Addressing the legitimacy of collapsing the sale of contractual rights with the eventual release of crypto assets.
As discussed in the previous article,
Telegram is a popular global instant messaging company. In 2018, it
sold contractual rights to acquire a new crypto asset that it was
developing (to be called Grams) to a group of accredited (and wealthy)
investors around the world. Telegram raised about $1.7 billion from 171
investors, including 39 U.S. purchasers. This was a prelude to the
planned launch of Grams, which was to occur about a year and a half
later in October 2019.
This two-step process — where a crypto
entrepreneur sells contractual rights to acquire a crypto asset upon
launch in order to fund the development of the asset and its network —
has come to be known as the Simple Agreement for Future Tokens, or SAFT, process.
SAFT
uses a two-stage offering process similar to that employed by
conventional businesses that sell Simple Agreements for Future Equities,
or SAFEs. The sale of the contractual rights is acknowledged to involve
a security and is, therefore, structured to comply with one of the
available exemptions from registration contained in U.S. law. In
Telegram’s case, as is typical, the claimed exemption was Regulation D, Rule 506(c). For this exemption, all purchasers are required to be accredited investors, verified by or on behalf of the issuer.
Although
the SAFE process is widely accepted, the U.S. Securities and Exchange
Commission objected to Telegram’s sale of contractual rights, filing
to enjoin the issuance of Grams in October of 2019. On March 24, 2020,
in a widely reported and closely followed decision, Judge Peter Castel imposed a sweeping preliminary injunction preventing Telegram from issuing its planned crypto asset, Grams.
The
rationale of the court was that the entire process, from start to
finish, was part of a single scheme, and the original purchasers of the
SAFT were not buying for their own personal use but in order to
facilitate the wider distribution of the asset. This, in the opinion of
both the SEC and the court, meant that the SAFT purchasers were
underwriters. Because they would resell most of the Grams as soon as
they could to purchasers who were not all accredited, the entire
offering violated U.S. securities laws.
This is a complicated and
confusing legal argument, turning on some of the most intricate
definitions in the securities law. In a serious oversimplification that
will probably have securities lawyers cringing, all sales that are part
of a single offering have to comply with the requirements of that
offering.
In other words, if the exemption that the offering is
relying upon requires all purchasers to be verified accredited
investors, no sales that are part of that offering can be made to anyone
who does not qualify. And, in order to make sure that the issuer of the
securities is not sneakily evading the exemption’s requirements, the
issuer cannot sell to an accredited investor only to have that person
turn around and resell to someone else who does not qualify. A purchaser
who does that is acting as an underwriter.
The hardest part is
how to tell if a resale is really part of the original offering. That is
where yet another confusing legal concept comes into play. If there are
enough differences between the two sales, they are not supposed to be
integrated or treated as part of the same offering. Instead, the
securities will be deemed to have come to rest in the hands of the
initial purchasers, and subsequent resales will not destroy the original
exemption.
The so-called integration doctrine is supposed to turn on five factors:
- Are the sales part of the same plan of financing?
- Do they involve issuance of the same class of securities?
- Are they made at or about the same time?
- Do they involve the same kind of consideration?
- Are they made for the same general purpose?
You
can go back through the Telegram opinion and not find any discussion of
these factors, which the court evades by talking about the entire plan
as a single scheme to sell not the contractual rights but the Grams.
In
fact, if those factors were considered, it does not appear that
Telegram’s sale of contractual rights should have been integrated with
the sale of the Grams. Telegram raised the funds it needed to develop
the Grams and work on the Telegram Open Network with the original sale
of contractual rights.
Any future plans to issue or sell Grams
were not finalized and would not fund the same activities. Contractual
rights are clearly distinguishable from crypto assets. The sale of
contractual rights took place more than a year before the crypto assets
were to be available, and more than two years before the court issued
its preliminary injunction.
This is critical because Rule 502 of Regulation D says
that sales made more than six months before or more than six months
after completion of a Regulation D offering are not to be integrated if
there are no intervening sales.
While all sales are likely to
involve payment of assets convertible into fiat currency, any earnings
from the resale of Grams would benefit the original purchasers, not
Telegram, and thus would not be for the same general purpose.
Many
commentators over the years have objected to the integration doctrine
as being unduly burdensome on fledgling businesses, as well as being
cumbersome and difficult to apply consistently. In fact, in March 2020,
the SEC proposed
rules that would make it substantially less likely for integration to
occur, including a safe harbor if sales occur more than 30 days before
or 30 days after an offering.
Judge Castel’s approach in SEC v.
Telegram appears to ignore all of this and, instead, treats sales of a
different kind of interest occurring more than a year apart, for
different purposes, as part of a single scheme because the resales are
“foreseeable.” That is a ruling that, if followed and applied elsewhere,
will only increase the burdens on innovative, startup businesses; push
more companies overseas to avoid our overly restrictive and
unpredictable requirements; limit U.S.’ investors’ ability to
participate in new business; and further muddle an already confusing
area of the law.
This is part two of a three-part series on
the legal case between the U.S. SEC and Telegram’s claims to be
securities — read part one on introduction to the context here, and part three on the decision to apply U.S. requirements extraterritorially here.
source link : https://cointelegraph.com/news/sec-v-telegram-part-2-the-case-against-integrating-the-two-prongs-of-a-saft
