While most major cryptocurrencies have enjoyed tremendous upside this year due to the meteoric ascent of Bitcoin (CCC:BTC-USD), not all participants of the digital markets have been so fortunate. Case in point is Ripple Labs and its cryptocurrency XRP (CCC:XRP-USD). As you know, the Securities and Exchange Commission took a dim view on XRP, arguing that it’s a security masquerading as a blockchain reward token.
Because of the severe accusation, many exchanges that held XRP delisted it from their platform. It’s one thing to carry a dubious crypto coin – it’s quite another to knowingly support an illegal security.
Unfortunately, no matter how individual exchange operators felt, they had no choice but to exit. The juice isn’t worth the squeeze, not when you’re dealing with an SEC lawsuit.
Here, the protocol underlining the XRP token didn’t help. To briefly summarize, the lion’s share of cryptocurrencies can be mined, making them decentralized (i.e. the determination of their supply rests on public actors engaging an open-source network). With XRP, it’s different; the supply-side equation appears to fall under the purview of Ripple Labs.
Sure enough, the SEC aggressively took this stance, contending that “the development and distribution of XRP were conducted by Ripple in a centralized way.” In other words, Ripple or any other party can call XRP what it wants – a cryptocurrency or a bonafide security. The point is, if it primarily functions as a security, it’s a security.
But according to an analysis provided by the judge assisting in the discovery and mediation process, Ripple may have won a critical legal battle. Judge Sarah Netburn of the Southern District Court in New York appears to hold the stance that XRP is a cryptocurrency, not a security.
As well, one of the SEC’s lawyers under questioning stated that “only Ripple and affiliates of Ripple can have sold XRP illegally.” This seems to suggest that de-listing exchanges can relist the token.
Don’t Get Too Excited About XRP
If you’re a significant holder of XRP, you’ll obviously take whatever victories you can get – and this is a big one. But the dark cloud is that I’m not sure if it’s enough to get XRP out of its jam.
Primarily, the SEC will continue to hammer the centralization argument. Honestly, it doesn’t look good that the protocol appears centralized – this was long a criticism of the Ripple coin.
Here’s why it’s important: If Ripple distributed XRP for the sole purpose of raising capital for its businesses and giving the impression that investors could potentially profit from a valuation rise, how is that different from a publicly-traded security?
After all, secondary market participants can’t increase the outstanding shares of a particular company. That decision rests with management. So it is, then, with the Ripple coin, at least under the prevailing assumption of centralization. Therefore, if Ripple Labs can prove that XRP is not centralized, it would do itself much good.
But the company isn’t out of the woods even then. It really comes down to how wide the SEC can expand its scope. For instance, is the mere fact that public nodes can mine a target crypto coin enough to classify it as a currency and not a security? If yes, then Ripple presumably just needs to establish that its XRP protocol is decentralized and it’s home free.
However, what if the SEC establishes function as its core decider, not necessarily centralization or decentralization? In that case, it’s not just XRP that’s in trouble but a host of other crypto-related projects.
That’s because many organizations exist in the digital markets where they distribute tokens in the hopes of raising capital for their business enterprise. To me (and I’m sure the SEC), that sounds like a sidestepping of the traditional initial public offering process.
Ripple’s Possible Two-Step Strategy
To keep our own attorneys happy, nothing in this article should be construed as legal advice. I’m just giving my own personal ideas of the situation and nothing more.
With that caveat out of the way, it seems Ripple’s attorneys have a two-step strategy in front of them. First, they must limit the SEC’s battleground by keeping the focus on centralization, not on function. If the SEC can prosecute on the latter, it might get ugly for XRP and other cryptocurrencies.
Second, Ripple should drive home the argument of utility, that whether XRP is centralized or not, the main point of creating the token in the first place was as an experiment to develop a fast and economically efficient transaction network. Since securities only represent equity ownership and not utility, Ripple might get away from the accusation unscathed.
Of course, you don’t know what tricks the SEC has up its sleeve. Therefore, you should proceed very cautiously, if at all.
On the date of publication, Josh Enomoto held a long position in BTC and XRP.
A former senior business analyst for Sony Electronics, Josh Enomoto has helped broker major contracts with Fortune Global 500 companies. Over the past several years, he has delivered unique, critical insights for the investment markets, as well as various other industries including legal, construction management, and healthcare.