Last week, Crowdfund Insider reported on the Securities and Exchange Commission (SEC) enforcement action against Telegram and the issuance of Gram tokens. The move by the SEC is a doozy and telling.
First, Telegram sold about $1.7 billion in a SAFT (simple agreement for future tokens) that appeared to abide by the rules. Telegram filed a Form D and apparently only sold to accredited investors in the US. As CI has heard, the token offering was wildly popular at the time of the offering.
But the SEC’s “emergency action” was predicated on the expectation the Gram tokens would be available to the general public and thus akin to an initial public offering (IPO). Once the Grams hit various and sundry crypto exchanges – anyone would be able to purchase them – not just the accredited investor types. In the US, an IPO requires registration with the SEC, a significant undertaking.
We have received several comments on the SEC’s move to target an issuer that is not US-based but sold to US investors, approximately 39 purchasers who committed in total $424.5 million, according to the SEC’s complaint.
“For those that thought the Block.one settlement represented a kinder, gentler SEC, a reminder that the SEC not only has considerable enforcement tools but is willing to use them,” said Futter. “Telegram certainly has the war chest to fight and at least on the surface, appears to have a better fact pattern than Kik. If this case actually makes it to trial, it will represent an interesting opportunity for a ruling on the securities status of SAFTs. Literally billions of dollars were raised using these instruments. Most provided for conversion to tokens when their platform went live. Presumably, over the next months, more platforms will come online and raise the same set of issues.”
In comparing the SEC complaint against Kik and the one delivered to Telegram, the SEC seems to have taken somewhat different positions on the nature of the securities violation, explained Futter.
“In Kik, the SEC stated: “Although Kik’s SAFT specifically stated that the SAFT was itself a security, it failed to state that the Kin to be delivered under the SAFT were securities sold pursuant to the SAFTs. And although Kik’s PPM claimed that the offer and sale of the SAFTs were subject to an exemption from registration under Section 4(a)(2) of the Securities Act and Regulation D promulgated thereunder, among other United States laws, Kik did not claim any exemption for the offer and sale of Kin through the SAFT. As such, Kik’s offer and sale of the SAFTs and Kik’s offer and sale of the Kin purchased under the SAFTs were not registered.”
In other words, it was the issuance of the Kik token that constituted the securities regulation.
“With Telegram, the complaint stated that once purchasers resell the tokens “Telegram will have completed its unregistered offering with billions of Grams trading on multiple platforms to a dispersed group of investors.” In other words, it is the resale of tokens upon issuance that gives rise to the securities violation.”
Philip Moustakis, counsel at Seward & Kissel LLP and former SEC Senior Counsel who was a member of the SEC’s Cyber Unit from its inception, where he focused on cryptocurrencies and initial coin offerings, had this to say:
“According to the SEC’s complaint, between January and March 2018, Telegram raised approximately $1.7 billion from sales of 2.9 billion Grams to 171 investors, $424.5 million of which was raised from 39 U.S. investors. One thing that makes the case different from some other ICOs the SEC has pursued is that the tokens have not yet been delivered to the investors. This allowed the enforcement staff to step in and attempt to prevent the tokens from being disseminated in the U.S. and resold in the secondary market, at which point it would have been a far more complicated endeavor to unwind or bring the offering into compliance.”
Moustakis said the case has significance because it shows the SEC will pursue overseas issuers of digital assets or cryptocurrencies who offer and sell those assets into the U.S. or otherwise access the U.S. capital markets.
“And, together with the recent Block.one settlement, this filing demonstrates the SEC has the wherewithal to investigate and prosecute the largest ICOs or digital asset issuers,” added Moustakis. “For closer watchers of the SEC’s activity in the cryptocurrency space, the case is interesting for another reason. Here, according to the SEC’s complaint, the promoters have taken the position that, while the token purchase agreement for the Gram was a security, the token itself is not. It is noteworthy to see an issuer take this position because SEC Chairman Clayton has said we need to separate ICOs from cryptocurrencies and that ICOs, on the whole, are securities offerings, but it does not necessarily follow that all cryptocurrencies are securities.”
Moustakis pointed to comments issued by the SEC Director of the Division of Corporation Finance Bill Hinman, as well as other members of SEC senior management.
“In its complaint against Telegram, however, the SEC alleged there was no such separation between the Gram offering and the Gram token. Rather, the SEC alleged, the offering was a traditional capital raise because, among other things, the company used funds raised for operations and to build out its network, there were no goods or services for which one might use the Gram, and Gram purchasers had a reasonable expectation of sharing in the company’s profits should it succeed in building out the functionalities it promised.”
So where to now?
A letter is circulating around the crypto-sphere that is allegedly from Telegram staff indicating they are evaluating their options while claiming they attempted to communicate with SEC for 18 months. As the Gram tokens were supposed to be issued by the end of this month, expect greater clarity from Telegram sooner rather than later.
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