The Securities and Exchange Commission on Tuesday filed a civil suit claiming Ripple Labs Inc. violated investor-protection laws when it sold a bitcoin-like digital asset called XRP.
The suit is one of the highest-profile SEC actions against a cryptocurrency pioneer and comes just as the regulator’s chairman is departing at the end of the Trump administration. The SEC over the past few years has brought and mostly won civil lawsuits alleging startups trampled securities laws when they raised money by selling cryptocurrencies.
None of those companies, though, was as big as Ripple and XRP. Ripple had a $10 billion valuation in its most recent funding round in 2019, and XRP is the third-largest cryptocurrency by market value.
The price of XRP, which had more than doubled this year, declined after The Wall Street Journal reported the SEC suit was imminent, falling 13% to 45 cents, according to CoinDesk.
The commission charged Ripple Chief Executive
with engaging in an illegal securities offering. In its complaint, the SEC said the defendants had sold more than 14.6 billion XRP tokens since 2013 worth $1.38 billion in an unregistered offering.
Mr. Garlinghouse personally sold XRP worth about $150 million and Mr. Larsen sold XRP worth $450 million, the suit says.
The company and the officers say they plan to fight the claims.
“They’re wrong in matter of law and fact,” Mr. Garlinghouse said Monday night before the suit was filed.
The lawsuit revolves around whether XRP, a digital asset that the company launched in 2012, is actually a security that should have been registered with the SEC. Registration involves providing the SEC and the public with disclosures about a company’s business model, risks and financial condition. The SEC reviews the disclosures and provides feedback to improve them for investors.
Because Ripple didn’t register XRP as a securities offering, the SEC argues investors didn’t have adequate information, giving the defendants an unfair advantage.
“Ripple created an information vacuum such that Ripple and the two insiders with the most control over it—Larsen and Garlinghouse—could sell XRP into a market that possessed only the information [the] defendants chose to share about Ripple and XRP,” the SEC alleged in its lawsuit, filed in Manhattan federal court.
The SEC says XRP has existed almost wholly as a speculative asset, not a currency, and that the defendants have marketed and sold it as a speculative asset. XRP’s trading volume within Ripple’s payments products, in which it is used as a currency, totals only about 1.6% of its total volume, according to the SEC, with the other 98.4% coming on secondary exchanges.
The SEC is asking a court to force the company and Messrs. Garlinghouse and Larsen to stop violating securities laws, to pay back some of their gains as well as financial penalties and to prohibit them from selling digital-asset securities.
The question of whether XRP is a security will be crucial. XRP is similar to bitcoin and other cryptocurrencies, but also different in key ways that sparked the SEC’s investigation. Bitcoin was an open software project launched by a pseudonymous creator calling himself
XRP, initially called Ripple, was created, sold initially and backed by Ripple the company.
Ripple has significantly altered its relationship to XRP, turning control of its development over to an open-source network of independent developers. But the company still holds about 6.4 billion XRP directly and has an additional 48 billion held in an escrow from which it periodically sells them to the public.
It has distributed 45 billion XRP since inception. That is different from the ways in which bitcoin is created and distributed.
The SEC has said neither bitcoin nor ether, another well-known cryptocurrency, are securities. But the agency has been circumspect about granting other digital assets a pass to skirt federal oversight.
Mr. Garlinghouse, who has criticized what he says is a lack of regulatory clarity for many digital assets, questioned why the commission, and specifically the agency’s chairman,
chose now to take a stand on XRP.
“That to me makes no sense,” he said. “It’s kind of preposterous.”
Martin Flumenbaum, an attorney for Mr. Larsen, said: “The SEC action is without merit. XRP is a currency like Bitcoin and Ether and does not have to be registered as a security.”
Ripple is represented by Andrew Ceresney, a former SEC enforcement chief during the Obama administration. Mr. Ceresney said Tuesday that Ripple would prevail in court.
“XRP, the third-largest virtual currency with billions of dollars in trading every day, is a currency like the SEC has deemed Bitcoin and Ether, and is not an investment contract,” Mr. Ceresney said. “This case bears no resemblance to the initial coin offering cases the SEC has previously brought.”
Mr. Clayton has said he is leaving the SEC by the end of the year. He has mostly taken a skeptical view of cryptocurrencies, saying many appear to fall within the legal definition of a security.
a former chairman of the Commodity Futures Trading Commission, took a different view of XRP’s status in an article published earlier this year.
Mr. Giancarlo and a co-author argued that XRP doesn’t meet the legal definition of a security, which stems from a 1946 Supreme Court decision. His article disclosed that Willkie Farr & Gallagher LLP, where Mr. Giancarlo now works, counts Ripple as a client. In an interview, Mr. Giancarlo declined to comment further specifically on XRP.
“We are being too restrictive and too cautious in the U.S., and too reliant on legal frameworks developed…for an analogue world,” Mr. Giancarlo said of digital money and assets broadly. “The lack of an open and constructive legal framework will only assist America’s economic competitors in pioneering the digital future of money.”
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