By: Stephen Morrissey, Ryan Loney and Jorge Nicholas

At a glance

• In Australian Securities and Investments Commission v Web3 Ventures Pty Ltd [2024] FCA 64 (Block Earner), the Federal Court of Australia handed down one of the first decisions applying existing financial services law to cryptocurrency-based products.
• The Federal Court held in Block Earner that the lending of ‘pooled cryptocurrency’ by customers to Web3 for a fixed interest amount constituted a management investment scheme for which an Australian Financial Services Licence was required.
• Block Earner provides one of the first insights into how Courts will approach the application of financial services law and product regulation when dealing with cryptocurrency products.

Issues

In November 2022, the Australian Securities and Investments Commission (ASIC) commenced proceedings in the Federal Court of Australia against Web3 Ventures Pty Limited (Web3), alleging that Web3 did not hold an Australian Financial Services Licence required to offer certain cryptocurrency products to customers in accordance with the Corporations Act 2001 (Cth) (Act).

ASIC submitted Web3 contravened the Act, in respect of two products known as the ‘Earner’ and ‘Access’ products. The ‘Earner’ product enabled users to lend cryptocurrencies to Web3 in return for a fixed interest yield, while the ‘Access’ product facilitated access to other decentralised lending which pay returns for ‘staking’ pegged cryptocurrencies.

In response to the allegations, Web3 submitted that an investor’s entitlement to a fixed yield from its ‘Earner’ product did not constitute a financial product or managed investment scheme due to the way in which customer funds were ‘pooled’ to earn a fixed interest irrespective of the product’s performance. In relation to the ‘Access’ product, Web3 argued that it provided an access service to users and the customer retained a digital currency exchange.

The decision

The proceedings were heard on 31 January 2024 and Justice Jackman gave judgment on 9 February 2024.

Jackman J held that ASIC’s complaints were partially sustained, finding that Web3 had contravened the Act by operating an unregistered managed investment scheme and an investment facility with respect to its ‘Earner’ product such that Web3 was required to hold an AFSL. In reaching this position, Jackman J accepted ASIC’s argument that an “FAQ” on Web3’s website, which referred to the ‘pooling’ of customer funds, contributed to its characterisation as a managed investment scheme.

As Web3 did not hold an AFSL, ASIC succeeded in establishing contraventions of sections 601ED and 911A of the Act in respect of the ‘Earner’ product. A pecuniary penalty is to be determined on 1 March 2024.

In respect of the ‘Access’ product, Jackman J dismissed ASIC’s complaint on the basis that the product constituted a contract for the future provision of services, and it is therefore excluded from being a derivative under the Act. In arriving at this position, Jackman J held that the substance of the ‘Access’ service is that the users are given streamlined access to DeFi protocols and the digital tokens in which users retain custodial ownership, and such services do not constitute financial services for the purposes of the Act.

Implications for insurers

Block Earner is a reminder that ASIC is continuing to focus on enforcement activity against cryptocurrency related start-ups (and financial technology businesses more generally) as new and novel products are introduced.

Despite the complexity in categorising novel crypto-related financial services, ASIC’s guidance¹ makes clear that companies offering products with crypto-assets must consider whether they are offering financial products under the Act and, therefore, require an AFSL before distributing the product.

^[1] https://asic.gov.au/regulatory-resources/digital-transformation/crypto-assets/#part-a