On October 11, 2022, Skadden hosted the first program, “State of the Cryptocurrency Market,” in our 15th series of annual securities litigation and regulatory enforcement updates. Panelists for this presentation were Alex Drylewski and Daniel Michael, Co-Chairs of Skadden’s Web3 and Digital Assets Group; Lara Flath, Associate New York Complex Litigation and Trials; Peter Morrison, leader of Skadden’s Los Angeles Litigation Group, co-lead of the West Coast Litigation practice and member of Web3 and Digital Assets Group; and Jake Chervinsky, chief policy officer at the Blockchain Association.
The webinar focused on a number of developments in securities litigation in the cryptocurrency market during the first nine months of 2022. Panelists discussed (i) securities-related filing trends , (ii) activity and enforcement by the Securities and Exchange Commission (SEC), (iii) recent developments in civil securities litigation, and (iv) policy updates.
Below are high-level takeaways on each topic.
Securities-Related Filing Trends
First, panelists examined the increase in crypto-related class action filings in the first half of 2022 compared to 2021. While filings have steadily increased as cryptoasset offerings have grown, the purpose of these deposits has changed over the years. According to recent reports, from 2016 to 2020, 73% of crypto-related class action lawsuits included claims relating to initial coin offerings (ICOs). Over the past two years, however, a much lower percentage of these filings were for ICOs. Additionally, from 2016 to 2019, only 8% of crypto-related class action lawsuits included claims related to exchanges. Since then, this number has increased significantly, up to 44% of filings between 2020 and 2022.
Panelists also reviewed recent enforcement trends: the SEC continues to be one of the leading regulators engaged in the cryptocurrency space. From 2013 to 2021, the SEC filed a total of 97 enforcement actions involving cryptocurrency activity. In 2021 alone, the SEC filed a total of 20 enforcement actions. The majority of SEC cases to date have focused on two allegations: an unregistered offering of securities or fraud in the offering or sale of securities.
SEC Activity and Application
Next, panelists discussed how SEC activity in 2022 has begun to reflect Chairman Gary Gensler’s focus and priorities in the digital asset space. The SEC nearly doubled the size of its Crypto Assets and Cyber unit, with six specialist attorneys and an expanded management team, including a new permanent head and deputy head. Perhaps as a driver of this increased engagement, we have recently seen significantly more actions involving digital asset litigation rather than settlements compared to the general trend in all SEC enforcement actions.
Additionally, groups within the Division of Enforcement beyond the Crypto Asset and Cyber Unit remain active in the digital asset space. And, elsewhere within the SEC, the Corporate Finance Division has created an Office of Crypto Assets as part of its disclosure review program.
When it comes to market participants in the digital asset space, the SEC has recently focused on market intermediaries, such as exchanges and brokers, rather than single token issuers or promoters. Lawsuits against the latter group generally seem to be pursued only where there are allegations of fraud and substantial losses to investors.
The SEC has also shown interest in two relatively new areas of digital asset enforcement: insider trading and record violations. As an example of insider trading, in SEC vs. Wahi, No. 22 Civ. 1009 (WD Wash. July 21, 2022), the agency alleged a scheme by a former Coinbase product manager, his brother, and a friend to trade digital assets prior to the announcement that Coinbase would list them. Although the SEC alleged that nine of the digital assets involved were securities, the Justice Department’s indictment alleged insider trading in 25 digital assets. Of the nine the SEC considered securities, there was no clear line as to the factors that led to this decision. For example, seven of the assets used the proceeds to fund the project, four set aside a significant portion for the founders, and four allowed buyers to receive a portion of the proceeds.
With respect to registration violations, two recent cases illustrate the broader view that the SEC applies to this issue, showing the agency’s willingness to charge persons and entities other than the issuer for direct violations. recording arrangements. In SEC vs. Okhotnikov, No. 22 Civ. 3978 (ND Ill. Aug. 1, 2022), the SEC charged 11 individual defendants with registration violations, including four individuals located overseas, three domestic promoters and four members of a group that promoted the asset digital. The complaint alleges that each defendant was a necessary participant or substantial factor in the non-registration. Likewise, in SEC vs. Ian Balina, No. 22 Civ. 950 (WD Tex. September 19, 2022), the SEC accused a cryptocurrency “influencer” who promoted tokens while simultaneously buying a significant portion of those tokens and organizing an “investment pool” of about 50 people.
Recent developments in civil security litigation
Developments involving Morrison v. Nat’l Australia Bank561 US 247 (2010)
The presenters then discussed the significant difficulty plaintiffs in 2022 have had in alleging title claims sufficient to satisfy the test set out in Morrison v. Nat’l Australia Bank, 561 US 247 (2010), which discusses impermissible extraterritorial application of federal securities laws. This question is often relevant due to the borderless nature of the digital asset industry. Two recent cases illustrate this trend.
In Anderson vs. Binance, No. 1:20-CV-2803 (ALC) (SDNY), plaintiffs alleged claims under securities law, exchange law and more than 20 state Blue Sky statutes against Binance in connection with the sale of certain digital tokens on the Binance Platform. Judge Andrew Carter granted Binance’s motion to dismiss. One of the reasons for the court’s rejection was Morisson. The court found that the presence of third-party servers in California was insufficient to establish that Binance was a domestic exchange or that the transactions were domestic. Justice Carter also found that the presence of certain employees in California and the job offers outside the United States were insufficient.
In Williams vs. Block.one, #1: 20-cv-03829-LAK (SDNY), plaintiffs alleged federal title claims against defendants in connection with Block.one’s ICO. The parties have reached a settlement of $27.5 million. However, the court rejected the settlement, finding that the plaintiff failed to consider whether federal securities laws applied under Morisson the token purchases of each member of the group.
Panelists highlighted two other cases. First come Audet v. FraserNo. 3:16-cv-940 (MPS)(D. Conn.), for the first time a jury considered whether digital assets were securities under the Howey test and found that none of the assets were securities. In the post-trial review, Judge Michael Shea upheld the jury’s findings on three of the four assets at issue. With respect to an asset called “Hashlets,” which allegedly represented shares of the profits of the issuing company’s computing power, Judge Shea found that the jury’s verdict (that’s to say, that Hashlets were not securities) was not against the weight of evidence – due to a lack of joint enterprise or an expectation of profit based on the efforts of others. Notably, this asset was included in the SEC’s earlier complaint against GAW and its founder. Specifically, Judge Shea pointed out that Hashlet owners “could receive ‘significantly different payments,'” undermining the horizontal community, and exercised ‘significant investor control’ through their selection of mining pools, which that undermined any expectation of profit from the efforts of others. As of October 7, 2022, the parties have advised the court that they have reached a settlement (rather than going to trial on the sole remaining asset).
Second, the presenters discussed how Robertson v. Cuban, et al.#22-cv-22538 (SD Fla.), illustrates several emerging trends in cryptocurrency securities cases — notably, plaintiffs naming well-known promoters or celebrities in lawsuits. Robertson involves the Voyager platform, which allowed users to trade digital assets through a mobile app. In October 2021, Voyager partnered with the Dallas Mavericks. In December 2021, a putative class action lawsuit was filed against Voyager for fraud, unfair business practices, and unjust enrichment under Florida state law, and in January 2022 the SEC launched an investigation into Voyager. In July 2022, Voyager filed for bankruptcy and the class action was suspended. In August 2022, the same attorney filed another class action lawsuit and included Mark Cuban, the Dallas Mavericks and the CEO of Voyager as defendants, alleging violations of consumer protection/unfair competition and securities laws. While Voyager’s CEO has since been voluntarily fired from the case, Mr. Cuban’s inclusion was notable. The case accuses him of making false and misleading statements about Voyager’s commissions, its level of risk and its interest rates.
Finally, Jake Chervinsky, Head of Policy at the Blockchain Association, provided updates on the status of various blockchain and cryptocurrency policy initiatives in Washington, D.C. He explained that the industry considers laws on securities as its main problem, with most participants viewing regulation as “existential.” While the industry is hoping development-friendly ideas such as Commissioner Hester Peirce’s safe harbor concept will gain traction, there are signs that there will be no progress on this front from the SEC.
Mr. Chervinsky concluded by highlighting the two main priority areas for action at this time. First, the proposed rules that expand the definition of “dealer” and “exchange” to potentially include aspects of the cryptocurrency market are getting a lot of attention. Second, three main legislative proposals, if accepted, would determine which agency regulates aspects of the cryptocurrency market going forward.