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Initial Coin Offerings Post XRP Court Win: Will SEC Setback vs Ripple Open Crypto ICO Floodgates?

Published July 18, 2023 9:32 AM
Teuta Franjkovic
Published July 18, 2023 9:32 AM
Key Takeaways
  • An important legal struggle between Coinbase and Ripple and the SEC, has been won
  • XRP was deemed not a security when listed on exchanges, giving litigants a new point of reference
  • The news of the decision coincided with a sharp increase in the value of the XRP cryptocurrency.

If the result stands up to a future appeal, a U.S. court decision that partially benefits Ripple (XRP) could be encouraging for other cryptocurrency companies facing legal action from the Securities and Exchange Commission.

A Fresh Precedent for Coinbase and Binance In Court

The SEC has taken action against exchange platforms like Coinbase (COIN), Binance, and Bittrex this year for running what it claims are unregistered trading platforms that feature securities it considers unregistered, such as Cardano (ADA), Solana (SOL), Polygon (MATIC), and Filecoin (FIL).

Those other defendants may now have another arrow in their quiver in light of the U.S. District Court for the Southern District of New York’s decision that some sales and distributions of XRP coins by Ripple and its executives were not investment contracts.

“This is a significant opinion that has the potential to change the landscape of the SEC’s enforcement efforts, or the success of those efforts,” said Teresa Goody Guillén , a former lawyer with the SEC office of general counsel who is now a partner with the law firm BakerHostetler.

Coinbase and Binance can also use this precedent to their advantage when defending themselves against claims that they are acting as unregistered stock exchanges, brokers, and clearing agencies.

Several legal experts quickly put a damper on the jubilation, claiming that the summary judgment might be on a fragile basis and might not result in the SEC treating the crypto market differently as the industry had hoped.

According to Joe Castelluccio, the head of Mayer Brown’s fintech and digital assets, blockchain, and cryptocurrency groups, “the SEC will look to the parts of the court decision regarding Ripple that are in its favor to justify its continued views on the regulatory status of coins and tokens — i.e., that they are all securities” — and its continued approach to enforcing those views on the industry.

The portions of the decision that support Ripple are, in Castelluccio’s words, “fairly fact-specific, and while there may be some that are similarly situated in the market, others in the market may find it challenging to rely on those portions of the decision if their circumstances do not directly align.”

It was further stated by Castelluccio that the decision “does not provide regulatory or legal clarity for the numerous other regulatory issues that the digital assets sector is navigating.”

Not Violating Securities Laws

The SEC claimed in a 2020 civil action that some sales and distributions of XRP coins by Ripple and its executives constituted investment contracts, but the U.S. Southern District Court of New York determined on Thursday that they were not and did not violate securities laws.

The news that a federal judge had effectively ruled that token sales on exchanges weren’t investment contracts—even though institutional sales of XRP to hedge funds and other entities were deemed securities in the same ruling—was quickly picked up by the industry.

According to Jeffrey Alberts of Pryor Cashman LLP, the judge explicitly said in her decision that cryptocurrency tokens are not securities. “The court rejects the view that cryptocurrency tokens are securities, which has previously led to widespread confusion, and that includes Ripple as well” Alberts said.

As CEO Brad Garlinghouse tweeted Ripple was “on the right side of the law, and will be on the right side of history,” congratulations and chants of “LFG,” an acronym for “onward and upward” on the internet (at least in the G-rated translation), came in.

Following the revelation, the price of the XRP coin increased by as much as 25%.

There is no other way to interpret the Ripple judgment except as a triumph for the cryptocurrency sector. According to Christian Schultz, a former employee of the SEC division of enforcement, the company’s and executives’ transactions in XRP on the secondary market do not contravene securities regulations because XRP is not a security.

In agreement with Goody Guillén, Arthur Jakoby, a partner at Herrick, Feinstein LLP, said that the decision refutes the SEC’s claim that secondary transactions of digital currencies on exchanges like Coinbase represent the sale of unregistered securities.

This ruling sharply reduces the SEC’s authority over the cryptocurrency market, according to Jakoby, if it is upheld on appeal.

According to Schultz, this decision may “spell problems for the SEC in other pending litigation, particularly those that are focused primarily if not exclusively on secondary market activity,” even though no other district court judges are required to follow the logic in it.

Other payouts, such as those made to workers and sales of the token by executives Garlinghouse and co-founder Christian Larsen were also determined not to be securities.

Are All ICOs Still Securities?

However, Schultz argued that the classification of institutional sales of XRP as investment contracts supports Gary Gensler’s assertion that almost all initial coin offerings (ICO) are securities.

Tokens are offered to the general public or to investors privately during an initial coin offering (ICO), which was formerly a well-liked means of acquiring money for cryptocurrency firms.

Despite Ripple’s denial that it ever made an XRP offering, the SEC claims in its lawsuit that Ripple sold over $728.9 million worth of XRP to institutions.

It should be anticipated that the cryptocurrency sector would seek out inventive ways to distribute digital assets initially that get around the facts and circumstances that lead this judge to conclude that the digital asset is an investment contract security.

The decision, which determined institutional sales of XRP do constitute investment contracts but other distributions do not, essentially assigning two regulatory states to one token, may be flawed and subject to reversal if the SEC decides to appeal the ruling, according to Preston Byrne, a corporate partner at the law firm Brown Rudnick’s digital commerce group.

Even though the SEC and Ripple’s arguments for summary judgment to prevent the matter from going to trial were refused on Thursday, some of the requests that were denied—including the institutional sales of XRP—will still go to trial.

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