Q. With the recent agreement between the SEC and Block.One can we now say EOS is not a security as some commentators are saying?
A. No. The SEC considers the original B1 ERC-20 tokens to be unregistered securities, and under U.S law all securities must either be (1) registered with the SEC or (2) avail themselves of an exemption to registration (Reg D, Reg A, or such). That Block.One did neither a registration statement nor availed itself of an exemption to registration prompted the SEC to sanction it with a $24 million fine for an improper issuance of securities.
As an aside, just because the SEC considers the B1 ERC-20 tokens to be securities does not mean they are. B1 could have fought in court arguing the ERC-20 token and its current incarnation, the native EOS token, is not a security. The court would decide the matter and I’m not sure the SEC has the winning case, but that is another topic.
Q. Why might the SEC not have the winning case?
A. First, I’m not sure a court would grant jurisdiction to the SEC. Not that I would want to test this point in court, and clearly neither did B1, but B1 has an argument it should be outside SEC regulation. Consider the following:
- B1 is a foreign company, incorporated and domiciled outside the USA.
- B1 expressly forbade U.S. citizens from participating in its ICO.
- B1 instituted geoblocking of U.S. IP addresses throughout its ICO.
So, B1 is not a U.S. corp, not based in the U.S. and U.S. citizens were not allowed to participate and B1 took some measures so that U.S. citizens not participate. I don’t know what a court would say about the SEC's authority here.
The SEC argued in claiming jurisdiction that U.S. citizens actually participated by using VPNs. But is it B1's fault that U.S. citizens went through efforts to bypass B1's restrictions? And why should the SEC protect those citizens who break the rules?
The SEC also argued that the B1 ERC-20 token was widely available in secondary markets to U.S. citizens who bought many of them. But is it B1's responsibility to police all secondary markets? Can B1 even do that? The SEC also argued that B1 had advertised on Times Square in a big sign regarding the ICO, though my recollection is that this sign was for a conference, but if true, that gives the SEC a bit more ammo, but I’m not sure this is materially significant.
So I honestly don't know if a court would grant SEC jurisdiction, but if I was B1 I wouldn't want to find out either.
Secondly, I’m not sure a court would consider the ERC-20 tokens as securities as the SEC has done. One of the main arguments the SEC made was that the purchasers of the tokens were expecting a future profit, even though B1 made clear the tokens had zero monetary value, and were simply a future claim on EOS network resources. In the eyes of the SEC, that people paid money in exchange for tokens with the expectation of a future profit makes the tokens securities. But the way EOS has evolved to what it is today, I would say B1’s original claim is valid -- the EOS token is indeed a claim on the blockchain’s resources. Now of course, If we are honest, most people who bought the token did so in the expectation of a future gain, but what would a court decide?
If the SEC had a stronger case against B1, there would never have been a $24 million fine but a more severe one. Probably closer to a $1 billion fine. Most cases involving the improper issuance of securities find the SEC asking the entity for full disgorgement of all funds raised plus a fine often equal to the amount of money involved. So for B1 that would be something like $4 billion + $4 billion. The SEC levied $24 million. I don’t think this would have happened if they had an airtight case and my guess is the SEC probably didn't want to find out either in court if it had jurisdiction or if the tokens were securities. This is all speculation of course but it seems neither party wanting to find out, they met at what was a happy medium. I still think it was a money grab by the SEC, but B1 was happy to have its tokens exempt from registration, paid, and all good.
Q. So what’s the status now?
A. The SEC has exempted B1 from having to register the ERC-20 tokens as securities. That is a big, big, big win for B1. For several reasons, key among these being that B1 now has regulatory clarity from the SEC regarding the legality of its ERC-20/EOS tokens. Secondly, a requirement to register the original ERC-20 tokens could have torpedoed the EOS project altogether and invited litigation from investors of the B1 ICO.
EOS now joins just three other blockchains with such SEC clarity: Bitcoin, Ethereum, and the SIA Network, the last of these coming to an agreement with the SEC shortly after B1 did. https://www.crowdfundinsider.com/2019/10/152274-siacoin-makers-settle-with-sec-pay-225k-fine-for-issuing-unregistered-securities/
Not that anyone asked, but in my eyes I don’t think EOS nor Siacoins are securities and I think the SEC overstepped its authority.
Q. Where does the SEC agreement leave the native EOS token?
A. So far, we have several points:
B1 voluntarily submitted itself to SEC jurisdiction and did not fight this. (it also promised future compliance and cooperation with the SEC). This is almost certainly a good thing.
The SEC clearly viewed the original B1 ERC-20 tokens as unregistered securities. Indeed, the fine against B1 was for orchestrating an unregulated sale of securities.
After discussions and some fancy legal work by B1 lawyers, Cooley, the SEC agreed to let the B1 ERC-20 securities be exempt from registration with the SEC.
So far so good.
Now what about the native EOS tokens?
The native EOS tokens are exempt from registration. Why?
The original ERC-20 tokens were simply placeholders for the native EOS tokens, which were exchanged for free exactly 1:1 with the ERC-20 tokens. If the ERC-20 tokens had to be registered so would have the native EOS tokens. In effect, for SECURITIES purposes, the ERC-20 token and the EOS token are identical. Some could argue they are not identical as the ERC-20 token and the native token operate differently, but they confer the exact same rights, so from a securities perspective they are the same. That they were swapped 1:1 and for free I think makes clear the intention of equality.
B1 would never have issued the triumphant press release following the settlement if it knew it had to now go back and battle for the legality of native EOS tokens. https://block.one/news/block-one-announces-settlement-with-us-securities-and-exchange-commission/
Nor would B1 have paid a $24 million fine either if this was not the end of the battle with the SEC.In the press release B1 states, “The settlement resolves all ongoing matters between Block.one and the SEC.”
Q. So EOS native tokens are also exempt from registration?
A. I think it is clear they are.
Q. What do you see in the future?
A. Having regulatory clarity is a huge win for B1 and EOS. It might encourage institutional investors perhaps wary of taking a look at the project before, to be more enthusiastic now, and for developers to feel more comfortable deploying to the chain. It also lifts a potentially black cloud from B1. This could encourage B1 to be more aggressive in promoting and investing in EOS than it has been to date. B1 has also established a working relationship with the SEC, which bodes well for future tokenized projects it will launch, such as Voice. It’s an exciting time for B1 and EOS.
ENDING STATEMENT: Thanks Carl Kruse!
A. A pleasure. A reminder these are just my opinions. Don't take any of this as legal or professional advice.