On November 8, 2018, the SEC announced its first enforcement action based on findings that a digital "token" trading platform operated as an unregistered national securities exchange.
The action targeted EtherDelta and its founder, Zachary Coburn. According to the Commission’s order, “EtherDelta is an online platform for secondary market trading of ERC20 tokens, a type of blockchain-based token commonly issued in Initial Coin Offerings (ICOs)." The order found that Coburn caused EtherDelta to operate as an unregistered national securities exchange.
According to the SEC, EtherDelta’s website resembles online securities trading platforms. For example, the website makes token “pairs” available for trading, provides access to the EtherDelta order book, and displays the top 500 firm bids and offers by symbol, price, and size. The website allows users to enter orders to buy or sell specified quantities of any ERC20 token at a specified price (in Ether) and with a specified time-in-force. The website also displays market depth charts and a list of confirmed trades.
The SEC stated that "[o]ver an 18-month period, EtherDelta's users executed more than 3.6 million orders for ERC20 tokens, including tokens that are securities under the federal securities laws. Almost all of the orders placed through EtherDelta's platform were traded after the Commission issued its 2017 DAO Report, which concluded that certain digital assets, such as DAO tokens, were securities and that platforms that offered trading of these digital asset securities would be subject to the SEC's requirement that exchanges register or operate pursuant to an exemption.” Although the SEC stated that 92 percent of the tokens that traded on EtherDelta traded after the SEC issued the DAO Report, the order did not identify what percentage of those tokens it considered to be securities. The SEC also did not state how it determined that certain of the tokens that traded were securities, or how it decided that certain of the tokens were not securities or the nature of the non-securities tokens that traded (e.g., commodities). The SEC found that because EtherDelta offered trading of various digital asset securities and failed to register as an exchange or operate pursuant to an exemption, it violated Section 5 of the Exchange Act.
Coburn was ordered to pay disgorgement and interest totaling $313,000, plus a civil monetary penalty of $75,000. The SEC noted that it was not imposing a penalty in excess of $75,000 based on Coburn’s cooperation.
Blockchain technology utilizes a distributed digital ledger to record and track information, and can be leveraged to gain transparency and certainty in transactions ranging from cryptocurrency to supply chain tracking. This blog provides information on the legal developments surrounding implementation of blockchain technology, with an initial focus on the financial services sector.