What SEC ICO Precedents Mean for Ripple

The story of the initial coin offering (ICO) in American law is a play in four acts: Kik Interactive, Telegram, LBRY and Ripple Labs.

With three of those four cases decided, and Ripple Labs exchanging dueling replies to motions for summary judgment on Friday, Dec. 2, we now enter the dénouement of a 10-year-long saga.

Preston Byrne, a CoinDesk columnist, is a partner of Brown Rudnick’s Digital Commerce Group. This article is excerpted from The Node, CoinDesk’s daily roundup of the most pivotal stories in blockchain and crypto news. You can subscribe to get the full newsletter here.

The story begins with long-forgotten projects like Mastercoin and Counterparty, was blasted into public consciousness with projects like Ethereum and now slowly dies as American crypto developers shun the mother country for greener pastures abroad.

If Ripple loses, as I expect it will sooner or later, its defeat would be highly symbolic. The company and its associated protocol are among the longest-running and significant cryptocurrency projects in the world. XRP is practically a household name.

Back in 2012, when Ripple was founded, the term “initial coin offering” did not exist. Neither did enforcement actions against the then-miniscule crypto industry. In fact, the U.S. Securities and Exchange Commission (SEC) wouldn’t announce its first settlement for alleged registration violation until November 2018 with the Airfox and Paragon ICOs. For context, Ripple’s network went into production on Jan. 1, 2013 – nearly six years earlier.

Apart from the fact that XRP has sat in the top 10 coins by market cap for nearly a decade, the Ripple project also represented a unique approach to consensus at a time when alternative approaches to blockchain coordination of any kind were only a few years old.

Generally speaking, blockchains in the 2013-2015 period worked in one of four ways:

Ripple utilizes a novel consensus mechanism where a list of nodes, the so-called “UNL” or “Unique Node List,” conduct round-robin voting until 80% of them agree as to which transactions should be appended to the end of a chain. This is similar to a model more commonly known today as delegated proof-of-stake (except, without the stake). Tendermint or Cosmos take similar approaches to this voting process, except without the UNL (and markedly more decentralization).

The advantages of this round-robin approach, it was claimed by Ripple’s proponents, are that the network can process many more transactions at far lower cost. The disadvantages, detractors say, are that it requires a higher degree of trust and is not truly decentralized.

Thankfully, Ripple’s legal troubles are not about the protocol – they’re about the tokens. On genesis, Ripple Labs, or its predecessor OpenCoin entity, minted 100 billion XRP tokens, which were subsequently distributed to the company and early officers and then sold into the wider crypto markets to fund Ripple Labs’ operations.

At the time, there was much spirited debate about whether tokens sold in such a manner constituted securities. On one side were crypto entrepreneurs who claimed that token sales could serve as a lightly regulated governance mechanism and crowdfunding tool. On the other were many lawyers, myself included, who thought that the SEC would eventually get wise and crack down on the practice.

As we now know, the skeptics were right.

The first ICO to go down in a big way was Kik Interactive. Kik was, or rather still is, a lightly-used messaging app which pivoted into crypto at the height of the first great ICO boom in 2017. Kik sold tokens directly to the public without a registration statement in effect. The SEC sued and, 16 months later, Kik lost on a motion for summary judgment.

Telegram was the SEC’s next scalp. Telegram is a popular, allegedly encrypted messaging app founded by Russian billionaire Pavel Durov. Famously, despite being one of the most used messaging apps on the planet, Telegram generates no revenue. To remedy this, Telegram issued and sold a staggering $1.7 billion worth of cryptocurrency tokens in various private fundraising transactions via private placement over the course of 2018.

Telegram differed from Kik Interactive mainly in that Telegram sold tokens first via private placement to high net worth and offshore investors, who would presumably later unload those tokens onto U.S. markets and thus to U.S. retail purchasers. Mere days before the tokens were to be issued, the SEC sued Telegram and obtained an emergency restraining order halting the token conversion. Here, too, the SEC would quickly win on a motion for preliminary injunction. The official Telegram token project died immediately (but has continued on in various and unrelated forms).

LBRY (pronounced “Library”) was…