http://lpscdn.linklaters.com/-/media/images/linklaters/blogs/fintechlinks/thumbnail-images/7898_fintech_landing-page-banner_cryptocurrencies.ashx?rev=8fbd77b5-3b92-447d-859d-60b3ced1e221# 19 June 2019 Jonathan Ching – Jerome Roche – Doug Davison Cryptocurrencies – ICOs / token offerings – Regulatory framework
The SEC recently filed a complaint against Kik Interactive Inc., a Canada-based social media company, for conducting an “illegal” offer and sale of $100 million worth of blockchain-based digital assets known as “Kin tokens” from May to September 2017.
Regardless of the outcome, this lawsuit could be the perfect opportunity to end the continuing confusion over the regulation of cryptocurrency in the United States. In particular:
(1) As the first case in which the SEC has pursued an initial coin offering (ICO) issuer in federal court, it may help to resolve critical issues in the regulation of cryptocurrencies, including whether, and under what circumstances, U.S. securities laws apply to ICOs and related promotional activities by issuers.
(2) It will also allow the court to explore whether the offer and sale of a digital asset like Kin tokens, which were issued and sold before a network was developed to allow them to be spend, would be considered an offering of securities that is required to be registered with the SEC.
Kik’s pivot from social media messaging to digital tokens
According to the SEC’s complaint, before 2017, Kik enjoyed its heyday as a social-media messaging company; however, once the social media business began to decline, Kik decided to “pivot” to digital tokens as a way of raising new capital.
Through the sale of 1 trillion Kin tokens to approximately 10,000 investors, Kik was able to raise nearly $100 million in total. Instead of registering the offering, Kik filed a Form D and sought the exemption by only accepting funds from ‘accredited investors’.
Violation of registration requirements
In the complaint, the SEC charges Kik with violating the registration requirements of Section 5 of the Securities Act of 1933 and states that Kik did not qualify for the securities registration exemption. “Kik deprived investors of information to which they were legally entitled, and prevented investors from making informed investment decisions,” said Steven Peikin, co-director of the SEC’s division of enforcement, in a statement.
The SEC seeks to prohibit Kik from violating US securities law registration requirements, to disgorge funds raised through its ICO and to pay a fine. The agency has requested a jury trial for this matter.
On the other hand, Kik’s primary defense is that its digital tokens, Kin, should not be considered securities. Rather, Kik argues that Kin is more similar to digital currencies such as Bitcoin and Ether, which the SEC does not regulate as securities.
Importance of the pending trial
Evolving legal landscape
The legal landscape concerning cryptocurrencies is still evolving, and it is important to have clarity as to the scope of the SEC’s ability to regulate digital assets.
If the ruling favors Kik, it could set a precedent for other blockchain startups to take a similar approach and raise funds in an ICO. According to MarketWatch, Kik is not the only startup that pursued the ICO route. In 2018 alone, there were nearly 300 ICO-related offerings raising about $8.7 billion. A favorable ruling could pave the way for further ICOs, while a negative decision would likely further accelerate the pullback from the ICO market for US investors.
Related SEC action
This case also shows that the SEC is not shying away from taking actions against ICO issuers that have failed to register their offering. Since its recently released guidance on what it expects of an ICO in April 2019, the SEC has already charged three companies for failing to comply with regulations and settled with those companies.
Kik looking to fight back
This time, though, Kik has stated that it intends to fight the SEC. Ted Livingston, Kik’s CEO, said in a statement: “This is the first time that we’re finally on a path to getting the clarity we so desperately need as an industry to be able to continue to innovate and build.”
How we can help
To find out more on the recent U.S. regulatory developments, read our Token Resistance – Recent US Regulatory Developments. Moreover, if you have any questions, please contact any of the people listed on the right, or your usual Linklaters contacts.