Judge Holds Blockvest Token a Security Under Howey, and the Wait for a Non-Security Token Continues

Last week, US District Judge Gonzalo Curiel of the Southern District of California reversed his previous November 2018 order and issued a preliminary injunction against Blockvest LLC (Blockvest) and its founder, Reginald Buddy Ringgold, III, after finding that the Blockvest token (BLV token) met the definition of an investment contract under the Howey test and was therefore a security.  While we are keen to see an example of a digital asset that falls outside the definition of a security either through application of the Howey test or a new test, we are relieved that Judge Curiel did not use the Blockvest case to set forth this precedent. Blockvest and its BLV token – like many initial coin offerings (ICOs) – had a website and a whitepaper, and conducted a pre-sale (claiming to have raised $2.5 million in seven days).  However, Mr. Ringgold later allegedly said that BLV tokens were never sold to the public and only 32 pre-vetted “testers” with a personal relationship to him collectively invested less than $10,000 of Bitcoin and Ether into the Blockvest Exchange.  It was under these disputed facts that Judge Curiel initially held that the BLV token was not a security. Upon reconsideration, though, the judge looked more expansively at the promotional materials, the whitepaper, and the use of social media surrounding the BLV token ICO.  He found that any legitimate aspects of the BLV token were dwarfed by the numerous alleged fraudulent misrepresentations by Blockvest, including:

• That the BLV token is “registered” and “approved” by the Securities and Exchange Commission (SEC), Commodity Futures Trading Commission (CFTC), and the National Futures Association (NFA);
• That Blockvest “partnered” with and is “audited by” Deloitte Touche Tohmatsu Limited (Deloitte); and
• That Blockvest is overseen by the fictitious Blockchain Exchange Commission (BEC), which has a seal, logo, and mission statement nearly identical to those of the SEC (conveniently enough, the BEC also shares the same address as the SEC).

Based on this collection of evidence, Judge Curiel found that the BLV token satisfied the three elements of the Howey test – (1) an investment of money (2) in a common enterprise (3) with an expectation of profits produced by the efforts of others.  (Judge Curiel, though, still continues to believe that there are disputed issues of fact with respect to the offers and promises made to the testers and other investors.) In issuing the preliminary injunction, Judge Curiel also found a reasonable likelihood that the fraudulent conduct would be repeated.  In his earlier order, Judge Curiel was satisfied by Mr. Ringgold’s statements that he intended to comply with the federal securities laws and that he had ceased all efforts to proceed with the ICO.  As to the fraudulent misrepresentations noted above, Mr. Ringgold acknowledged that “mistakes were made.”  Judge Curiel now seems less sympathetic to Mr. Ringgold, questioning how creating a fictitious agency that so closely resembles the SEC could merely be a “mistake.”  It also appears that the decision of Blockvest’s counsel to withdraw, after being asked to file documents that it could not certify were factually or legally supported, influenced the judge’s view that the alleged fraud is likely to continue. In sum, this preliminary injunction is a victory for the SEC – and a favorable outcome for the cryptocurrency community.  If the alleged fraudulent activities were capable of skirting the federal securities laws, the reputation of the industry could have suffered and the potential for unnecessary and potentially reactive legislative fixes could have intensified. And while we do not share SEC Chairman Jay Clayton’s view that all token offerings are securities, we agree with him and the SEC that the BLV token is not the example that disproves this view.  Judge Curiel – in reversing his previous order and holding that the BLV token is a security – has essentially saved for another day an example of when a token issued through an ICO is not a security.  The wait continues.