July 13, 2023 – In a landmark ruling, Judge Analisa Torres ruled that Ripple Labs did not violate federal securities law by selling its XRP token on public exchanges, however she also found that selling XRP directly to investors did violate the law.
In a significant development, the Securities and Exchange Commission (SEC) accused a company, along with its current and former chief executives, of engaging in an unregistered securities offering, amounting to $1.3 billion through the sale of XRP, a cryptocurrency created by Ripple’s founders in 2012.
Dispute Over Crypto Tokens as Securities
The cryptocurrency industry has been closely following this case, as it raises the fundamental question of whether the majority of crypto tokens can be classified as securities and subjected to the SEC’s strict investor protection regulations. The SEC has pursued over 100 enforcement actions against various crypto tokens, claiming they fall under the securities category, but most of these cases have concluded in settlements.
Judicial Agreement with the SEC
When some cases have reached the courts, judges have typically sided with the SEC, determining that the crypto assets in question indeed qualify as securities. Unlike commodities, securities are subject to stringent regulations and must be registered with the SEC by their issuer. Additionally, they require detailed disclosures to inform investors of potential risks associated with the investment.
Understanding Ripple’s XRP Sales
However, a recent ruling by Judge Torres provided some clarity on the matter. According to the judge, Ripple’s XRP sales on public cryptocurrency exchanges did not constitute offers of securities under the law. This was primarily because purchasers did not have a reasonable expectation of profit tied to Ripple’s efforts.
“Blind Bid/Ask Transactions”
Judge Torres characterized these sales as “blind bid/ask transactions” where buyers were unaware if their payments went to Ripple or any other seller of XRP. This lack of expectation for profit, tied to the efforts of others, played a crucial role in the determination of whether XRP was an investment contract.
Sales on Cryptocurrency Platforms
Furthermore, the ruling also examined XRP sales on cryptocurrency platforms by Ripple’s CEO Brad Garlinghouse, co-founder and former CEO Chris Larsen, and other distributions, including employee compensations. The judge concluded that these transactions did not involve securities, as they were not investment contracts.
Partial Victory for the SEC
Amidst this complex legal battle, the SEC managed to secure a partial victory. Judge Torres ruled that the company’s $728.9 million of XRP sales to hedge funds and other sophisticated buyers amounted to unregistered sales of securities.
Ripple’s Marketing Efforts
Judge Torres pointed out that Ripple’s marketing specifically targeted institutional investors and emphasized a speculative value proposition for XRP, closely tied to the company’s efforts to develop the blockchain infrastructure behind the digital asset.
Jury Decision on Garlinghouse and Larsen’s Involvement
In light of the ruling, the court highlighted that a jury must decide whether Garlinghouse and Larsen knowingly facilitated the company’s violation of the law. The defendants cannot use the defense that they lacked “fair notice” that XRP should be classified as a cryptocurrency rather than a security.
SEC’s Warning Obligations
Judge Torres also clarified that the law does not obligate the SEC to warn all potential violators on an individual or industry level. The responsibility to comply with existing regulations falls on the companies and individuals involved.
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