Welcome back to Not Legal Advice, my weekly crypto and crypto-adjacent technology law newsletter-blog-series-thing! Subscribe via e-mail, WordPress, or RSS at the bottom of my homepage.
- SEC, CFTC and FinCEN remind everyone that money laundering is bad.
- Ethereum has a good week.
- Facebook has a bad week (Libra on the ropes, with withdrawals by Mastercard, Visa, eBay and Stripe adding to last week’s departure of PayPal).
- Bitfinex has a worse week (getting sued for $1.2 Trillion (with a T)).
- Telegram has a terrible, horrible, no good, very bad week (gets sued by the SEC in federal court).
1) SEC, CFTC and FinCEN remind everyone that money laundering with cryptocurrency is bad
Read their joint statement here.
I doubt that Jay Clayton, Heath Tarbert and Kenneth Blanco (head honchos of the SEC, CFTC, and FinCEN, respectively) would issue a statement just because they were hanging out drinking beer one afternoon and said, “hey, you know what would be cool? An announcement. That’s nearly as fun as interagency softball.”
What seems more likely is that this statement is framing a narrative that will be relevant for future enforcement. Keep your eyes open for what comes next.
2) Ethereum has a good week
The CFTC’s comments that Ethereum is to be treated as a commodity seemingly confirm that, despite robust securities enforcement by the SEC against Telegram, Eos, Sia, Paragon, and dozens of other projects, Ethereum is getting a free pass.
Read my write up where I argue that if Ethereum were launched today, it would be a security.
3) Facebook has a bad week (Libra on the ropes, with withdrawals by Mastercard, Visa, eBay and Stripe adding to last week’s departure of PayPal)
This was inevitable. As I wrote back when Libra broke cover in July:
If Facebook raised an army, this would be only slightly more hostile to the people of the United States than what is currently proposed. Big Tech doesn’t share American values and doesn’t care about American users. It doesn’t care about the unbanked. It cares about money. It cares about building defensive moats, i.e., monopolies. And Libra – the tech industry monopolization of global finance – is a phenomenal way to get both free money (the token represents, after all, an interest-free loan from Libra’s users) and a very deep, wide moat, not just for Facebook, but also for every other major category leader/tech monopolist on the planet.
After tumultuous Congressional hearings, regulatory pressure from the Europeans, the straw that appears to have broken the camel’s back was a letter from two U.S. Senators, Sherrod Brown (D-OH) and Brian Schatz (D-HI), to a number of payments infrastructure companies advising them that teaming up with Facebook would not be in their interests.
Sen. Brown of course has been a vocal opponent of Facebook’s forays into crypto from the start:
Here’s an excerpt from the 1.25-page letter the two senators sent to the CEOs of Mastercard, Visa, and Stripe. Salient passages include:
Facebook is currently struggling to tackle massive issues, such as privacy violations, disinformation, election interference, discrimination and fraud, and it has not demonstrated an ability to bring those failures under control. You should be concerned that any weaknesses in Facebook’s risk management systems will become weaknesses in your systems…
Your companies should be extremely cautious about moving ahead with a project that will foreseeably fuel the growth in global criminal activity.
Yikes. In other words, “Facebook is sailing into some rough seas. You sure you want to get into bed with that?”
The letter then concluded:
Facebook appears to want the benefits of engaging in financial activities without the responsibility of being regulated as a financial services company. Facebook is attempting to accomplish that objective by shifting the risks and the need to design new compliance regimes on to regulated members of the Libra Association like your companies. If you take this on, you can expect a high level of scrutiny from regulators not only on Libra-related payment activities, but on all payment activities.
This is government-ese for “check yourself before you wreck yourself.”
Visa, Mastercard, and Stripe promptly withdrew from the consortium on the 10th of October, as did eBay, joining PayPal, which withdrew the previous week.
Although as your correspondent put it on October 4th:
4) Bitfinex has a worse week (gets sued for more than $1 Trillion).
Bitfinex has been sued for $1.2 trillion (that’s “trillion” with a T) dollars in a lawsuit that alleges the company engineered the multibillion dollar 2017-18 cryptocurrency bubble and crash by printing fake Tether dollars. Read my write up.
5) Telegram has a terrible, horrible, no good, very bad week (gets sued by the SEC in federal court).
(With apologies to Judith Viorst.)
Telegram is a popular encrypted messaging app, not just among crypto-nerds, but among people everywhere. It is used by well north of 300 million DAUs (daily active users) who
- are looking to encrypt their communications and think they’re too cool for WhatsApp, but
- don’t know that they should be using Signal or Keybase.
In late 2017/early 2018, as Telegram blew past the 200 million DAU mark, the company decided to raise money in an ICO, or initial coin offering. The offering raised an astounding $1.7 billion (with a B) for a pre-product, pre-revenue blockchain system known as the “Telegram Open Network,” to have the ticker symbol “TON,” with tokens known as “Grams.”
Silicon Valley’s most storied investment firms practically fell over themselves to participate.
The hiccup: in the TON investment documents, Telegram promised to launch the network by 31 October 2019 or, failing which, Telegram investors would have the option to recoup their investment, less expenses.
Telegram was, understandably, in a hurry to get the network live and the tokens issued before the end of this month (as it is, as of this writing, the 12th of October). Unfortunately for Telegram, on October 11th, the Securities and Exchange Commission filed an emergency action and obtained a temporary restraining order against Telegram preventing them from doing so, all but assuring that the company will fail to meet the deadline – and ensuring protracted litigation will interfere with the launch of the network for some time to come.
The structure of the offering was that (a) Telegram would pre-sell $1.7 billion of Grams to investors under Regulation D and S exemptions to registration (b) Telegram would retain $billions of dollars worth of Grams for itself and (c) after launching the network, those investors and Telegram itself would flood the U.S. markets with tokens.
The issue with this is that (a) apparently Telegram didn’t adhere to the strict requirements of Regulation D during the sale, (b) the SEC considered that not only the investment agreements to purchase Grams but also the Gram tokens themselves would constitute investment contracts, and (c) that Telegram was making efforts to sell, and planned to sell, these tokens direct into the U.S. markets through U.S. platforms e.g. Coinbase Pro et al.
And apparently Telegram then refused to accept service of a subpoena the SEC served on it overseas.
So the SEC sued Telegram and slapped it with a temporary restraining order ordering Telegram to appear in the New York federal district court on October 24th to explain itself.
Points to note? Despite what the SEC paints as a pretty open-and-shut case, Telegram’s counsel is Skadden, Arps, which is a little strange seeing as – to the extent Skadden advised on the original deal, as reported in the New York Times – one would think a firm as expensive as Skadden might have seen this coming or, at the very least, wouldn’t have advised Telegram to evade service of a subpoena. It’s of course impossible to know what was said behind closed doors, but now that I and others are starting to look at the Telegram sale more closely that’s one of the first questions that crossed my mind.
Equally, Skadden may be expected to mount a robust defense now that its client has been sued.
Furthermore, this paints the US as a thoroughly hostile environment for ICOs, despite the SEC’s repeated insistence on not enforcing against Ethereum in the past or the recent 60 basis point slap on the wrist given to the $4 billion Eos ICO. The overwhelming theme of the recent SEC enforcement, including Telegram, means that the best move for an ICO issuer not using the Regulation A+ issuance pathway trailblazed by Blockstack may be to avoid the United States entirely.
Obviously your mileage may vary and this column is called Not Legal Advice for a reason, but if there’s a takeaway point from this it’s to expect ICO activity in the U.S. to diminish going forward rather than increase.
This also calls into question the exchanges’ listing decisions to date, noting that the so-called Crypto Ratings Council classified both Eos and Grams as not being securities. Meaning that their ratings of anything that isn’t Bitcoin or Ethereum are, so far, 0-2.
And expect more enforcement.
And with that out of the way, time for your weekly Moment of Marmot: