On June 4, 2019, the Securities and Exchange Commission (“SEC”) filed a complaint against Kik Interactive, Inc. (“Kik”), which owns and operates a mobile messaging application called Kik Messenger, in connection with its 2017 initial coin offering (“ICO”) that raised over $100 million; more than $55 million of which came from U.S. investors. The SEC alleges the tokens issued in the offering, called “Kin”, are securities (or at least were securities at the time of the offering) and the sale of such tokens should have been registered with the SEC. This is the first time the SEC has brought an enforcement action in the digital asset context for violating the registration requirements of the securities law where there were no separate allegations of fraud.
The SEC’s lengthy complaint goes through the history of Kik, from its online messaging app business model to its “pivot” to digital tokens. The SEC alleges Kik marketed the tokens as an investment opportunity, including that investors could expect profits from Kik’s efforts to raise demand for the tokens while creating a decentralized digital ecosystem. The SEC’s complaint uses examples ranging from speeches made by Kik senior executives at various conferences to email exchanges between company employees to Kik’s tweets. While Kik has stated Kin may soon be the most widely used cryptocurrency in the world, the SEC alleges at the time of the ICO and at the time the tokens were distributed, there was nothing that could be bought or exchanged for Kin.
Kik disputes the SEC’s complaint, however, stating the legal assumptions made by the SEC “stretch the Howey test well beyond its definition” and Kik “does not believe they will withstand judicial scrutiny.” After being informed by SEC staff that it had made a preliminary determination to recommend that the SEC file an enforcement action against Kik, Kik filed with the SEC staff a brief (called a “Wells Submission”) in December 2018 setting forth its arguments why the SEC should decline to bring an enforcement action. Kik posted this usually confidential brief on its website. Among other things, Kik argues Kin is a “currency” and therefore exempt from the definition of a “security” under the federal securities laws. Kik also argues the Howey test (which is used to determine whether something is a security for purposes of U.S. federal securities laws) fails here because (i) there is no common enterprise between Kik and the investors – the Kin ecosystem is sufficiently decentralized and (ii) purchasers of Kin were not led to expect profits from the efforts of others – purchasers bought tokens for a consumptive use, not profits.
Our previous posts on the Howey test and ICOs can be found here and here.