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Measuring the Impact of the SEC’s Enforcement Program Related ICO
ICOs and Digital Assets

Let me start with our approach to addressing misconduct in the ICO and digital asset space.  As many of you know, in just a few years, cryptocurrency and ICO markets have grown into a phenomenon.  As of the second quarter of 2018, ICOs have reportedly raised over $16.7 billion, which compares to roughly $4 billion raised by ICOs in all of 2017, and less than $100 million in 2016.[13]  The novelty of ICOs, coupled with excitement about the potential utility of the underlying blockchain, or distributed ledger, technology, makes these offerings particularly enticing for some investors.  But the exuberance around the ICO market can obscure the fact that these offerings are often high-risk investments.  For instance:

- The issuers may lack established track records.
- They may not have viable products, business models, or the capacity for safeguarding digital assets from theft by hackers.
- And some of the offerings are simply outright frauds

We in the Enforcement Division recognize the need to protect investors from these risks while balancing the potential this technology could have for capital formation.  We do not want to stifle the legitimate use of technology and innovation to facilitate capital formation, but anyone who seeks to do so must do it in compliance with the federal securities laws.

The Enforcement Division’s work in this area reflects a balancing of these interests.  And, it is reflective of several of the principles Steve and I articulated in the annual report – the focus on Main Street investors, keeping pace with technological change, and assessing our resource allocation.  We have tried to strike the balance by being proactive and working collaboratively with experts both within the agency and outside of it.  Here is how we have accomplished this.

Last fiscal year, the SEC issued a Report of Investigation addressing the application of the federal securities laws to the offer and sale of virtual tokens created and distributed on a blockchain by an entity called “The DAO” (the “DAO Report”).[14]  In the DAO Report, the SEC applied longstanding securities law principles to conclude that this virtual token constituted an investment contract and therefore was a security, and to reiterate the fundamental principle that the federal securities laws apply – including those relating to offers, sales, and trading – regardless of whether the security is certificated or issued on a blockchain.[15]
Then, at the close of last fiscal year, the Commission announced the formation of the Cyber Unit and folded the Enforcement Division’s already-existing digital asset expertise into the Unit.[16]  The Commission did this because the emerging issues presented in this area warranted a consistent, thoughtful approach.

Following creation of the Cyber Unit and issuance of the DAO Report, the Commission has taken several important actions.

- Where the technology is merely a veneer for an alleged fraud, the Commission has taken enforcement action.[17]  For example, the Commission charged the three co-founders of Centra Tech, a purported financial services start-up, with orchestrating a fraudulent ICO that raised more than $32 million from thousands of investors.[18]  The Commission also obtained court orders freezing the assets of Titanium Blockchain Infrastructure Services Inc. and AriseBank and, importantly, orders appointing receivers to identify and take control over the defendants’ digital assets.[19]  These efforts are great examples of our work to preserve assets and protect investors.

- Another tool we have used frequently is a Commission order to suspend trading when there is a question about the information available to investors about a security.  This has been particularly important when companies with publicly traded securities have suddenly claimed to shift to blockchain-related businesses or when there is confusion about products that are being quoted.  This fiscal year, we suspended trading in the stock of nine different issuers because of these questions.[20]
- The Enforcement Division has also used other methods to provide information to investors, including by making public statements.  We have issued, together with other Divisions, three public statements regarding conduct in the ICO space that concerned us.  For example, last November the Division, along with the SEC’s Office of Compliance Inspections and Examinations (“OCIE”), addressed the potentially unlawful promotion of ICOs by celebrities and others.[21]  Almost immediately afterward, the anecdotal evidence we saw suggested a dramatic decline in the number of celebrity endorsements of ICOs.

There are two other important points I want to convey.

- First, we have tried to be thoughtful about how to handle ICO registration cases that do not involve fraud.  We want to recognize legitimate efforts to use new methods to raise capital, but we also want to make sure investors receive the information, and protection, they are entitled to under our laws.  The Commission’s settled order against a business called Munchee was an important step.[22]  In that case, the Commission brought a non-fraud enforcement action against an issuer that, after the Commission’s DAO Report, conducted an unregistered securities offering through an ICO.  The Commission did not order Munchee to pay a penalty in that case because it cooperated quickly and refunded its proceeds back to investors.[23]  Aside from Munchee, the Commission has brought other non-fraud cases against individuals who have taken advantage of public interest in blockchain technology with illegal stock sales that violate Section 5.[24]  Section 5 cases stress the importance of full and fair disclosure to investors when securities are offered and sold to them.  And, to the extent that the Enforcement Division has other pending investigations in this area, we will likely recommend more substantial remedies against issuers that fail to comply with the registration requirements.
- Second, we are also looking beyond the issuers of ICOs.  Very recently, the Commission announced a settled order against two individuals who ran a self-described “ICO Superstore” that operated as an unregistered broker-dealer and participated in unregistered offerings.[25]  On the same day, the Commission filed a settled action against a hedge fund manager that violated an investment company registration provision based on its investments in digital assets.[26]

That is a broad outline of how the Enforcement Division has approached ICO and digital asset matters – with a focus on bringing cases that deliver broad messages and have an impact beyond the individual cases.  These considerations are not limited to determining which cases to ultimately bring, but also play a role in determining which matters to open and investigate.  We are very focused on considering – at the outset – whether and why pursuing a particular matter is a good use of our resources. 

Given the potential of ICOs to fundamentally alter the process by which issuers raise money, they have a significance to our markets that far outweighs strict notional dollar amounts.  So, matters related to ICOs and crypto-assets must be a focus for the Division of Enforcement.  And so far, our focus and work is paying dividends.  Our commitment to meeting these emerging cyber-related issues head on stands to greatly benefit investors both today and in the future.  Through our ongoing efforts, I am confident that the Commission will continue to play a leading role in bringing this new and emerging market within the umbrella of investor protection that the federal securities laws require.

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