America’s securities regulator is using its recent legal victory against Terraform Labs to bolster its unregistered securities cases against the Binance and Coinbase (NASDAQ: COIN) exchanges.
On January 3, the Securities and Exchange Commission (SEC) filed new documents with the U.S. District Court for the District of Columbia regarding the regulator’s ongoing civil complaint against Binance. The Notice of Supplemental Authority alerts the court to the recent ruling in the SEC’s case against Terraform Labs, the defunct issuer of the LUNA and UST tokens.
On December 28, Judge Jed Rakoff granted the SEC summary judgment against Terraform Labs in the District Court for the Southern District of New York. That judgment found that Terraform Labs and its CEO, Do Kwon, sold unregistered securities—including LUNA and the UST algorithmic stablecoin—to the public before Terraform’s untimely implosion in May 2022.
Rakoff agreed that sales of LUNA, UST, ‘wrapped’ LUNA (wLUNA), and MIR amounted to “investment contracts” under the Howey test for identifying securities. According to the U.S. Securities Act, an investment contract involves “a contract, transaction or scheme whereby a person invests his money in a common enterprise and is led to expect profits solely from the efforts of the promoter or a third party.”
The SEC’s Notice singled out the UST angle as being “particularly relevant” to its case against Binance, which offered a similar profit-yielding ‘contract’ to its customers via the Binance-branded BUSD stablecoin, along with Binance’s staking-as-a-service, BNB Vault and Simple Earn programs.
The SEC argued that the offers and sales of UST constituted an investment contract because investors could deposit UST into a protocol that Terraform developed and promoted as a profit-yielding opportunity. The SEC claims Binance made similar “statements about profits and efforts that gave rise to a reasonable expectation of profits from the efforts of others” in promoting BUSD to its customers.
The court has scheduled its next hearing on both parties’ various motions—to dismiss, for summary judgment, to meet in the alley behind the court with swords or pistols, etc.—for January 19 at 10 a.m.
USDC you in hell, Coinbase
The SEC sued Coinbase in June 2023 for similar offenses, including failing to register the offer and sale of its crypto asset staking-as-a-service program. On January 4, the SEC filed a similar Notice of Supplemental Authority in the U.S. District Court for the Southern District of New York handling the Coinbase suit, informing Judge Katherine Polk Failla of the similarities between Terraform’s illegal actions and those of Coinbase.
For years now, Coinbase has been urging its U.S. customers to stake various tokens on its platform in exchange for various rewards. Coinbase takes a cut of these rewards before they’re distributed to customers to compensate the exchange for its managerial efforts.
Years ago, Coinbase formed a partnership with USDC issuer Circle. Coinbase subsequently began urging customers to deposit and hold USDC on its platform, promising rewards that have grown in scale along with the Federal Reserve’s interest rates. As with the staking programs, earning these rewards requires customers to do nothing other than sit back and let Coinbase (and the Fed) work their magic.
USDC-based interest has become an ever-larger chunk of Coinbase’s overall revenue, which in turn makes it a tempting target for the SEC. Coinbase has offered some strained justifications behind its programs, including that the rewards paid to those who lend the exchange their USDC aren’t rewards at all. Instead, it’s a ‘marketing expense’ that comes from Coinbase’s own funds.
Verbal gymnastics of this sort might play well within the ideological silo that is Coinbase’s C-suite, but it’s prompted derision out here in the real world. As Georgia State University assistant professor Todd Phillips recently told Fortune, “Coinbase is playing a dangerous game. I do not know how they can justify that as not being an investment contract.” Phillips said he found it hard to think a “rational court” would agree with Coinbase’s view.
Rational or not, the court handling Coinbase’s suit will convene on January 17 to hear oral arguments on the exchange’s motion for judgment on the pleadings. Among other legal Hail Marys, the motion argues that the SEC has no authority to act against Coinbase because the digital asset products and services aren’t investment contracts. We’ll see.
Selling the sizzle
It’s worth noting that Coinbase’s share price rose nearly sixfold in 2023, buoyed by the recovery of prominent tokens (and the even sketchier ones Coinbase Ventures invests in) from the long ‘crypto winter’ that began in the spring of 2022.
Coinbase’s share price peaked at just over $186—still only around half of its 2021 all-time high—on December 28, the day of Judge Rakoff’s summary judgment against Terraform Labs. By January 3, Coinbase shares had shed roughly one-fifth of their value.
Before this latest retreat, Bloomberg’s annual Billionaires Index estimated Coinbase co-founder/CEO Brian Armstrong’s wealth at $7.2 billion, a whopping $5.8 billion increase from the end of 2022. That’s a pale shadow of the $37 billion allegedly held by Binance founder Changpeng ‘CZ’ Zhao, but CZ’s going to jail this year, while Brian isn’t facing any criminal charges. (At least, not yet.)
Armstrong’s net worth is largely based on his holding a metric crapload of Coinbase shares, although that load has been getting smaller of late. From mid-November through the end of December, Armstrong sold $31.5 million worth of his shares. On January 2, he sold another $3.8 million. Over the past two years, Armstrong has made 194 individual sales totaling $88 million without a single share purchase.
Coinbase’s chief legal officer Paul Grewal has also been furiously smashing the ‘sell’ button, unloading around $13 million since mid-November. Not to be outdone, chief people officer Lawrence Brock dumped nearly $18.4 million in a single sale on December 22, while co-founder Fred Ehrsam III has sold a whopping $76 million just since November 29. Even Coinbase director Marc Andreessen (of a16z ‘crypto’ hedge fund infamy) got into the spirit, selling $5.6 million worth on January 2.
It’s not just Coinbase insiders dumping their shares. Cathie Wood’s various ARK Invest funds sold over $210 million worth of their Coinbase stock in December and dumped another $25.3 million on January 3. Wood’s sell-offs could be rationalized as an investor taking a little profit off the table while the profit—or a slightly smaller loss—is still there. The company insiders got their shares for free, so it’s all gravy.
But with the SEC allegedly poised to approve BTC spot-based exchange-traded funds (ETF) any minute now, and with Coinbase designated as the BTC custodian for three-quarters of the ETF applicants—including heavyweights Blackrock, Valkyrie, VanEck, and Wood’s ARK—the prevailing mantra is that Coinbase’s future is brighter than the shine coming off Armstrong’s bald head. That is, unless these insiders know something we don’t.
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