The cryptocurrency space celebrated a milestone as Ripple Labs, Inc. (“Ripple”) clinched a significant victory against the Securities and Exchange Commission (“SEC”) in the Southern District of New York. This was the first major win for a crypto issuer fighting an SEC case, a signal that breathed new life into the ongoing debate about whether cryptocurrency tokens fall under the category of “securities” based on the Howey Test. According to the ruling, Ripple’s XRP tokens are not securities, and their automated sales on crypto exchanges are not deemed securities either.
The implications for future token issuers are vast. Predicting the SEC or Congressional response is challenging, yet this ruling marks a significant moment for the burgeoning industry seeking clear guidelines for token issuances. Particularly noteworthy is that Judge Analisa Torres of the S.D.N.Y., a high-profile court, leaned in Ripple’s favor after years of what many perceive as the SEC’s indiscriminate targeting of crypto companies without clear operational guidelines. Though an appeal from the SEC is likely, this ruling deals a significant blow to their perceived overreaching interference in the Web3 world.
Ripple, since its 2012 inception, has aimed to revolutionize international payments by creating a global network for currency transfers. As part of their operations, the company developed the XRP Ledger’s source code, which produced a fixed supply of 100 billion XRP tokens upon launch. The SEC had alleged that through various sales and distributions, Ripple conducted a $1.3 billion unregistered securities offering, violating the Securities Act of 1933’s Section 5.
The Act’s Section 5 states that selling or offering to sell a “security” without a filed registration statement with the SEC or qualifying for an exemption is illegal. The primary analysis step is determining whether the tokens under scrutiny are indeed securities. As with most such cases, Judge Torres used the Howey Test to decide whether the XRP tokens are securities, a decision that is largely based on economic realities and the circumstances’ totality.
The ruling didn’t entirely favor Ripple. Regarding institutional sales of XRP tokens, the judge found that all Howey Test aspects were satisfied, indicating that these investors could reasonably expect their investment to enhance the XRP ecosystem and increase token prices.
However, for programmatic sales or automated transactions without direct buyer-seller communication, the judge ruled differently. Buyers on an exchange were unaware if they were purchasing tokens from Ripple or another seller. Less than 1% of the global XRP trading volume was sold by Ripple, so most individuals buying XRP from exchanges did not invest their money in Ripple directly. The court dismissed the SEC’s arguments about Ripple targeting speculators, ruling that speculative motive didn’t prove an investment contract. Therefore, the Howey Test’s third prong was not met.
For other distributions, mainly to employees as compensation or commercial partners for development work, the court ruled that these didn’t constitute an offer and sale of securities because the recipients didn’t pay anything tangible or definable to Ripple.
The case also involved Ripple’s COO Bradley Garlinghouse and former CEO Christian Larsen, accused by the SEC of aiding and abetting a securities violation. But the court denied the SEC’s motion for summary judgment against them, deeming this an issue for a jury to decide.
The court’s ruling serves as a constraint on the SEC’s seemingly arbitrary actions towards digital asset issuers when it has provided little guidance or regulation. This is seen as a significant step forward, not just for Ripple, but for the entire crypto industry. While the ruling on institutional sales brings some caution, it provides a degree of reassurance for issuers and the principals of crypto companies, especially if they act in good faith and engage competent counsel.
