SEC vs Ripple might establish meaningful precedent

Rick Steves

“Utility depends on XRP’s near-instantaneous and seamless settlement in low-cost transactions. Treating XRP as a security, by contrast, would subject thousands of exchanges, market-makers, and other actors in the gigantic virtual currency market to lengthy, complex, and costly regulatory requirements.”

Rodrigo Seira and Nancy Wojtas, attorneys at Cooley LLP, have commented on the SEC vs Ripple lawsuit, pointing out one of the notable aspects of the complaint: its timing.

The case has the potential to establish additional meaningful precedent for the application of securities laws to the sale of digital assets, the lawyers stated.

“Looking backward, one of the notable aspects of the complaint is its timing. According to the SEC, Ripple violated the Securities Act through repeated unregistered offerings of securities dating back to 2013, yet the SEC’s complaint was filed more than seven years after”, they wrote on Cooley’s blog. “Notwithstanding any potential final outcome for the litigation, the impacts of the SEC’s complaint have been immediate.”

“As of the publication of this alert, XRP continues to be delisted by many crypto exchanges, leaving the people the SEC purportedly protects without an avenue to liquidate their positions.

“Looking forward, the SEC’s case against Ripple, Garlinghouse and Larsen has the potential to establish additional meaningful precedent for the application of securities laws to the sale of digital assets. One important aspect of the dispute that the SEC under Gary Gensler’s possible new leadership and the SDNY will need to grapple with is the potential remedy for the defendants’ alleged violations.

Mr. Seira and Ms. Wojtas noted that previous settlements have required issuers of unregistered securities to offer rescission to the purchasers. This “could have catastrophic consequences for Ripple the company and XRP, as well as present an administrative nightmare. Demanding that Ripple register XRP as a security could offer a path forward, but would present immediate frictions that could be insurmountable.”

Ripple argued that “utility depends on XRP’s near-instantaneous and seamless settlement in low-cost transactions. Treating XRP as a security, by contrast, would subject thousands of exchanges, market-makers, and other actors in the gigantic virtual currency market to lengthy, complex, and costly regulatory requirements.”

SEC vs Ripple: The dispute that may dictate the future of digital asset regulation

It all started on December 22, 2020, when the SEC filed a complaint in the Southern District of New York (SDNY) against Ripple Labs, Inc., and Ripple executives Bradley Garlinghouse and Christian A. Larsen in their individual capacities.

The complaint alleged they aided and abetted Ripple’s unregistered sales of securities, dating as far back as 2013 and 2015 respectively.

The SEC asked the SDNY to permanently enjoin the defendants from violating Sections 5(a) and 5(c), to disgorge ill-gotten gains and impose civil monetary penalties, as well as to ban the defendants from participating in any future offering of digital asset securities.

In its answer, Ripple stated it had “never offered or sold XRP as an investment” and that “XRP holders do not acquire any claim to the assets of Ripple, hold any ownership interest in Ripple, or have any entitlement to share in Ripple’s future profits.”

Ripple argued that “What limited contracts Ripple did enter into with sophisticated, institutional counterparties were not investment contracts, but standard purchase and sale agreements with no promise of efforts by Ripple or future profits.” Ripple “has no relationship at all with the vast majority of XRP holders today, nearly all of whom purchased XRP from third parties on the open market.”

Ripple concluded that “the SEC’s theory in the Complaint would read the word ‘contract’ out of ‘investment contract,’ and stretch beyond all sensible recognition the Supreme Court’s test for determining investment contracts in SEC v. W.J. Howey Co., 328 U.S. 293 (1946). Ripple never held an ICO, never offered future tokens to raise money, and has no contracts with the vast majority of XRP holders.”

According to the SEC’s complaint, from 2014 through the end of 2019, Ripple sold at an aggregate of 3.9 billion XRP to purchasers in the open market for a total of approximately $763 million. The complaint alleges that Garlinghouse and Larsen personally profited by approximately $600 million. The complaint adds Ripple sold $624 million worth of XRP to institutional at discounts ranging from 4% to 30% off market price. XRP II is registered as an MSB with FinCEN and has a BitLicense from NYDFS.

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