With the rapid rise of defi, decentralized trading platform (DEX) shows a strong growth trend. DEX can not only store user and personal data on the server, but also serve as an infrastructure to match other users who want to conduct digital currency transactions. As a decentralized exchange based on smart contract, uniswap has greatly improved capital efficiency by innovating automatic market maker (AMM).
However, uniswap allows users to freely put on the shelves and sell tokens, which may be accompanied by legal issues. Previously, the securities class action of uniswap, paradigm and a16z venture capital by American law firms also reflected from the side that replacing the traditional enterprise rights and interests recorded in the central ledger with the enterprise rights and interests recorded through the distributed bookkeeping blockchain may change the form of transaction, but will not change the essential attribute of its securities. Starting from the securities class action case, this paper will discuss the securities attributes of tokens and the corresponding regulatory issues in the securities law.
1、 Uniswap, paradigm and a16z were charged. What are the reasons for the lawsuit?
April 9, 2022, American law firm Kim & amp; Serritella and Barton announced the launch of a securities class action accusing uniswap, the largest decentralized exchange (DEX) in the market, and paradigm, a16z, two venture capitalists in the cryptocurrency field, of violating securities laws for the following reasons:
1. Alleged sale of unregistered securities
The law firm accused several defendants of issuing and selling unregistered securities in the form of digital tokens in uniswap trading, including their own token Uni. In addition, uniswap was also accused of failing to register uniswap as an exchange and / or broker dealer under the securities law and failing to provide investors with the registration statement of the securities they issued and sold, which is essential to inform investors of the risks and other important information related to their investment.
2. Accused uniswap of allowing illegal activities to flourish
The law firm accused the defendant of allowing illegal activities related to tokens sold on the uniswap exchange, such as "rug pumps" and "pump and dumps". Since uniswap collects fees for developers, it can be regarded as an encouragement to the above illegal activities.
According to the announcement, this class action represents those who purchased any of the following digital tokens on the uniswap exchange between April 5, 2021 and April 4, 2022: etherum max, bezoge, matrix samurai, alphawolfinance, rocket Bunny and boombaby io。 (the "token"). The Lawsuit Seeks revocation and damages and is currently awaiting the defendant's appearance in the district court for the Southern District of New York. （businesswire）
2、 What is the legal basis for bringing a securities class action against uniswap?
1. How to judge whether the token uni issued by uniswap belongs to securities
Uniswap, as the most popular decentralized exchange on the Ethereum blockchain, issues and sells its own governance token Uni. Users who hold the uni token will have the right to vote on governance decisions. US law firms accused uniswap of not being registered and issuing unregistered securities in the form of digital tokens. According to the requirements of the Securities Act of 1933, unless a corresponding exemption is obtained, the sale and offer for sale of securities must be registered.Then, to judge whether the ICO of uniswap exchange violates the provisions of the securities law of 1933, this problem is transformed into judging whether the uni token issued and sold by uniswap exchange belongs to the securities specified in the securities law.
According to the provisions of the Securities Act of 1933 and the Securities Exchange Act of 1934, the definition of securities is very broad, including securities used for investment in a general sense, such as stocks,It also includes other non-standard securities, such as "investment contract", "income certificate", etc.
In judicial practice, the U.S. courts' analysis of the definition of securities mostly adopts the judgment made in the case of Securities Regulatory Commission (SEC) v. howay company tried by the U.S. Supreme Court in 1946.According to the Supreme Court of the United States, "investment contract" is an investment in ordinary enterprises and expects to obtain reasonable profits from others' entrepreneurial or management efforts.Howell test shall be used to judge whether it constitutes non-standard securities such as "investment contract". Specifically, Howey test has the following four standards:(1) The investment of money; (2) Investment in common enterprise; (3) The investor has expectation of profit; (4) The benefits come from the efforts of the issuer or third parties. This landmark ruling of the Supreme Court also led to the "Howell test" which can be applied to any contract, plan or transaction, whether it has any characteristics of typical securities or not. This means that both the SEC and the court should pay attention to the essence of the transaction, not just the form of the transaction.
In the Dao report issued by the US Securities Regulatory Commission (SEC) in 2017, Howell's test standard is continued. The criteria that meet the criteria of token issuance is securities issuance can be summarized as follows:(1) Securities may include new digital products that can be transferred and sold; (2) Investment with money or value; (3) Reasonably expected profits; (4) Profit comes from the management efforts of others.
In 2019, the US Securities and Exchange Commission (SEC) further elaborated in the analysis framework of "investment contract" of digital assets,The Commission and the federal court often determine whether the digital asset belongs to the securities subject to the securities law by analyzing whether it constitutes the type of "investment contract" in the non-traditional securities listed in the securities law of 1933.
Combined with the above securities act of 1933 and the guidelines issued by the securities and Exchange Commission of the United States (SEC), the author will analyze the factors that the issuance and sales of tokens may be recognized as "investment contracts" in non-standard securities and need to meet the Howell test standard:
First, money investment.As the first branch, capital investment can often be satisfied in the issuance and sale of tokens, because token investment is actually purchased in legal tender, another digital asset or other types of equivalent assets.
Second, common cause.When there is an ordinary enterprise behind the investment contract, the court will usually recognize the existence of common cause. For example, the project party behind uni is uniswap company. The value of uni depends not only on the leading position of uniswap agreement itself, but also on how it integrates the value of the agreement with the value of uni.
Third, reasonable expectation of profits.Token buyers may expect to achieve returns by participating in distribution or other methods of asset appreciation, such as selling for profit in the secondary market. In the issuance and sale of tokens, the more the following characteristics, the higher the token buyer's reasonable expectation of profit: a) digital assets are widely available to any potential buyer, not just for the expected users. For example, stepn's GMT is not only for game users; b) There is no obvious correlation between the issuing / selling price of digital assets and the market price of goods or services that can be used to exchange digital assets; c) Issuers and sponsors emphasize the potential value of digital assets by means of marketing publicity, or promise to support digital asset market transactions.
Fourth, profit income depends on the efforts of others.When the issuer, sponsor or other third party is an active participant, it provides the basic management efforts that affect the success of the enterprise. For example, the more the following characteristics exist, the more powerful it can prove that it meets this standard: a) digital assets and exchanges are still under development, that is, buyers have reason to expect issuers and sponsors to further develop other functions, especially when such development may lead to the appreciation of digital assets of buyers; b) Issuers and sponsors control the creation and issuance of digital assets, or support the market price of digital assets in certain ways, such as incineration, repurchase and other ways to ensure scarcity; c) Determine who will acquire additional digital assets and under what conditions. For example, uniswap's automated market making model generates revenue based on providing liquidity.
So,If the court considers that after uniswap issues the uni governance token, the buyer invests money (including but not limited to legal currency, digital assets or other equivalent assets), and the money is invested in uniswap, and the buyer reasonably expects the uniswap team to make efforts to improve the value of its token and profit from it. Then, in this case, the uni token may be included in the definition of securities under the U.S. securities law because it meets the howay test criteria.
2. Uniswap argues that the token uni is not several possibilities for securities
Possibility 1: deny the existence of "common cause", and then deny the attribute of securities
Howell test standard 2 "joint undertaking", which aims to distinguish between non-standard securities "investment contracts" and one-to-one private contracts. When the U.S. Supreme Court finds that it meets this requirement, it needs to meet three conditions: "horizontal commonality" (capital collection and wealth binding among investors), "broad vertical commonality" (whether investors can obtain profits depends on the efforts of the project sponsor) and "narrow vertical commonality" (the income of investors, the efforts of others and final success need to be combined). However, uniswap team has established and gradually established a huge user network in 2018, and its Ethereum token automatic exchange protocol is distributed to users all over the world. The issuing time of the uni token is September 2020, and the token has only governance function at present. To a certain extent, the team does not use the token issuance to raise funds to create the network. On the contrary, after the network is created and operated, the team will distribute the uni token to all users of the uniswap protocol, that is, the distribution of the initial token is only completed among the protocol users, issuers, investors, teams, etc.
Possibility 2: deny "investors' reasonable expectation of profits", and then deny the attribute of securities
Howell test standard III requires investors to have reasonable expectations for profits, but in fact, when uniswap initially issued the token uni, the basic function is that the holder will have the right to vote on the proposal, which will affect the network development. In other words, the holder will enjoy the governance right to decentralize the network and realize decentralization. Then, the issue of uni token does not seem to be for investment income in essence. At least in the initial distribution stage, users do not become users of uniswap in order to obtain uni token.
Possibility 3: deny that "the interests come from the efforts of the issuer or a third party", and then deny the attribute of securities
Howell test standard 4 "benefits come from the efforts of the issuer or a third party". This identification standard can be well certified in most centralized enterprises. However, uniswap network is an open source code, and its governance rules are directly distributed to the holders through the issuance of uni tokens. The team avoids participating in governance opinions and does not reserve the right to vote on proposals. This decentralized mode enables the rights of the project party to be delegated to the community, It is hard to say that the promotion of uniswap value comes from the efforts of one party. This is also mentioned in the recent blog post of uniswap:We envision a world in which everyone has access to fair, open and transparent markets.The swap widget brings this vision closer to reality by allowing developers to easily embed uniswap switching capabilities. In addition, even if the token of the project party may be evaluated as securities at the time of initial issuance, it may still be re evaluated as non securities in subsequent offers and sales. For example, the Buyer no longer expects to rely on the continuous development work of the issuer to increase the value of the token, or the issuer has no right to access major insider information in future management work.
3、 What legal issues will uniswap face if uni tokens are attributed to securities?
1. Unless exempted, uniswap's token sales and promised sales need to be registered
According to an important goal stipulated in the U.S. Securities Act of 1933, investors are required to receive financial and other important information about the public sale of securities. In other words, the securities and Exchange Commission (SEC) requires companies to disclose important financial information and other information to investors through registration, which enables investors to make a wise judgment on whether to invest in a company's securities. In general, all securities issued in the United States must be registered with the securities and Exchange Commission (SEC) or must qualify for exemption from registration requirements.
The important information in the registration form submitted by a company to the SEC includes: (1) a description of the company's property and business; (2) A description of the securities to be sold; (3) Information about the company's management; (4) Financial statements certified by independent accountants. These documents will be made public shortly after a company files an application with the sec.
Therefore, once the uni token is attributed to the securities, uniswap will need to complete the registration required by the securities law and fulfill the disclosure obligation. However, in fact, it is difficult for uniswap to achieve this. If it must be regulated by the U.S. Securities Law, uniswap will have to publish its reports on financial performance and business development, which will be difficult to define and clarify due to the characteristics of de neutrality. At the same time, with the stabilization of the project, the original development team will no longer assume the centralized management responsibility, and community autonomy makes the subject performing the obligations of securities law blurred.
2. Uniswap and related personnel may fall into civil and administrative litigation due to users' illegal activities
Another important objective of the Securities Act of 1933 is to prohibit fraud, misrepresentation and other fraudulent acts in securities sales. Uniswap protocol allows users to freely put on the shelves and trade tokens. It is inevitable that some users issue and trade tokens for illegal purposes, such as rug pulls, that is, to establish a seemingly legitimate cryptocurrency project and disappear after obtaining the money of investors. At this time, uniswap exchange may be regarded as the support of this illegal activity because it collects corresponding fees for developers. Even if it is believed that uniswap has no illegal intention subjectively, according to the strict liability provisions of Article 11 of the U.S. Securities Law and the provisions of Article 17, in terms of subjective fault, the securities and Exchange Commission of the United States (SEC) only needs to prove that the defendant has subjective fault in the administrative procedure. Therefore, under the strict anti securities fraud provisions in the United States, uniswap will easily fall into the dilemma of civil and administrative litigation.
3. Uniswap may be subject to criminal compliance risks
In April 2019, New York Attorney General James accused TEDA, bitfinex and its parent company ifinex Inc. of fraud endangering the interests of investors in New York state. When the tokens issued by the project party become a kind of financial products, the inevitable financial governance and regulatory institutions and judicial departments will devote more time and energy to supervision. Once the exposure of risks constitutes a criminal crime, such as fraud and money laundering, according to the provisions of the Securities Act of 1933 and the securities Exchange Act of 1934, the U.S. Department of justice has the right to institute criminal proceedings for all intentional violations of securities laws, If this clause is quoted, the relevant principals of the exchange and traders will face strict criminal responsibility.
4、 With the rapid development of Web3 project, the supervision status of token securitization in China
1. At present, China's legal attitude towards cryptocurrency securitization?
According to the relevant provisions in the notice on prevention of bitcoin risk, the notice on prevention of token issuance and financing risk (hereinafter referred to as the "94 notice") and the notice on further prevention and disposal of speculation risk of virtual currency transaction (hereinafter referred to as the "924 notice"), China has characterized cryptocurrency transaction as illegal financial activities to a certain extent, Maintain a high pressure on the speculation of encrypted digital currency trading in China, including stable currency, and comprehensively eliminate domestic exchanges.
According to the proposal on preventing NFT related financial risks issued by the three associations:The tendency of NFT to be non securitized and the financial risk of non homogeneity should be strictly prevented. It can be seen that in China, the relevant regulatory authorities still maintain a negative attitude towards token securitization.
2. After the rights and interests of investment tokens are damaged, can we file a securities group lawsuit with reference to the United States?
In the United States, according to the provisions of the federal rules of civil procedure, when investors believe that their rights and those of investors with the same status have been damaged, they can bring a class action to the court. AmericanSecurities class action is generally initiated by one or several parties and lawyers willing to act as a litigant of the group. In a case, there are often several lawyers acting as a litigant of the group, and lawyers play a major role in securities class action.
In addition, the court has the discretion to decide whether to hear the case according to the securities class action.According to Article 23 (a) of the federal rules of civil procedure,There are four "prerequisites" for the court to decide whether to accept the case as a class action: (1) due to the large number of parties, it is impossible to merge all members into a lawsuit; (2) There are common legal or factual issues among the group members composed of the parties; (3) The request or defense of the party's representative is a representative request or defense among the group members; (4) The representatives of the parties can fairly and fully safeguard the interests of the group members.
It also needs to meet one of the "maintenance conditions" stipulated in Article 23 (b) of the federal rules of civil procedure: (1) the case has to be tried in class action. (2) Group members jointly request legal confirmation of an issue or seek an injunction for the general protection of members. Once the case is handled, the judgment will automatically affect all group members. (3) There are both similarities and differences in the legal or factual issues involved by group members, but the common ground is dominant; Moreover, it is more fair and effective to treat the case as a class action than other methods.
Therefore, in the United States, if a large number of investors are involved in the investment of a project token, and the investor requests the court to try it in the form of securities class action after litigation, it can be tried in the form of securities class action after the court comprehensively judges the preconditions, maintenance conditions and other elements.
However, in China, in view of China's definition of "securities", tokens themselves cannot be included in the attribute category of securities, and consumers participating in token investment are therefore not protected by China's securities law. Relevant acts can only be regarded as general civil acts. In case of investment damage, investors generally file civil proceedings in court in accordance with contract disputes.
"Securities are a veil covering assets". With the growth of the encryption industry, it is not impossible for China to bring securities cryptocurrency into the jurisdiction of securities law in the future. At that time, when investors suffer damage,Is it possible to initiate securities class action led by lawyers in China?
First of all, if the reason for the investor's loss is the existence of false statements in the exchange, the investor may, in accordance with the securities law, several provisions on the trial of civil compensation cases of false statements in the securities market and other laws and regulations,Claim civil compensation.The court's determination of false statements here is complex, and this article will not repeat it, but it should be noted that if the investment loss is only caused by the fluctuation of the market value of the project token itself, the investor will not be able to obtain compensation according to the principle of risk bearing.
Secondly, if the conditions for prosecution are met, can we sue in the form of Securities Group Litigation?Can a lawyer Sue as a representative of a class action? In fact, because there are still many restrictions on Lawyers in fact investigation and evidence collection in China's litigation legal rules, it is unlikely to establish a group litigation system with lawyers as the core like the United States. The Kangmei pharmaceutical case in 2021 seems to bring innovative practice to China's securities class action, but China's class action with Chinese characteristics (also known as "special representative action") is very different from ordinary representative action and American securities class action.
Paragraph 3 of Article 95 of the new securities law establishes China's special representative litigation system with legal investor protection institutions as the core, that is, in China's securities group litigation, the litigation representatives are generally legal investor protection institutions (specifically, at this stage, the service center for small and medium-sized investors of China Securities Regulatory Commission authorized by China Securities Regulatory Commission) to decide under what circumstances to start this procedure for which listed company, Not the investor himself or the entrusted agent of the investor, such as a lawyer.
In addition, the effect of litigation is also very different from that of American securities group litigation.Group litigation with Chinese characteristics often solves disputes at one time, which means that the relevant responsible persons may face huge compensation and huge bankruptcy risk in a short time. In the United States, about 80% of securities class action cases are usually settled by mediation. Therefore, there are also a large number of Securities Group Litigation in China, but the investment service center is generally used as the litigation representative, and lawyers cannot directly file a lawsuit as a special representative.