Five days earlier, on August 23, 2017, the SEC issued an order suspending trading in the securities of First Bitcoin Capital Corp. (“BITCF”), a Canadian company that has issued seven digital tokens, based on concerns regarding the accuracy and adequacy of publicly available information about the company, including the value of its assets and capital structure.² However, the SEC did not address trading in or issuance of the company’s digital tokens. In a letter to shareholders, BITCF noted that “the SEC was so hurried in stopping trading [in the shares of BITCF] that they inadvertently left in the symbol of another company (CIAU) as if our symbol which has nothing to do with BITCF.”³

 This action follows a previous SEC order suspending trading in the securities of CIAO Group, Inc. (“CIAU”) due to questions regarding the accuracy of statements in its press releases pertaining to, among other things, plans for an Initial Coin Offering (“ICO”).⁴ The suspension of trading in CIAU securities ended on August 23.

The SEC released an Investor Alert on August 28 that provides a list of factors that the agency considers when it evaluates whether a trading suspension is appropriate.⁵ Specifically, it looks for the following:

• A lack of current, accurate, or adequate information about the company – for example, when a company has not filed any periodic reports for an extended period
• Questions about the accuracy of publicly available information, including in company press releases and reports, about the company’s current operational status and financial condition or
• Questions about trading in the stock, including trading by insiders, potential market manipulation, and the ability to clear and settle transactions in the stock

The Investor Alert warns investors to be wary of companies that have been subject to a trading suspension. Accordingly, companies should exercise caution in avoiding the aforementioned red flags. The stigma of a trading suspension could result in irreparable harm to a company.

Although the SEC only suspended trading in BITCF shares for a ten-day period, in CIAU for a thirteen-day period, and in ARSC for a fifteen-day period, such a suspension announced ahead of an ICO could derail the token offering or give rise to other enforcement and litigation risks. The SEC did not provide any further details or guidance on any of these matters in the orders.

The SEC has demonstrated its increased scrutiny of the blockchain technology arena after first issuing an investigation report on The DAO ICO on July 25. As we detailed in our client alert on The DAO investigation report,⁶ the SEC may closely examine whether a token that is being issued operates as a security. However, even companies that issue “utility” tokens that are intended to be used for a particular purpose (e.g., redeemable for goods or services), rather than as an investment, may be subject to enhanced scrutiny by the SEC. Even if a token being offered does not qualify as a security, the SEC may nevertheless suspend trading in the securities of an issuer, or take other enforcement actions with respect to a company or offering otherwise subject to SEC regulation, if there is inadequate or inaccurate disclosure in relation to the token being offered or other proposed activities of a public company.

The SEC recently provided guidance as to its jurisdiction with respect to the offer for sale of digital assets that qualify as “investment contracts” and therefore securities under the Howey test. Accordingly, companies that intend to offer digital tokens to the public through an ICO or token sale must carefully consider the risk of SEC intervention. Furthermore, even where such tokens would not qualify as “securities” under the Howey analysis, the SEC may nevertheless take action against SEC-regulated companies issuing tokens unless there is careful and adequate public disclosure.

Companies that intend to issue digital tokens through an ICO should ensure that such offerings are either clearly outside the scope of or fully compliant with the securities laws and regulations. Moreover, publicly-traded companies must make certain that their public disclosures regarding a token sale or other digital currency transaction are robust and not misleading. Many “white papers” released in conjunction with ICOs do not contain adequate risk disclosure language or regulatory analysis, which might prompt the SEC or other regulators to review those offerings more closely. Companies should also be aware that the Commodity Futures Trading Commission has asserted jurisdiction over digital currencies and has anti-fraud and anti-manipulation authority over spot and forward transactions involving these products, including ICOs.⁷

The spot market for digital tokens, which was once a “wild west” seemingly outside the scope of most federal regulations, is being integrated into the emerging federal and state regulatory regime.  

1. In the Matter of American Security Resources Corp., File No. 500-1 (Aug. 24, 2017), available at sec.gov.
2. SEC Release No. 81474, Aug. 23, 2017, available at sec.gov.
3. First Bitcoin Capital Issues Letter to Shareholders; Comments on Temporary SEC Suspension, Aug. 24, 2017, available at bitcoincapitalcorp.com.
4. SEC Release No. 81367, Aug. 9, 2017, available at sec.gov.
5. SEC, Investor Alert: Public Companies Making ICO-Related Claims, Aug. 28, 2017, available at sec.gov.
6. Reed Smith’s Client Alert on the SEC’s investigation of The DAO is available here.
7. See In the Matter of Coinflip, Inc., et al., Comm. Fut. L. Rep. (CCH) ¶33,538, (Sep. 17, 2015).

Client Alert 2017-198