U.S. Securities and Exchange Commission v. Kik Interactive Inc.

Background

The SEC sued Kik Interactive Inc. under Section 5 of the Securities Act, alleging that Kik offered and sold securities without an effective registration statement or an applicable exemption. The parties filed cross-motions for summary judgment, asking the court to decide the claims without a trial.

Kik created Kin, a digital token intended for use across a planned ecosystem of digital products and services. Kik conducted a private sale from June through September 11, 2017, using agreements called Simple Agreements for Future Tokens. Fifty participants paid about $50 million for the right to receive Kin at a discount. Kik then began a public sale on September 12, 2017. About 10,000 purchasers exchanged Ether for approximately $49.2 million worth of Kin.

Kik used the sale proceeds for its business operations and for developing the Kin ecosystem. At the time Kin was distributed, no goods or services were available for purchase with Kin beyond the described minimum product, including a digital wallet and digital stickers. Kik retained 30% of the issued tokens, while the Kin Foundation received additional tokens.

Public Sale and the Definition of a Security

The court held that the public sale, called the Token Distribution Event, involved the sale of securities. Under the Securities Act, a security includes an “investment contract.” Applying the test from SEC v. W.J. Howey Co., the court examined whether purchasers invested money in a common enterprise with a reasonable expectation of profits based primarily on the efforts of others.

Kik conceded that the public purchasers invested money. The court found the remaining elements satisfied for two main reasons:

- Common enterprise: Kik pooled the sale proceeds and used them to develop the Kin ecosystem. The court concluded that the success of that ecosystem would affect demand for Kin and therefore the value of each purchaser’s holdings. The court held that the purchasers’ ability to sell Kin and Kik’s contractual disclaimer of continuing obligations did not defeat this conclusion. - Expectation of profits from Kik’s efforts: Kik promoted Kin’s potential to increase in value as demand grew and supply remained limited. The court found that the planned ecosystem, including Kik’s efforts to integrate Kin into its messaging application and attract developers and users, was essential to creating demand. The court rejected Kik’s argument that Kin’s planned use as a digital currency prevented it from being an investment contract because those uses were not available when the tokens were distributed and depended on Kik’s efforts.

The court therefore held that the public sale was an unregistered offering of securities. The parties agreed that the other elements of a Section 5 violation—lack of a registration statement and use of interstate means—were satisfied for the public sale.

Private Sale and Claimed Exemption

Kik conceded that the private sale involved securities but argued that the sale was exempt from registration under Rule 506(c) of Regulation D. The court considered whether the private sale and public sale were part of one integrated offering. The relevant factors included whether the sales involved one financing plan, the same class of securities, similar timing, the same type of consideration, and the same general purpose.

The court found that four of the five factors favored integration. The two sales were part of Kik’s plan to raise about $100 million, their proceeds supported the same Kin ecosystem, purchasers received the same Kin tokens, and the sales occurred one day apart. The private-sale agreements also made delivery of Kin dependent on a successful public launch. The court found that only the form of payment differed: purchasers paid dollars in the private sale and Ether in the public sale.

Because the sales were integrated, the public sale’s failure to comply with Regulation D meant that the private sale also did not qualify for the claimed exemption. The court held that the private and public sales together constituted an unregistered offering of securities.

Vagueness Defense

Kik also argued that applying the term “investment contract” to its Kin offering was unconstitutionally vague. The court rejected that defense. It held that the Howey test and the body of judicial decisions applying it gave people reasonable notice of the conduct covered by the law and provided sufficiently clear standards to reduce the risk of arbitrary enforcement. The court stated that the absence of cryptocurrency-specific SEC rules did not make the law unconstitutionally vague.

Disposition

The court granted the SEC’s motion for summary judgment and denied Kik’s motion for summary judgment. The court directed the parties to submit a proposed judgment concerning injunctive and monetary relief. The opinion did not itself state a final monetary amount.