A California federal district court has reversed its own order denying a preliminary injunction against a token issuer and its founder in an action arising from the offer and sale of alleged security tokens. In a November 2018 order on the Securities Exchange Commission’s motion for a preliminary injunction, the court held that the SEC had failed to establish that the tokens were securities under the test first articulated in SEC v. W.J. Howey Co., 328 U.S. 293 (1946). Consequently, it denied the SEC’s motion in what was seen as a setback to the agency’s claim of jurisdiction over initial coin offerings under the securities laws. In last Thursday’s ruling, however, the court agreed with the SEC’s alternate theory that the defendants had engaged in the offer of securities in violation of Section 17(a) of the Securities Act because of false statements in the Defendant’s promotional material.  Accordingly, the court granted the SEC’s motion for reconsideration, in part, and entered a preliminary injunction.
The case arises from an offering of BLV tokens beginning in April 2018 by defendant Blockvest, LLC, a company founded by defendant, Reginal Buddy Ringgold, III. According to the SEC, at least 32 individuals purchased the tokens, and the offering constituted an offer and sale of unregistered securities because the tokens were investment contracts under the Howey test. The SEC moved for a preliminary injunction, which the court denied in November. In that ruling, the court held that the SEC had failed to establish that the tokens were investment contracts under the Howey test. In Howey, “the Court . . . held that an investment contract is ‘a contract, transaction or scheme whereby a person invests his money in a common enterprise and is led to expect profits solely from the efforts of the promoter or a third party’.”
Addressing the Howey test’s first prong, and citing Ninth Circuit decisions, the court noted in its November decision that the subjective intent of the purchasers “have some bearing on the issue of whether they entered into investment contracts.” Ringgold had testified that the 32 investors were handpicked friends and acquaintances who bought the tokens as testers and paid a minimal amount of around $10,000 in total. Accordingly, the court said it was unclear what purchasers had relied on in deciding to invest. Additionally, the court held that the SEC had not provided any evidence that the 32 test investors had an “expectation of profits.” Therefore, the second prong of the Howey test was not satisfied.
The SEC moved for reconsideration, which the court granted in part in last week’s decision. At the outset, the court rejected the SEC’s challenge to its subjective intent ruling. The court said it understood Howey’s first prong to be an objective test of what “the promotional materials, information, economic inducements or oral representations” were. Because the parties disputed what the 32 test investors had been told, the court could not find the first prong of the test satisfied.
Next, the court considered the SEC’s alternate theory under Section 17(a). The SEC argued that the promotional materials on Blockvest’s website, Blockvest’s Whitepaper describing the tokens, and Blockvest’s social media posts constituted an offer of unregistered securities that contain materially false statements in violation of that section. The court agreed that both that the material constituted an “offer” under Section 17(a) and that the tokens were securities under the Howey test.
The court held that the website and Whitepaper’s “invitation to potential investors to provide digital currency in return for BLV tokens” satisfied the first prong of the test, an investment of money. Further, “because Blockvest claimed that the funds raised will be pooled and there would be a profit sharing formula,” the test’s second prong – promotion of a common enterprise – was met. The third prong – the efforts of others – also was met because the website made clear that token-holders would be passive investors who would receive income generated by the tokens.
Finally, the court held that website, Whitepaper, and social media posts constituted offers under Section 17(a) given the very broad definition of that term in the Securities Act. The defendants argued for a narrow definition of “offer” under California contract law. But the court rejected that argument because “the term ‘offer’ in securities law has a ‘different and far broader’ meaning than contract law.”
By taking an objective look more broadly at the promotional materials to consider whether they constituted an “offer” of securities, the court’s February decision implicitly seems to take a step back from the focus its November decision had placed on the subjective intent of the 32 buyers of the tokens. Obviously, as Section 17(a) can be violated by a mere offer of a security with fraudulent misrepresentations – whether or not there were actual buyers -- the subjective intent of those who did buy is not relevant to the question of whether the offer violated Section 17(a). While in every ICO the subjective intent of the actual buyers will likely be an issue, if the sales materials associated with the ICO misleadingly promote what is objectively a security under the Howey test, the SEC appears to be able to assert jurisdiction under Section 17(a).
 SEC v. Blockvest, LLC, et al., No. 3:18-cv-02287-GPC-MSB (S.D. Cal. Filed Feb. 14, 2019) (“Feb. Order”). Available at: https://www.sec.gov/litigation/litreleases/2019/order24400.pdf
 SEC v. Blockvest, LLC, et al., No. 3:18-cv-02287-GPC-MSB (S.D. Cal. Filed Nov. 27, 2019) (“Nov. Order”). Available at: https://www.sec.gov/litigation/litreleases/2019/order24400.pdf
 Feb. Order at 14.
 Nov. Order at 10.
 Id. at 11 quoting Warfield v. Alaniz, 569 F.2d 1015, 1021 (9th Cir. 2009).
 Id. at 13.
 Feb. Order at 10 quoting Warfield, 569 F.2d at 1021.
 Id.at 14.
 Id. at 15.
 Id. at 18.
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