BUILDING BLOCKS Recent U.S. Regulatory And Legal Developments In Digital Currency + Blockchain TABLE OF CONTENTS Introduction ..................................................................................................................................................4 SEC Guidance ............................................................................................................................................ 6 SEC “No Action” Letters ..........................................................................................................................7 SEC Qualification of First Digital Token Offerings under Regulation A+ ................................. 9 SEC Settlements ........................................................................................................................................ 11 SEC Enforcement Actions ..................................................................................................................... 14 Criminal Cases ..........................................................................................................................................19 State Regulatory Actions. .....................................................................................................................20 Private Litigation ......................................................................................................................................22 Authors ......................................................................................................................................................26 2 3 INTRODUCTION GOODWIN INTRODUCTION specific facts of each project, they also identified State Regulatory Actions common elements, including (1) registration as a New York regulators actively enforced statutes 2019 was a year of significant regulatory and legal developments in digital currency + class of securities; (2) a notice and claims process and regulations governing cryptocurrencies. The by which purchasers of tokens might request a blockchain. The United States Securities and Exchange Commission (the “SEC”) issued its New York Attorney General filed a complaint refund, and (3) a monetary penalty. The SEC did against Bitfinex (one of the world’s largest most comprehensive guidance to date with its Framework for “Investment Contract” Analysis not require all elements in all settlements, however, cryptocurrency exchanges) and Tether (the issuer of Digital Assets, followed that up with three “no action” letters for projects that in its view suggesting that there may be room for negotiation. of a “stablecoin” cryptocurrency backed by real complied with the federal securities laws, and intensified its focus on initial coin offerings world fiat currencies) for violations of New York’s (“ICOs”) conducted in 2017 and 2018 with a series of settlements and enforcement actions. SEC Enforcement Actions securities law, asserting broad jurisdiction over the conduct of exchanges and issuers that affects New The United States Department of Justice (“DOJ”) brought criminal charges for fraud and money The SEC actively prosecuted seven enforcement York. At the same time, the New York Department actions, all of which concerned ICOs conducted in laundering in connection with sales of digital currencies. New York state regulators were active of Financial Services denied a license to engage in 2017 and 2018. That enforcement activity shows in regulating cryptocurrency exchanges and issuers through enforcement actions and licensing virtual currency business activity to Bittrex (another that the SEC is prosecuting not only cases that of the world’s largest cryptocurrency exchanges). determinations. Courts continued to consider whether digital assets are securities under federal involve allegations of fraud but also cases that and state securities laws. Specifically: do not – with actions against Kik Interactive and Telegram Group headlining the latter category. Private Litigation In its cases against Kik and Telegram, the SEC SEC Guidance and (4) that any tokens were marketed in a manner In at least four cases, courts ruled that tokens has focused on (among other things): (1) the that emphasized their functionality rather than their issued as part of ICOs in 2017 and 2018 were Although the SEC’s Framework for ‘Investment defendants’ marketing of tokens as an investment potential for increase in market value. securities under federal and state securities laws. Contract’ Analysis of Digital Assets is not a binding opportunity; (2) the defendants’ emphasis on their In no cases did they rule that tokens were not rule, regulation, or statement of the SEC, it is the experience and resources as key to establishing securities. most comprehensive guidance issued by the SEC Qualification of First Digital Token Offerings and increasing the value of the tokens; (3) the SEC to date as to whether a digital asset falls under Regulation A+ defendants’ claims that there would be a trading In our inaugural review of U.S. regulatory and legal within existing securities laws and is likely to be While there have been other offerings submitted market for the tokens; and (4) the lack of a use for developments in digital currency + blockchain, considered a security. As the Framework makes to the SEC for approval, some through the Form the tokens at the time of the ICO other than as an we look at each of those developments in 2019 in clear, the SEC’s determination will depend on S-1 path traditionally used by IPO issuers, the SEC investment vehicle. more detail. 2020 is already off to a busy start, and the facts and circumstances of each case – not a qualified the offering statements of the first-ever we will provide an update on developments this bright-line rule. offerings of digital tokens under Regulation A (Tier Criminal Cases year in a future publication. II), what is commonly referred to as “Regulation The DOJ brought two criminal cases involving A+.” Regulation A+ is sometimes referred to as a SEC “No Action” Letters charges of fraud and/or money laundering against “mini-IPO” because it allows companies to raise The SEC issued three “no action” letters in which a founder and a lawyer, respectively, of digital up to $50 million in any rolling 12-month period the SEC staff determined that projects involving currency companies in connection with sales of and is not limited only to accredited investors, but digital assets complied with the federal securities tokens. Those cases centered on the allegedly the company must file periodic disclosures with laws. While those “no action” letters depended on criminal conduct of the defendants with the tokens the SEC that are similar to (but less onerous than) the specific facts of each project, they identified simply a vehicle for that conduct. those for public companies. common factors, including (1) that the platform was fully developed and operational at the time that any tokens were sold, (2) that any tokens were SEC Settlements able to be used for their intended purpose at the The SEC settled five investigations, four of which time that they were sold, (3) that any tokens were concerned ICOs conducted in 2017 and 2018. not transferable for sale on the secondary market, While those settlements also depended on the 4 5 SEC GUIDANCE SEC “NO ACTION” LETTERS Framework for “Investment Contract” Analysis reasonable expectation of profits, including where: Cards would be marketed in a manner that emphasized (1) purchasers share in the capital appreciation of TurnKey Jet, Inc., SEC No-Action Letter of Digital Assets the functionality of the Cards, not the potential for an the digital asset; (2) the digital asset can be traded (April 3, 2019) On April 3, 2019, the SEC released the Framework for increase in market value of the Cards. on the secondary market; (3) the digital asset is On April 3, 2019, the same day that it published the ‘Investment Contract’ Analysis of Digital Assets (the sold to purchasers who are not likely to use the Framework, the SEC also issued its first no-action letter The no-action letter specified that the SEC staff’s “Framework”). The Framework outlines the applicable asset for anything other than investment purposes; in connection with a token sale to TurnKey Jet, Inc. position was based on the representations in Turnkey standard for analyzing digital assets under the securities (4) the digital asset is marketed or promoted as an (“TurnKey Jet”). TurnKey Jet, a licensed U.S. air carrier Jet’s letter concerning the facts underlying its proposal laws by applying the “investment contract” test investment; (5) proceeds from the sale of the digital and air taxi operator providing interstate air charter and that any different facts might require the SEC articulated in S.E.C. v. W. J. Howey Co., 328 U.S. 293 asset are used to increase the value of the digital services, proposed to offer and sell digital assets in staff to re-evaluate the application of the securities (1946), to digital assets: (1) whether there is an investment asset or functionality of the network; and/or (6) the the form of “tokenized” jet cards (“Cards”). Consumers laws to the proposal and potentially reach a different of money, (2) whether there is a common enterprise, and digital asset bears little correlation to the value of of air charter services would be able to use the Cards conclusion. (3) whether there is a reasonable expectation of profits goods or services for which the digital asset can be to purchase services from TurnKey Jet, third-party to