\n<\/p>\n
On November 7, 2022, Judge Paul J. Barbadoro in the United
Crypto market observers will surely scrutinize Judge
\n<\/ul>\n LBRY was formed “to harness blockchain technology to allow
Instead of issuing LBC through an initial coin offering
On March 29, 2021, the SEC filed a complaint against LBRY,
First, the Court examined LBRY’s representations to
While the Court acknowledged LBRY’s disclaimers, it held
Next, the Court concluded that any reasonable investor familiar
LBRY’s attempts to distinguish LBC from other tokens offered
The Court also rejected LBRY’s argument that LBC cannot be a
Finally, the Court rejected LBRY’s argument that it did not
We expect this trend of aggressive SEC enforcement in the crypto
The SEC’s longstanding view has been that most
Clients should continue to monitor SEC enforcement actions and
Footnotes<\/strong><\/p>\n 1. SEC v. LBRY<\/em>, No. 21-CV-260-PB, 2022 WL
2. SEC v. Kik<\/em>, 492 F. Supp. 3d 169 (S.D.N.Y.
3. SEC v. Telegram<\/em>, 448 F. Supp. 3d 352
4. How do I earn LBRY credits (LBC)?<\/em>, LBRY,
5. 448 F. Supp. 3d at 365.<\/small><\/p>\n 6. Press Release, SEC, SEC Nearly Doubles Size of
7. Chair Gary Gensler, SEC, Remarks at the “SEC
\nStates District Court for the District of New Hampshire granted
\nsummary judgment in favor of the Securities and Exchange Commission
\nagainst the content sharing platform LBRY, in the latest case
\ntesting what constitutes a security under the federal securities
\nlaws.1<\/sup> Applying the Supreme Court’s Howey<\/em>
\ntest, the court relied heavily on LBRY’s own statements about
\nits native token LBC in holding that LBC is a security, marking a
\nsignificant victory for the SEC as it continues to ramp up
\nenforcement against issuers of digital assets and other market
\nparticipants.<\/p>\n
\nBarbadoro’s decision for its impact on other companies offering
\ntokens for sale\u2014but the Court’s opinion broke little new
\nground by engaging in a fact-specific analysis guided by the same
\ntest courts have consistently applied for decades to determine what
\nconstitutes a security under federal law. Nevertheless, following
\nkey decisions against Kik2<\/sup> and Telegram,3<\/sup> the
\nLBRY opinion marks another victory for the SEC as it aggressively
\nenforces securities laws against issuers of cryptocurrencies.<\/p>\nKey Takeaways<\/h3>\n
<\/p>\n
\ngeneral should be regulated as securities\u2014or by the SEC at
\nall\u2014the LBRY decision continues the trend of courts focusing
\non the specific details of the tokens before them to determine
\nwhether they constitute investment contracts.<\/li>\n
\n
<\/p>\n
\nbuying tokens does not mean a token is not a security, particularly
\nwhere issuers’ own words suggest investors should consider
\nbuying such tokens specifically because of the potential for a
\nreturn on their investment. Issuers should therefore carefully
\nconsider how they describe their networks and the tokens that
\nsupport them.<\/li>\nLBRY Background<\/h3>\n
\nusers to share videos, images, and other digital content without a
\ncentralized host such as YouTube.” Users paid a fee in LBC,
\nthe native digital token of the LBRY blockchain, to interact with
\nthe network for anything beyond viewing free content. For example,
\nLBC was used to publish content, create channels, tip content
\ncreators, and boost content. Users obtained LBC by mining, earning
\nrewards for certain activities on the LBRY network, or purchasing
\nthe token on a secondary market.4<\/sup><\/p>\n
\n(“ICO”), LBC kept around 400 million tokens for itself in
\na “pre-mine,” which were subsequently released on
\nsecondary exchanges to fund the operation. In seeking to
\ndistinguish LBC from tokens deemed securities by other courts, LBRY
\nfocused on the lack of an ICO. But as set forth below, the Court
\ndid not find this distinction dispositive.<\/p>\nThe Court’s Decision<\/h3>\n
\nalleging that LBRY sold LBC as an unregistered security under
\nSection 5(a) of the Securities Act. The SEC alleged that LBC was an
\n“investment contract” under the U.S. Supreme Court case
\nSEC v. Howey<\/em>, which the Court framed as asking whether
\nthere is: 1) an investment of money; 2) in a common enterprise; 3)
\nwith a reasonable expectation of profit to be derived from the
\nefforts of others. Judge Barbadoro analyzed what the Court framed
\nas the third Howey<\/em> prong, which was the only component of
\nthe test in dispute.<\/p>\n
\nprospective purchasers and the company’s business model.
\nDespite LBRY’s “many disclaimers that it did not intend
\nfor LBC to be purchased as an investment,” the Court concluded
\nthat LBRY made potential investors “aware of LBC’s
\npotential value as an investment.” To that end, the Court
\nlisted multiple statements by LBRY that were “representative
\nof LBRY’s overall messaging about the growth potential for
\nLBC,” supporting the SEC’s view that “potential
\ninvestors would understand that LBRY was pitching a speculative
\nvalue proposition for its digital token.” For example, LBRY
\npublished a blog post saying “the long-term value proposition
\nof LBRY is tremendous, but also dependent on our team staying
\nfocused on the task at hand: building this thing.” In another
\nrelevant statement, a LBRY product manager posted on Reddit that
\nLBC would only be “worth something in the future . . . if LBRY
\ndelivers on their promises.”<\/p>\n
\nthat such disclaimers “cannot undo the objective economic
\nrealities of a transaction.” This is consistent with the
\nruling in another prominent crypto case, SEC v. Telegram<\/em>,
\nwhere the court there observed that “[d]isclaimers, if
\ncontrary to the apparent economic reality of a transaction, may be
\nconsidered by the Court but are not
\ndispositive.”5<\/sup><\/p>\n
\nwith LBRY’s business model would understand that LBRY expected
\nLBC to increase in value through LBRY’s managerial and
\nentrepreneurial efforts. The Court cited statements from LBRY’s
\nCEO to support the conclusion that “LBRY’s profitability
\nturned on its ability to grow the value of LBC by increasing usage
\nof the LBRY network.” By “intertwining LBRY’s
\nfinancial fate with the commercial success of LBC, LBRY made it
\nobvious to investors that it would work diligently to develop the
\nNetwork so that LBC would increase in value.”<\/p>\n
\nthrough ICOs appeared to backfire. The Court observed that “by
\nretaining hundreds of millions of LBC for itself, LBRY also
\nsignaled that it was motivated to work tirelessly to improve the
\nvalue of its blockchain for itself and any LBC
\npurchasers.”<\/p>\n
\nsecurity because purchasers acquired it for use on the network.
\nCiting Howey<\/em>, the Court concluded that rejecting the
\nSEC’s argument “simply because some LBC purchases were
\nmade with consumptive intent” would render the Securities Act
\n“unable to adapt” to “the ‘countless and
\nvariable schemes devised by those who seek the use of the money of
\nothers on the promise of profits’ whenever a token held some
\nconsumptive utility.”<\/p>\n
\nreceive fair notice that LBC would be subject to securities laws.
\nLBRY argued a lack of fair notice because the SEC
\n“historically and consistently focused its guidance, as well
\nas its enforcement efforts, exclusively on the issuance of digital
\nassets in the context of an ICO.” But the Court emphasized
\nthat “[t]he test outlined in Howey<\/em> is necessarily a
\nfact-specific one,” and no single relevant fact (for example:
\nwhether the issuer conducted an ICO), will likely be dispositive.
\nWithout more to support its claim than this being the first
\nenforcement action outside of an ICO, the Court rejected LBRY’s
\nfair notice argument.<\/p>\nWhat’s Next?<\/h3>\n
\nspace to continue. Indeed, in May 2022, the SEC nearly doubled the
\nnumber of attorneys in the Division of Enforcement’s Crypto
\nAssets and Cyber Unit, which, since its inception in 2017, has
\nbrought more than 80 enforcement actions in the crypto
\nspace.6<\/sup><\/p>\n
\ncryptocurrencies are securities\u2014in fact, current SEC Chair
\nGary Gensler has said that he views the “vast majority”
\nof cryptocurrencies as securities.7<\/sup> That will be tested
\nagain in the Ripple litigation, where Ripple has advanced several
\narguments\u2014in some cases based on a more robust
\nrecord\u2014both for why no investment contract exists and for why
\nthe company lacked fair notice that the sale of its assets was
\nprohibited. Meanwhile, crypto issuers continue to plead with
\nCongress and the SEC for additional guidance on crypto
\nregulation.<\/p>\n
\nannouncements as the law in this space develops.<\/p>\n
\n16744741 (D.N.H. Nov. 7, 2022).<\/small><\/p>\n
\n2020).<\/small><\/p>\n
\n(S.D.N.Y. 2020).<\/small><\/p>\n
\nhttp:\/\/www.lbry.com\/faq\/earn-credits (last visited Nov. 9,
\n2022).<\/small><\/p>\n
\nEnforcement’s Crypto Assets and Cyber Unit<\/em> (May 3, 2022),
\nhttps:\/\/www.sec.gov\/news\/press-release\/2022-78.<\/small><\/p>\n
\nSpeaks” Conference 2022, Kennedy and Crypto<\/em> (Sept. 8,
\n2022),
\nhttps:\/\/www.sec.gov\/news\/speech\/gensler-sec-speaks-090822.<\/small><\/p>\n