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The SEC Sues Kik Over What It Claims Is an Illegal Security Token: What This Means for the Future of Crypto

It is no secret that the cryptocurrency world faces a great deal of controversy and Kik is the latest company to face additional scrutiny. The SEC (United States Securities and Exchange Commission) is in the process of suing Kik for its ICO sale in 2017 that involved the sale of the kin token. According to the SEC, this was an unregistered securities sale, a claim which forms the basis of the lawsuit.

On June 4th, the SEC issued a press release announcing the charges against Kik as well as the reasons for those charges. According to this release, the Securities and Exchange Commission chose to sue Kik Interactive Inc. for what it refers to as an illegal security offering for digital tokens amounting to $100 million. Based on SEC charges, Kik sold these tokens to investors in the United States without following requirements for registering offers and sales.

The complaint that SEC filed alleges that Kik had relied solely on its online message application for years and lost money on this project. The internal management allegedly predicted the company would run out of funds in 2017. As such, early on in 2017, Kik tried to expand its business, with the goal of getting financing via the sale of a trillion digital tokens.

Those tokens, called Kin, raised over $55 million just from U.S. investors. They were available to the public as well as wealthy purchasers, the latter of which received hefty discounts. According to the complaint, the Kin tokens’ trading value was recently around half of that which investors initially paid in the offering. A change of the value of the token is not the main concern of the SEC, however. Instead, their concerns relate to misleading investors and a lack of compliance. The token’s value change is simply evidence of those other issues.

In terms of misleading investors, the SEC alleges that Kik’s marketing for Kin indicated the tokens were an opportunity for investment. The company further misled investors by allegedly telling them that there would be a rising demand, which would increase the price of Kin. Additionally, Kik indicated it would take steps to increase the demand, with one of those steps being incorporating Kin into the Kik platform. Other actions the company claimed it would take include building a reward system for companies adopting Kin and creating a transaction service that utilizes Kin. The SEC allegations claim that when the Kin tokens were sold, Kik did not have these services or systems in place and there was no real use for Kin at the time.

Additional claims by Kik that the SEC sees as problems include that Kik would retain three trillion Kin tokens, Kik, as well as investors, would profit from a growth in demand, and the tokens would immediately become available for trade on other markets.

One of the most serious allegations outlined in the SEC press release and lawsuit is that Kik’s Kin offering used securities transactions. As such, the company needed to comply with U.S. securities laws and their requirements.

The biggest claim from the SEC Division of Enforcement co-director, Steven Peikin, is that Kik did not provide investors with the information that those investors had legal entitlement to since the securities (the Kin tokens) were offered without registration. This lack of information made it impossible for investors to make an informed decision.

Additionally, the Chief of the Cyber Unit for the Enforcement Division, Robert A. Cohen, pointed out that Kik indicated to investors that profits would result from the company’s efforts at creating its digital ecosystem. Anytime a company offers future profits that depend on the efforts of another group or company, this indicates a security offering that requires federal securities law compliance.

In the same press release, the SEC explained that its complaint charges Kik with violations of registration requirements for the Securities Act of 1933, specifically Section 5. The SEC wants Kik to face a penalty, a permanent injunction, and disgorgement with interest. This is not the first time that the Securities and Exchange Commission charged issuers of securities that failed to comply with the requirements. Cases with numerous other companies have already been settled, including Munchee Inc. and Paragon Coin Inc.

The suit from the SEC should come as no surprise for Kik. The Ontario Securities Commission had already told Kik, which is based in Waterloo, Canada, that Kin appeared and functioned like a security token.

In fact, the SEC began inquiries into Kik just three days after the Kin Token Sale, which was on Sept. 12, 2017. At this point in time, more than 2,500 people were using Kin within Kik. The SEC’s first inquiry was sent on Sept. 15. By December 2017, more than 5,000 people already used Kin in Kik, showing its value. Despite this, the SEC issued a first subpoena on Jan. 18, 2018. Kik responded by giving the SEC a presentation in February. The SEC still followed this with eight more subpoenas between March and July.

By July 2018, Kik had more than 10,000 active monthly spenders and the SEC asked for the first testimony. By October 2018, 30 apps were live with the Kin crypto. The SEC asked for nine additional testimonies between August and November that year. Nov. 16 saw the SEC issue a Wells Notice, which Kin responded to via a Wells Submission on Dec. 10. Dec. 21 included a discussion between the two regarding the submission.

Seeing that everything was not going smoothly, Kin published the response as well as the Wells Notice in January. This is also the same month that the SEC attempted to discuss settlements with Kin. By February 2019, Kin already had 40 live apps and more than 100,000 monthly active spenders, but the SEC requested more documents. Kin gave another presentation in March but with no result. The SEC issued the Digital Assets Framework in April and got an extension on the Wells process in May. By June 2019, the 400,000 monthly active spenders of Kin show its legitimacy, but the SEC still issued the formal complaint.

Despite the allegations from the SEC, Kik has already successfully implemented Kin adoption into multiple applications. In fact, by November 2018, the applications that use Kin began appearing on both Google Play and the Apple store. By that time, there were already 10 apps with over 30 more coming in the weeks right after.

Additionally, Kik has used the funds from the ICO to help the development of marketplaces that let people spend as well as earn the Kin crypto, which has its own blockchain. A Kin Ecosystem product manager, Ayelet Laub, told CoinDesk back in November 2018 that the company is working to develop an ecosystem that lets people earn Kin in one app, then spent it somewhere else.

Earlier in the year when the possibility of a suit against Kik from the SEC arose, the company indicated it would bring the matter to court. As such, experts predict that Kik will fight the allegations and suit. The CEO and founder of Kik, Ted Livingston talked to the Wall Street Journal in January of this year. In his conversation, he indicated that Kin functions like a currency and as such, it is not a security and certainly not an unregistered security.

Around a month ago, Ted Livingston, the Kik CEO indicated that Kik already lost $5 billion in costs associated with engaging with the Securities and Exchanges Commission. Kik also committed an additional $5 billion. This led to a crowdfunding effort on the part of Kik to recoup those costs, known as Defend Crypto. As of the time of writing, $4.579 million has already been contributed.

Kik indicates that contributions made via Defend Crypto will stay in the Kik Coinbase account. The company will only use those funds to fight the SEC if its own $5 billion is not sufficient. If it does use the funds, transparency will be a priority, including disclosure of the expenses. After the court decision, any remaining funds will be reallocated to other initiatives.

The most obvious and immediate result of the suit against Kik is a drop in the price of Kin. The price dropped more than 25 percent within just two hours after the lawsuit’s announcement. On June 4th, the day of the lawsuit’s announcement, Kin began its pricing at 0.000036 USD at 11:59:02 (UTC-05:00), then hit a low of 0.000021 in under two hours, at 12:44:05. It did rebound somewhat, with multiple peaks and valleys that day and in the following days.

Those in the cryptocurrency space see the SEC suit against Kik as much more than a one-time interaction. Jay Clayton, the SEC chairman previously said that all ICOs are securities. At the time, he indicated a desire to separate cryptocurrencies and ICOs and to regulate ICOs that function as security offerings just like other security offerings.

In June 2018, Clayton confirmed once again that the SEC has no plans to update rules regarding definitions of crypto as a new class of digital assets. Based on this and previous explicit statements from the SEC, the regulatory body views Ether and Bitcoin as the only cryptocurrencies that do not count as securities. The SEC considers all other ICOs securities.

Kik’s Livingston explained his views on the subject in more detail in a Medium post. Like others in the crypto world do not feel that ICOs are security offerings. Instead, they are offerings of a new currency. Since the Securities Exchange Act of 1934 excludes currencies from the definition of security offerings, the Kin ICO should be exempt and is not a security. Additionally, Livingston pointed out that the U.S. standard to check if something counts as a security is the Howey Test, which Kin does not satisfy.

For those who need a refresher, the Howey Test relies on whether the value of a token depends solely on a single company’s prospects. Tokens with enough decentralization do not meet the Howey Test requirements, meaning they are not securities. The SEC previously used this test to determine that the DAO’s ICO was indeed a security, but Ethereum tokens are not.

In that same Medium post, he also indicated that Kin and Kik are far from the only projects at this stage. According to Livingston, Kik agrees that regulation is necessary for the crypto industry, but the company does not feel that the SEC’s current efforts are the ideal method of implementing that regulation.

Kik outlines their arguments against the SEC and how this decision can impact the future of cryptocurrency in more detail on its Defend Crypto page. In the description of the efforts, the company indicates that the case will likely set a precedent for the way in which the United States regulates cryptocurrency in the future, becoming the new Howey Test.

In 2017, the messaging application Kik launched its own token, Kin, raising millions in the process. Kin is already found on more than 40 applications and has more than 400,000 monthly active spenders. The Securities and Exchange Commission, however, feels that Kin qualifies as a security and therefore Kik should have registered the ICO as a security offering. By failing to register, the SEC argues that Kik was non-compliant. Following months of back and forth, the SEC is suing Kik.

Kik is fighting back and encouraging others to contribute to its efforts. According to Kik and others in the crypto industry, currencies like Kin are very different from securities and therefore not subject to the same requirements. The results of this suit will likely impact how future cryptocurrency offerings are classified, having a strong influence on the future of cryptocurrency regulation in the United States.

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