Sunny Hwang

Managing Associate

Los Angeles


Read full biography at www.orrick.com
Sunny practices in Orrick's White Collar, Investigations, Securities Litigation & Compliance group.

Sunny's varied experience includes securing dismissal with prejudice of securities fraud claims against a Chinese company incorporated in the Cayman Islands, litigating on behalf of the plaintiff in a civil RICO action, and obtaining a favorable settlement for a corporation in a dispute with its former chairman and controlling shareholder.  He began his legal career by honing his research and writing skills as a law clerk to the Honorable Kimberly J. Mueller and judicial extern to the Honorable Harry Pregerson. 

Before law school, Sunny served for several years as a trade attache for the French government.

Posts by: Sunny Hwang

The SEC Can’t Keep Kik-ing the Crypto Can

The SEC’s Action

On June 4, 2019, the SEC sued Kik Interactive Inc. (“Kik”), a privately held Canadian company, in the Southern District of New York, alleging that Kik’s offer and sale of $100 million worth of Kin tokens in 2017 constituted the unregistered sale of securities in violation of section 5 of the Securities Act. In a nutshell, the SEC asserts that, although Kik filed a Form D exemption from registration for the offering, the Kin sale did not qualify for the exemption because the tokens were offered and sold to the general public, not exclusively to accredited investors.

Importance

This case could yield guidance from a court on whether and when tokens constitute securities, to substitute precedential law for the SEC’s pronouncements in settled enforcement actions and guidance issued by its Divisions. The SEC charges that Kin tokens are securities under the Howey test. As a result of Kik’s failure to register the tokens, the SEC alleges, investors did not receive the information from the company relevant for evaluating Kik’s claims about the potential of the investment, including current financial information, proposed use of investor proceeds, and the company’s budget. The Complaint emphasizes the reasonable expectations of “investors” in Kin that the value of their tokens would increase based upon Kik’s efforts, in terms that suggest that Kik’s statements about its projects lacked support and might even have been misleading. And although scienter is not a component of Section 5 charges, and the SEC did not charge fraud, the Complaint alleges that Kik knew or should have known that it was offering securities because, among other things: (1) the SEC had issued the DAO report that applies the Howey test before Kik began offering and selling the tokens; (2) a consultant warned Kik that Kin could be considered a security; and (3) the Ontario Securities Commission told the company that a sale to the public of Kin would constitute a securities offering. Kik’s primary defense is that Kin is not a security but a transaction currency or utility token akin to Bitcoin or Ether, which are not regulated as securities.

This appears to be the SEC’s first litigated federal action against an issuer solely for failure to register. Most registration cases have settled, and the ones that proceeded to litigation involved fraud claims in addition to failure to register. Since 2017 there have been over 300 ICO-related Form D offerings, so many companies may be directly impacted by the outcome of this case. Kik has stated that it intends to litigate through trial, and Kik and the Kin Foundation reportedly have raised a war chest of nearly $10 million (and are still seeking contributions to its defense fund).

Defenses

Although Kik has not yet answered the complaint or moved for its dismissal, the company’s position is well laid out in both a public statement from its General Counsel reacting to the filing, and an extensive Wells submission that Kik took the highly unusual step of making public. The General Counsel commented that the SEC’s complaint stretches the Howey test beyond its definition by, among other things, incorrectly assuming that any discussion of a potential increase in the value of an asset is the same as promising profits solely from the efforts of others. The Wells submission states that Kin was designed, marketed and offered as a currency to be used as a medium of exchange, taking it outside the definition of security, and that it was not offered or promoted as a passive investment opportunity. Besides extensively elaborating on its view that the Howey test is not met, Kik takes issue with “regulation by enforcement,” given the industry’s “desperate” need for guidance regarding the applicability of the federal securities laws.

Conclusion

SEC Chairman Jay Clayton stated last year that all ICOs he has seen are securities. And yet the SEC has pursued enforcement actions against only a small portion of ICOs – less than ten percent – most of which involved fraud or other intentional misconduct. It’s too soon to tell for sure, but this action might suggest that the SEC is now entering a new phase in its enforcement approach to ICOs.

EtherDelta Founder’s Settlement with the SEC Has Grim Implications for Smart Contract Developers

The SEC recently brought its first enforcement action against the creator of a “decentralized” digital token trading platform for operating as an unregistered national securities exchange, and in doing so joined the CFTC in putting a scare into smart contract developers.

On November 8, 2018, the SEC issued a cease-and-desist order settling charges against Zachary Coburn, the creator of EtherDelta, an online “decentralized” digital token trading platform running on the Ethereum blockchain. The SEC charged only Coburn, the individual who founded EtherDelta, but no longer owns or operates it. Note that the SEC press release states that the investigation is continuing.

The SEC announced its action against Coburn a month after a CFTC Commissioner stated in a speech that smart contract developers could be found liable for aiding and abetting violations of commodity futures laws. Both agencies appear to be putting smart contract developers on notice that by releasing code into the ether, they are inviting potential liability for any rule violations, even if they sever their connections with the code.

The SEC found that EtherDelta provides a marketplace to bring together buyers and sellers of digital tokens. The platform facilitates these transactions through the use of a smart contract, which carries out the responsibilities generally assumed by an intermediary: the smart contract validates the order messages, confirms the terms and conditions of orders, executes paired orders, and directs the distributed ledger to be updated to reflect a trade. The SEC employed a “functional test” to determine whether EtherDelta constitutes an exchange and to hold Coburn, who “wrote and deployed the EtherDelta smart contract . . . and exercised complete and sole control over EtherDelta’s operations,” responsible. As the Chief of the SEC’s cyber unit stated in the press release, “[w]hether it’s decentralized or not, whether it’s on smart contract or not, what matters is it’s an exchange.”

EtherDelta is one example of the innovation that smart contracts can facilitate. Innovation, however, is not a substitute for compliance. Indeed, in the SEC’s press release announcing the settlement, Co-Director of Enforcement Steven Peiken acknowledged that blockchain technology is ushering in significant innovation to the securities markets, but cautioned that “to protect investors, this innovation necessitates the SEC’s thoughtful oversight of digital markets and enforcement of existing laws.”

Significantly, the SEC found that certain transactions on the platform involved digital tokens that constitute securities, but declined to identify those tokens. Senior SEC officials have previously stated that ether is not a security, but this case shows that the SEC has not reached the same determination for all tokens issued on the Ethereum blockchain.

Just Another Week on the Blockchain: September 10-16, 2018

The week of September 10th was particularly eventful and saw a rather large number of recent enforcement and regulatory developments, even by blockchain industry standards. Notable actions seen during the week included the first time the SEC has issued an order against a cryptocurrency company for operating an unregistered broker-dealer; the first time the SEC has brought and settled charges against a hedge fund manager that invested in cryptocurrencies while operating as an unregistered investment company; the first FINRA disciplinary action involving cryptocurrencies; a decision by EDNY Judge Raymond Dearie in U.S. v. Zaslavskiy; the authorization of two stablecoin cryptocurrencies pegged to the U.S. dollar by the New York Department of Financial Services; and the release of Chairman Clayton’s “Statement Regarding SEC Staff Views.”

For summaries of these developments, read our recent Blockchain and Cryptocurrency Alert.