"We Lost. Sorry Everyone": The Implications Of A District Court Finding Digital Token, LBC, Is A Security

• Published date: 23 November 2022
• Subject Matter: Finance and Banking, Corporate/Commercial Law, Technology, Financial Services, Commodities/Derivatives/Stock Exchanges, Corporate and Company Law, Securities, Fin Tech
• Law Firm: Mintz
• Author: Ms Ellen Shapiro, Will G. McKitterick and Sofia Nu'o

Crypto litigation, fueled by a surge of investors and market volatility, has ballooned in recent years. For example, numerous securities class actions and government subpoenas followed the May 2022 collapse of the $60 billion Terra network, along with stablecoin TerraUSD and the LUNA token. The following month, the U.S. Department of Justice announced enforcement actions in connection with a NFT scheme. Just last week, a major cryptocurrency exchange filed for bankruptcy. According to one study, the crypto industry has generated more than 200 class action lawsuits and other private litigations as of May 2022, a 50% uptick since the start of 2020.¹

One oft-repeated question adding to the volatility of the crypto space has been who should regulate it. In that vein, the U.S. Securities and Exchange Commission ('SEC'), the U.S. Commodity Futures Trading Commission ('CFTC'), as well as state agencies such as the New York Department of Financial Services, have attempted to impose regulations. Which government entity is legally authorized and best situated to regulate the crypto space comes down to whether tokens, stablecoins, NFTs, and related products are deemed securities under the federal securities laws or commodities under the Commodity Exchange Act. Whether crypto-products are securities under the U.S. Supreme Court's Howey test, such that they fall within the purview of the SEC, or a commodity, subject to CFTC regulation, remains unclear.

In holding that the digital token LBC qualifies as a security under the federal securities laws, a recent decision by the United States District Court for the District of New Hampshire bolsters the SEC's authority to regulate the crypto industry. See SEC v. LBRY, Inc., 2022 U.S. Dist. LEXIS 202738 (D.N.H. Nov. 7, 2022). The SEC's complaint asserted that LBRY, a decentralized content distribution service where users can share fully encrypted videos, images, and other digital content using blockchain technology, violated Sections 5(a) and 5(c) of the Securities Act of 1933 in offering and selling unregistered LBC tokens, designed to be used on the LBRY network. In granting summary judgment in the SEC's favor and denying LBRY's cross-motion for summary judgment, the district court rejected LBRY's arguments that (i) it did not need to comply with the Securities Act because the token it offered was not actually a security; and (ii) the SEC did not violate LBRY's right to due process.

Judge Barbadoro began his analysis by...