One of the world’s leading digital asset exchanges has once again landed itself in hot water. This time it has been hit with a class action lawsuit which, among other things, claims that it sold 79 different digital assets that constituted “unregistered securities”:
‘Howey Test’ is Back
Legal proceedings have been launched by three users who accuse Coinbase of selling unlicensed securities and are seeking damages amounting to at least US$5 million on behalf of themselves, in addition to others who have purchased Dogecoin, Solana, Cardano, and more than 70 other tokens listed in the claim.
The suit argues that although some digital assets such as Bitcoin closely resemble commodities, in that they are decentralised, others are more akin to traditional securities (or shares).
The plaintiffs argue that the manner in which some tokens were offered to the public was in fact modelled on an IPO (initial public offering), which necessarily requires a significant amount of disclosures. In the case of the tokens in question, it was argued that disclosures were extremely limited, typically in the form of a “whitepaper” supplemented with adverts and social media posts.
In short, the argument is that the tokens constitute “securities” as defined by the “Howey test”, which requires that all four elements be met on the following criteria:
- It involves an investment of money;
- It has a common enterprise;
- It was made with a reasonable expectation of profits; and
- It is derived from the entrepreneurial or managerial efforts of others.
This test, originating from a 1946 Supreme Court decision, is all too familiar for the Securities and Exchange Commission (SEC), which recently began looking into the question as to whether some NFT drops pass this test.
Case ‘Not Much of a Surprise’
Philip Moustakis, counsel at Seward & Kissel for Coinbase, suggested that “the case is not much of a surprise. After all, the SEC has signalled that it intends to pursue investigations or actions against crypto-exchanges.”
He added that the court would need to do the painstaking one-by-one examination of each of the tokens, highlighting the need for greater regulatory clarity:
Unless and until the SEC provides further guidance and a path to compliance for token issuers, crypto lending products, exchanges, and other market participants, the question of whether any particular crypto-asset or transaction is a security will be litigated one at a time.
Philip Moustakis, senior counsel, Seward & Kissel
Having felt the heat of regulatory scrutiny over its lending product, this latest lawsuit comes as another blow to Coinbase. The lawsuit may well have far-reaching consequences given that it aims to cover all persons and entities who transacted in any of the 79 tokens between October 8, 2019, and the present.
From an outsider’s perspective, this case may just be what is needed to finally put the question to rest as to whether some tokens are “unregistered securities”. Michael Saylor, the unofficial King of Bitcoin, clearly believes that most will:
