fun’ aspect of the experience, see Dey and Marti (2016); Burtch, Ghose and Wahal (2013).

  112. Schoenmaker (2017); Hockett (2014).

  113. Similar to that argued in Talbot (2013).

  114. Keister (2002).

  115. Fullwiler (2016).

  116. Geobey (2016).

  117. Schoenmaker (2017).

  118. Paranque and Pérez (2016).

  119. Kroeger and Weber (2016); Gray et al. (1997).

  120. See (d) below.

  121. Anne Richards, ‘We Need a New Way to Assess Investment Managers’, Financial Times, 5 April 2018, advocating the use of a balanced scorecard for financial and non-financial value creation; the B-Lab Impact Assessment standard can be found at https://bimpactassessment.net.

  122. Barker and Chiu (2017), chs. 6, 7.

  123. Nadler and Breuer (2017); Bozesan (2016) on non-financial, community-focused and other-centred motivations for sustainable and social investment.

  124. Wright and de Fillippi (2015); Kakavand (2016).

  125. Lafarre and van der Elst (2018).

  126. Kaal and Calcaterra (2017); Norton Rose Fulbright (2017).

  127. Keay (2009); in the US see Strine (2012).

  128. See Chiu (2018), at section A.

  129. Bakan (2003).

  130. Glänzel and Schmitz (2016).

  131. Companies (Audit, Investigations and Community Enterprise) Act 2004, the test is whether a company’s objective is in the community interest according to a reasonable person, s. 35.

  132. Reg. 3, The Community Interest Company Regulations 2005.

  133. Reg. 26, The Community Interest Company Regulations 2005.

  134. Part 3, The Community Interest Company Regulations 2005 and s. 32, Companies (Audit, Investigations and Community Enterprise) Act 2004.

  135. Part 6, The Community Interest Company Regulations 2005.

  136. Sections 102, 201, Model Benefit Corporation Legislation v2017, which is used as the basic template for most of the US States’ benefit corporation legislation, at http://benefitcorp.net/sites/default/files/Model%20benefit%20corp%20legislation%20_4_17_17.pdf.

  137. Delaware Code Annotated tit. 8, §§ 361–368 (2013) at § 362.

  138. Sections 102, 201, Model Benefit Corporation Legislation v2017.

  139. Section 301, Model Benefit Corporation Legislation v2017.

  140. Section 401, Model Benefit Corporation Legislation v2017.

  141. Brakman Reiser (2011); Brakman Reiser and Dean (2017b) on how social enterprise law needs to provide more clearly an organisational form to advance social benefit.

  142. The Legislative Reform (Private Fund Limited Partnerships) Order 2017.

  143. The HLEG suggestions for reforms of accounting standards and reporting measures, see above.

  144. Chiu (2018).

  145. Kaal and Calcaterra (2017).

  146. Read (2016).

  147. Walch (2016).

  148. Robinson (2018).

  149. We draw extensively from the Markets in Financial Instruments Directive 2014/65/EU [2014] OJ L173/349 in terms of the prevailing standards for financial intermediary conduct, see generally Busch and Ferranini (2017).

  150. FCA Handbook PRIN2, at https://www.handbook.fca.org.uk/handbook/PRIN/2/.

  151. Lee (2011).

  152. Bradley (2000), pp 83–88.

  153. ‘36 bitcoin exchanges that are no longer with us’, at https://bravenewcoin.com/news/36-bitcoin-exchanges-that-are-no-longer-with-us/; ‘Melotic shits digital asset exchange’, Coindesk.com (2015), at https://www.coindesk.com/melotic-shuts-down-digital-asset-exchange/.

  154. Whether capital adequacy constrains risk depends on the level it is set. The international standards for capital adequacy in the form of the Basel II and III Accords are discussed in Gleeson (2012).

  155. See Bank Recovery and Resolution Directive 2014/59/EU [2014] OJ L173/190, section 2.

  156. The importance of loss mutualisation is discussed in Levitin (2015).

  157. This is not dissimilar to the MiFID 2014 standards requiring market operators to be approved by regulators.

  158. ‘“Market manipulation 101”: “Wolf of Wall Street”-style “pump and dump” scams plague cryptocurrency markets’, UK Business Insider, 14 November 2017, at http://uk.businessinsider.com/ico-cryptocurrency-pump-and-dump-telegram-2017-11.

  159. SEC (2017); and increased subpoenas issued to intended ICO issuers, see ‘Spooked By SEC, Video Streaming ICO Halts Airdrop’, Coindesk.com, 13 March 2018.

  160. Chiu (2018).

  161. Lo (2016).

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Authors and Affiliations

  1. Professor of Corporate Law and Financial Regulation, University College London, London, UK

    Iris H. Y. Chiu

  2. Visiting Professor of Law, University College London, London, UK

    Edward F. Greene

  3. Visiting Professor of Law, Oxford University, Oxford, UK

    Edward F. Greene

  4. Professor of Law, University of Columbia, Columbia, USA

    Edward F. Greene

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Chiu, I.H.Y., Greene, E.F. The Marriage of Technology, Markets and Sustainable (and) Social Finance: Insights from ICO Markets for a New Regulatory Framework. Eur Bus Org Law Rev 20, 139–169 (2019). https://doi.org/10.1007/s40804-019-00138-y

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