Prospectus Liability and Initial Coin Offerings—Back to the Roots

Initial coin offerings (ICOs) have been something like the flavour of the month in legal research. In the last years almost every law journal dealt extensively with this phenomenon. The most relevant—and some even claim the only really relevant—legal questions about ICOs are whether the issuance of a prospectus is required and the related liability regime applies. So far, most regulators have been reluctant to impose this requirement on ICOs to avoid regulatory over-reach. This is also the situation in Germany where a clear regulatory answer to those questions is missing. However, in its decision of May 27, 2020 (docket No. 2 O 322/18), the Regional Court of Berlin (Landgericht Berlin) held that liability of the ICO sponsors for damages suffered by investors In the ICO can nevertheless be established according to (German) general civil law.

1. Background of the Case

A group of software engineers founded a private company (GmbH) in Berlin. This company then founded and substantially financed a Swiss stock corporation (AG) which initiated an ICO for an amount of about €80 million. In the occasion, the Swiss corporation issued a prospectus, a white paper and a subscription agreement. The German corporation provided the software for the ICO and administered the smart contracts. The plaintiff had invested about $188,000. Later, the Swiss corporation went bankrupt.

2. Reasoning of the Court

The Regional Court of Berlin held the German corporation liable by applying the so called general civil law prospectus liability. In German capital markets law prospectus liability is mainly governed by statutory rules in the Securities Prospects Act. In addition, a general civil law prospectus liability exists which is based on case law developed by German courts without any relation to European consumer protection law in the 1970s and 1980s in cases where shares of limited partnerships were distributed to private investors in doorstep sales (for a detailed overview see Mock, Germany, in: Busch/Ferrarini/Franx, Prospectus Regulation and Prospectus Liability, OUP, 2020, p. 465 ff.). The doctrine is based on the principle of culpa in contrahendo and basically states that a person can be held liable if he or she offers investments to third persons and, in the process, provides false or misleading information. The Regional Court of Berlin held that, because liability can also be based on the general civil law prospectus liability doctrine, the question whether the specific prospectus regime applies to ICOs was irrelevant in the case. Yet, the court also held that the white paper and the prospectus issued in the occasion of the ICO had to be considered as a prospectus under the doctrine of general civil law prospectus liability and that they contained misleading statements, inter alia because they did not sufficiently state the relation of the issuer (Swiss corporation) to the German corporation. Also, the court held that the defendant, although not directly being involved in the ICO, can be held liable since it controlled the Swiss corporation and provided the basic infrastructure for the ICO. Besides the general questions whether the initiator of an ICO can be held liable the court also addressed some interesting questions regarding the international jurisdiction for such cases and the applicable law. The court held that German courts had international jurisdiction according to the Lugano-Treaty since the defendant had its seat in Berlin. Also, the court applied German law according to art 12 of the Rome-II-Regulation since the case was closely connected to Germany.

3. Conclusion

The Regional Court of Berlin opinion implies, first, that complex as it may be from a technical point of view, an ICO appears to be nothing but a regular investment opportunity in which the initiators—and the people behind them—can be held liable (under German law) if they provide false or misleading statements. A second element of the case worth highlighting is that the aspects of international jurisdiction and private international law were held to be more or less irrelevant. Although an ICO can be initiated from almost every place on earth, the people behind these ICO are usually to be found in the same place as the investors. By applying concepts like the German general civil law prospectus liability with a broad understanding of who can be held liable, these cases become almost local providing good prospects for investor claims.

Sebastian Mock is a professor of corporate and insolvency law at the Vienna University of Economics and Business.