May 12, 2020
by Daniel M. Payne

At the same time many businesses in the crypto community have focused on decifering which legal and regulatory regimes apply to them, courts are considering a raft of crypto litigation that will eventually lead to new rules for the industry.  Court precedents are going to become more and more important in the landscape of crypto regulation as the big wave of blockchain litigation from 2017-2018 makes its way through the courts.  At this time, though, there are few precedents guiding the courts.  When litigation is filed, courts are writing on nearly a blank slate.  Along with many crypto companies, the SEC is likely anticipating new, strong precedents, and each side is hoping that these precedents will align with its view of cryptocurrencies.  

In SEC v. ATBCoin, 17-cv-10001 (S.D.N.Y.), the Defendant moved to dismiss arguing that its coin is not a security. In considering the motion, there was no recent Supreme Court precedent, new crypto law, or new SEC Rule governing digital assets for the Court to consider.  Although a handful of courts have considered the question previously, they were trial courts considering early motions based only on the pleadings.  So the Court chose not to cite those rather weak precedents. 

The Court was left with two authorities to guide its ruling: In re Munchee, a 2017 SEC settlement that does not have precedential authority (as the Court noted); and SEC v. W.J. Howey Co., 328 U.S. 293 (1946), a 75-year old somewhat anachronistic Supreme Court opinion on legal test for an investment contract.  In the absence of newer precedent, Howey has guided the SEC and the court alike in assessing whether new digital assets are securities.  Applying Munchee and Howey, the Court denied the motion to dismiss, ruling the coins may be securities as alleged.

The SEC has brought high profile cases that may become persuasive new precedent.  In SEC v. Telegram, 19-cv-9439 (S.D.N.Y.), the Court recently granted the SEC's motion for a preliminary injunction.  The ruling, discussed in more detail here, found that Telegram's two-part Gram offering constituted a single securities offering subject to the securities laws.  The ruling, along with a follow-up ruling a few days later holding that the injunction applies to foreign purchasers, is getting widespread attention.  On May 13, Telegram announced that it would scrap its token offering in response to the ruling.  

Many are also watching SEC v. Kik Interactive, 19-cv-5244 (S.D.N.Y.), which has progressed through discovery to summary judgment.  Many interested parties have filed amicus briefs concerning the pending summary judgment motions.  The decision may therefore be strong enough precedent that other courts will be guided by it. 

However, it is important for crypto businesses to remember that digital assets are unique.  Each court applying Howey must assess the facts and circumstances of the digital asset at issue in the case, and defendants will need to provide the evidence distinguishing their digital asset from another.  Indeed, Kik is arguing that Telegram "has no bearing" (subscription required) on its summary judgment motion.  Some distinguishing characteristics that could change a court's analysis include: how operational is the platform?  What rights and interests are included in the token?  When are the tokens delivered?  How are the tokens marketed?

As Kik and other cases progress to summary judgment and trial, crypto businesses need to stay aware of the changing legal landscape.

About Blockchain Law Center

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.