On October 3, 2023, a federal court denied the Securities and Exchange Commission’s request to certify for appeal the same court’s decision (Initial Decision) granting Ripple Labs, Inc.’s and two principals’ motion for summary judgment that certain types of sales and distributions of the digital asset XRP did not constitute investment contracts.
The SEC had charged in a December 22, 2020, enforcement action that such (and other) offers and sales by the three defendants were investment contracts (and thus securities) that were required to be registered or exempt from registration and were not.
In applying for a certification to appeal, the SEC had claimed that the Hon. Analisa Torres had misapplied the Supreme Court’s landmark decision in SEC v. W.J. Howey in the Initial Decision. However, Judge Torres rejected this view, noting that “[t]he Court’s findings come from a direct application of Howey to the unique facts and circumstances of this case.”
In the Initial Decision issued on July 13, 2023, Judge Torres held that direct sales by Ripple Labs to institutional purchasers were investment contracts. However, she also ruled that the programmatic sales by the defendants through blind bid/ask transactions on trading platforms were not investment contracts because – considering the specific circumstances before her – the purchasers could not “reasonably expect profits from Ripple’s efforts”—one of three requirements under Howey to find an investment contract. Likewise, Judge Torres held that, in connection with third parties’ and employees’ receipt of XRP, the SEC failed to identify “‘some tangible and definable consideration’ to Ripple.” Thus, these other distributions were also not investment contracts, said Judge Torres, relying on the “investment of money” requirement of Howey. (Click here for Katten’s prior discussion of Judge Torres’ Initial Decision.)
In denying the SEC’s request to certify its interlocutory appeal, Judge Torres—who is a judge on the United States District Court for the Southern District of New York—wrote that, to grant the SEC’s request for a certification, she would have to find, among other matters, a controlling question of law for which there was a “substantial ground” for a difference of view. However, this was not the case here, she claimed.
In her denial decision, Judge Torres attempted to reconcile the Initial Decision with a subsequent decision by another SDNY judge—the Hon. Jed Rakoff—in another enforcement action, SEC. v. Terraform Labs Pte Ltd. There, also applying Howey, Judge Rakoff ruled that the offer and sale of the relevant crypto assets constituted investment contracts under all circumstances – both directly and through secondary market transactions, in response to a motion to dismiss by the Defendants.
However, Judge Torres noted that there was not “[a] substantial ground for difference of opinion” based on perceived conflicts between her ruling and the ruling by Judge Rakoff. Judge Torres explained that, at the motion to dismiss stage, Judge Rakoff had to accept all well-pled allegations by the SEC as true and draw all reasonable inferences in the SEC’s favor, whereas she made a determination at the summary judgment stage, with the benefit of a complete and extensive factual record. (Click here for Katten’s prior discussion of Judge Rakoff’s ruling in SEC v. Terraform Labs.)
Separately, on the same day as Judge Torres’ decision in Ripple Labs, the SEC filed its opposition papers in response to Coinbase, Inc.’s motion to dismiss the SEC’s charges that it operated an unlicensed national securities exchange, clearing agency and broker-dealer, among other charges. Coinbase filed its motion to dismiss on August 4, 2023.
Generally, the SEC claimed that, contrary to Coinbase’s arguments in its motion to dismiss, each crypto asset issuer whose crypto asset was listed on Coinbase, “invited investors . . . reasonably to expect the value of their investment to increase based on the issuer’s broadly-disseminated plan to develop and maintain the asset’s value (including through a secondary market for resale).”
The SEC also argued that, contrary to Coinbase’s assertions, each crypto asset issuer did not need to have a contract with any purchaser in order to satisfy the three requirements for an investment contract under Howey. The SEC additionally claimed that the major questions doctrine was not applicable to its current litigation, as the SEC has for decades asserted authority over novel investments “in whatever form they are made and by whatever name they are called.”
Coinbase’s Reply in Support of its Motion to Dismiss is due on October 24, 2023.
What Does This Mean for the SEC in Ripple and Elsewhere?
Regardless of Judge Torres’ latest ruling, the SEC may still file an appeal after the conclusion of the Ripple Labs trial, scheduled to begin April 23, 2024.
So what might the ruling mean for the SEC in Ripple Labs and in other pending enforcement actions alleging digital assets to be securities?
Judge Torres’s Ripple Order Will Not be Reviewed by an Appellate Court for Some Time. If the SEC seeks to appeal after the trial, it is unlikely to be able to file an appeal to the Second Circuit, brief and then successfully argue that appeal prior to the end of 2024.
Other Courts May be Less Deferential to the SEC’s Interpretation of Howey. As a result of Judge Torres’ reconciliation of the Initial Decision and Judge Rakoff’s decision in Terraform Labs, other courts may be more willing to challenge the SEC’s claims that all sales of crypto assets—no matter in initial offerings or secondary market transactions—are investment contracts, based on the reasonable expectations of the relevant purchasers or the lack of definable and tangible value provided by employees or third parties to the issuer.
Click here to access Judge Torres’s Order on the SEC’s Motion for Certification of Interlocutory Appeal in SEC v. Ripple Labs, Inc.
Click here to access the SEC’s Opposition to Coinbase’s Motion to Dismiss in SEC v. Coinbase, Inc.
