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It would appear that the initial coin offering (ICO) class action ship has sailed (without a lot of damage suffered by the defendants), but with some pretty interesting takeaways to consider.
Last year, I wrote about the 11 class actions that were filed in the Southern District of New York against four crypto-asset exchanges and seven digital token issuers.
The gist of those cases was that the defendants offered and sold unregistered securities in violation of state and federal securities laws. The alleged activities that gave rise to the complaints took place in 2017 and 2018. The defendants offered several grounds for dismissal, including that the claims were time-barred due to the one-year statute of limitations on claims arising from issuing and selling unregistered securities.
In the last few months, two of the lawsuits (Bibox and BProtocol Foundation (Bancor)) were dismissed, while five others (Quantstamp, Status Research, Civic Technologies, HDR Global Trading (Bitmex), and Kaydex (Kyber Network)) were voluntarily dismissed. The remaining four cases (Binance, Kucoin, Tron, and BlockOne) are working their way through the legal system. As an aside, the plaintiff in the Bibox case moved for reconsideration of the dismissal of their state law claims on the grounds that their state statute of limitations can be extended for plaintiffs who are ignorant of the law, and the court recently set a briefing schedule on that motion for reconsideration.
Kayvan Sadeghi, a litigation partner at Schiff Hardin, who represented defendants in one of cases that was voluntarily dismissed, explains that in the two cases that were dismissed, the plaintiffs sought to extend the statute of limitations by alleging that they couldn’t have known the token was a security before April 3, 2019, the date on which the Framework for Investment Contract Analysis of Digital Assets was issued by staff at the Securities and Exchange Commission (SEC). But the courts didn’t buy it.
“Ultimately, it came down to the statute of limitations issue,” Sadeghi offers. In the two cases that were dismissed, the court ruled that there was no basis to extend the statute of limitations, he explains. That is probably why the other five cases were voluntarily dismissed, he continues. “Plaintiffs’ counsel saw the writing on the wall.”
As to the four cases that are still active, there are additional claims and/or allegations of trading within a year of when they filed suit, according to Sadeghi. So, the same statute of limitations defense might not be grounds for a complete dismissal at the pleadings stage.
With respect to the two cases that were dismissed, in BProtocol Foundation, the court found that the plaintiff had failed to allege an actual injury resulting from his purchase of the BNT digital coin, and failed to allege a causal connection between his alleged injury and the defendants’ crypto offering from two years earlier. The court also refused to find that it had personal jurisdiction over the defendants (the Swiss-based organization that issued the tokens and the individual defendants, officers of the issuer, who are citizens of Israel).
In In Re Bibox, the court found that the plaintiff did not have standing with respect to claims pertaining to five of the six tokens described in the complaint because he had never purchased those tokens. Significantly, the court refused to impute to those five tokens the core features of the Bix token and, therefore, all of the claims related to those five tokens were dismissed. As to the claims pertaining to the remaining (Bix) token, the court found that those claims were time-barred and, so, the entire complaint was dismissed.
Taken together, BProtocol Foundation and In Re Bibox demonstrate that the securities laws should be construed narrowly when it comes to private plaintiffs. With a private cause of action, the courts require an actual injury and actual causation. There must be a real connection between the U.S. and the token sale, as well as the defendants.
But it is a completely different standard when the Securities and Exchange Commission (SEC) is the plaintiff, such as in the enforcement actions brought by the SEC against Ripple Labs and LBRY.
The SEC does not need to show reliance or injury, explains Sadeghi. They just need to show a violation. Further, the SEC asserts jurisdiction over any violation that has substantial conduct or significant effects in the U.S. According to Sadeghi, for private plaintiffs, it is limited to domestic transactions. What’s more, when the SEC is the plaintiff, it has five years to bring a cause of action, he explains, and potentially longer for some kinds of relief.
With the dismissal of the class action lawsuits raising questions about the application of securities laws to sales of digital assets, observers are now looking even more closely to the SEC’s case against Ripple Labs, says Lewis Cohen, Co-Founder DLx Law.
Cohen relates that unlike in the private litigation where plaintiffs seek monetary relief, the SEC’s enforcement actions assert a higher principle, namely that securities laws have a meaning and importance that must be observed, even if in the short run enforcing the law may conflict with the interests of the holders of the asset sold. “How judges resolve that case will have far reaching implications for the future of digital assets,” says Cohen.
Jason Gottlieb, Chair of Morrison Cohen’s White Collar and Regulatory Enforcement Group, explains that the SEC plays by a different set of rules. As a result, he says, “they may very well succeed where the private plaintiffs were unable to do so.”
Gottlieb notes that commentators may be reading too much into the middle-game skirmishes where the Ripple defendants are winning some discovery motions. He suggests that these wins may provide the defendants with a different set of facts to put to the court. But, he says, these document-production battles “may not ultimately determine the core question of whether XRP is a security. We have no idea what is going to happen because we don’t know what the documents are going to say.”
Drew Hinkes, a lawyer at Carlton Fields PA in Miami who works on cryptocurrency matters, suggests that the enforcement action against Ripple is the most important lawsuit in the crypto space right now. “Everything else is just noise,” says Hinkes.
Hinkes explains that Ripple has the resources to take the case past judgment to an appeal where an appellate court will have the opportunity to determine what the law is.
Gottlieb agrees. “Only the U.S Supreme Court can consider overturning Howey with respect to digital assets. And for the first time in an SEC crypto case, we have defendants who can make good on a promise to take the case to the highest court. They have the legal firepower, and the resources to pay for their very fine attorneys. Any District Court ruling may only be the first step in a longer fight.”
