© 2018 The Texas Lawbook.
By Rob Long and Ross Williams of Bell Nunnally & Martin
(May 17) – The expanding use of blockchain technology has brought with it a proliferation of cryptocurrencies – the virtual monies used to facilitate transactions on blockchains. These emerging cryptocurrencies are often injected into the market in initial coin offerings.
Many cryptocurrencies have demonstrated incredible volatility in value relative to the U.S. dollar. Consequently, some of the entrepreneurs who have originated and made ICOs in new cryptocurrencies have done so in an effort to profit from consumer interest in them as an investment vehicle, rather than promoting them for use as a currency per se. These ICOs can range in character from earnest efforts to launch a blockchain-based ecosystem to pump-and-dump-esque schemes.
A hallmark of the latter type of ICO is the use of online influencers who hype a new cryptocurrency before the offering. Some crypto developers and influencers list “advisors” to the promoted cryptocurrency in white papers and advertising materials. The listed advisors are often high-profile personnel at known brands and companies. The goal of those listings is to create credibility and cachet for the promoted coin.
Whether these listings and uses are legitimate and authorized or fraudulent or something in between, the known companies whose brands and imagery are being used should be aware of the regulations that apply to cryptocurrencies, the risks created by the advisory role, and the remedies that may be sought by and against the purported advisors.
Regulations and Risks
Several Texas and federal agencies have regulatory regimes that may apply to ICOs and the advisory activities related to them.
The Texas State Securities Board is responsible for the registration of securities and those who deal in them within the state of Texas. The board has shown particular interest of late in investigating those who offer cryptocurrencies within Texas or to Texas residents to determine whether they are breaking Texas law prohibiting dealing in unregistered securities, an activity which can carry significant penalties. Doing so without being registered as a broker/dealer in Texas can add a second layer of censure.
At the federal level, the Securities and Exchange Commission, the Commodities Futures Trading Commission, Financial Crimes Enforcement Network, Office of Foreign Assets Control, the Federal Bureau of Investigation and other law enforcement agencies all have an interest at some level in regulating cryptocurrencies, those who offer them through ICOs or the money that arises from those activities.
The SEC is particularly interested in regulating cryptocurrencies as securities. Until very recently, it was thought that the SEC considered most cryptocurrencies to be securities, but considered Bitcoin (and perhaps a small number of highly similar cryptocurrencies) to not be securities under the Howey test.
In the last few days, however, at least one SEC official has suggested that even Bitcoin may be a security. The SEC has shown particular interest in pursuing promoters who market ICOs as investment vehicles for profit from trading on the secondary market. As part of that interest, the SEC may be investigating those who advise on ICOs – especially of that type – for offering unregistered securities and even for engaging in securities fraud. The SEC can bring federal court and administrative actions to enforce the federal securities laws.
The CFTC considers cryptocurrencies to be commodities subject to federal commodities regulation. It can launch enforcement actions, has shown interest in setting policy in this arena, and has issued joint statements with the SEC emphasizing a commitment to deterring and punishing fraud and abuse in emerging cryptocurrency markets. The CFTC may consider those who are purported to be advisors to suspect ICOs as aiding and abetting illicit activity.
FinCEN administers the Bank Secrecy Act regulations. It can require certain types of blockchain-related businesses to register as money services businesses, comply with Know Your Customer and Anti-Money Laundering regulations, keep adequate records and report suspicious activities. FinCEN may consider those who are purported to be advisors to noncompliant blockchain businesses as directly causing that noncompliance.
OFAC enforces U.S. economic and trade sanctions. To the extent that an ICO appears to allow or even encourage dealings with sanctioned countries or individuals, the blockchain organization involved and those who advised on that activity could be subject to OFAC investigation and enforcement actions.
The FBI and other law enforcement agencies may also launch investigations into, and recommend criminal prosecution of, advisors involved with blockchain companies who launch ICOs for the purpose of facilitating, furthering, concealing or committing criminal activities, or for aiding and abetting those activities.
The risks for those listed as advisors of ICOs under investigation or that turn out to be fraudulent are myriad. From a regulatory standpoint, the advisors can be investigated and prosecuted in one way or another for aiding and abetting or directly committing illicit acts under the various regulatory regimes these agencies administer.
From a business standpoint, association of a company’s brand and imagery with a business that turns out to be a fraud can damage goodwill or lead to civil suits by the defrauded for the advisors giving the perception that the brands endorsed the cryptocurrency involved in the ICO.
Legal Remedies
The remedies companies should employ to avoid or mitigate these risks should be comprehensive.
If a company with a known and valuable brand is considering advising or allowing its personnel to advise under its name for any blockchain company, full due diligence on the company and its compliance efforts and status should be completed before the advisory listing is allowed.
To locate and address unauthorized brand and imagery uses, any company with a valuable brand should engage sophisticated and reputable online reputation management services and specifically instruct the service-provider to actively look for, report and engage in reputation management with regard to any instance of a company’s brand or imagery being associated with an ICO or blockchain company.
If instances of unauthorized use are reported, legal counsel should be engaged to initiate cease-and-desist and pull-down processes. Legal counsel can also issue subpoenas to obtain identifying and other information to assist in those efforts. Ultimately, if the demands do not work, a lawsuit and emergency injunctive relief should be considered.
Employers should also consider revising their employee handbooks and other policies to address and prohibit any unauthorized use or association of the company’s name, branding or imagery with any blockchain company or ICO without the employer’s prior, express written permission. Consequences for breach of the policy should be developed and imposed on those who violate.
If a company has its name, branding or imagery associated with a fraudulent ICO or blockchain technology (especially where the use was consented to by the company), it should engage legal counsel to assist with developing and implementing a public relations strategy and devise a comprehensive defense strategy to deal with regulators and coin purchasers.
The above are just some of the options companies have when their branding and imagery have been used to promote a fraudulent ICO or blockchain business. Competent counsel can tailor the strategy to be pursued to the circumstances of a particular case to minimize liability exposure and reputational damage.
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