Securities and Exchange Commission v. Payward, Inc.

Background

The Securities and Exchange Commission brought an enforcement action under Section 21(d) of the Securities Exchange Act of 1934. The SEC alleges that the defendants, collectively referred to in the order as “Kraken,” operated an online trading platform and acted as an unregistered broker, dealer, and exchange by facilitating transactions involving 11 digital assets that the SEC says were offered or sold as investment contracts.

The discovery dispute concerned whether Kraken could obtain three categories of information from the SEC:

Legal standards

The court explained that discovery must be relevant to a party’s claim or defense under Federal Rule of Civil Procedure 26(b)(1). The party seeking to compel discovery bears the burden of showing that the opposing party’s responses or objections are inadequate or unjustified. The requesting party must also satisfy proportionality requirements, meaning that the likely benefit of the discovery must justify its burden and expense.

The court discussed the three-part test from SEC v. W.J. Howey Co. for determining whether a transaction is an investment contract: an investment of money in a common enterprise with an expectation of profits produced by the efforts of others. The court emphasized that the SEC’s case concerns the circumstances surrounding the offers or sales of the 11 assets at issue, rather than claiming that the digital tokens themselves are necessarily securities.

Rulings on the discovery requests

Bitcoin and Ether. The court denied Kraken’s request for documents about Bitcoin and Ether. Kraken argued that those assets traded on its platform and shared characteristics with the 11 assets involved in the case. The court found that Kraken had not shown how information about Bitcoin and Ether would logically advance a material part of its case. It also found that Kraken had not shown that the proportionality balance favored production because any benefit would be grossly outweighed by the SEC’s burden.

Kraken also argued that communications about Bitcoin and Ether could support its fair-notice defense. The court stated that it was not holding that such discovery could never be relevant to that defense. It held only that Kraken had not explained with sufficient specificity in the letter brief how the requested discovery would advance the defense in this case.

SEC employee trading policies. The court denied the requests in RFPs 49 and 51. Kraken argued that SEC employee trading policies could bear on whether it was reasonable for purchasers to believe they were entering into investment contracts. The court assumed, for purposes of analysis, that this argument could establish relevance, but found that the requests were not limited to the 11 digital assets involved in the case. It also found RFP 51 impermissibly broad because it used the phrase “including, but not limited to.” The court concluded that the requests were irrelevant, overbroad, and not proportional to the needs of the case.

SEC public statements and testimony. The court denied the request in RFP 15 for documents concerning a June 14, 2018 statement by a former SEC division director about Bitcoin and Ether. The court found that Kraken had not independently justified that request beyond its general arguments about discovery concerning Bitcoin and Ether.

The court also denied the requests in RFPs 77–84. It found those requests too broadly worded and not logically limited to the claims and defenses in the case. The court concluded that Kraken’s explanations of relevance were vague and conclusory and that the requested information could include large amounts of irrelevant information about assets, transactions, and platforms not at issue in the case.

Disposition

The court denied Kraken’s request to compel the SEC to produce the requested documents and information in all three categories. This order resolved the discovery dispute and did not decide the merits of the SEC’s enforcement claims or Kraken’s defenses.