Kik’s troubles mount as SEC files suit claiming securities law violation, lawyers say

Quick Take

  • The Block talked to several lawyers about their views on the SEC’s lawsuit against Kik
  • Although the SEC presents a strong case against the firm with detailed evidence, Kik may still be able to argue for an alternative interpretation of the securities law, experts said

The U.S. Securities and Exchange Commission has filed suit against Kik, claiming it violated securities law with its initial coin offering (ICO). Experts tell The Block that the SEC has a solid case, but Kik is preparing its own argument in response, questioning whether its token sale actually falls under the agency’s jurisdiction.

This is the conclusion that several lawyers drew from the SEC’s allegations. The regulator claims that the Canada-based firm, in an effort to finance its floundering business, didn’t register the Kin token it sold off to retail investors as securities.

Thorough and dense

As several lawyers pointed out to The Block, the SEC’s complaint against Kik was more thorough and well substantiated than similar suits. For instance, the regulator delineated a very clear timeline of Kik’s activities related to the ICO, and provided rich details drawing from documents such as internal emails between Kik employees and executives, reports to Kik’s board of directors, private meetings between Kik and other stakeholders, and others.

Kik can provide additional evidence that adds more color to the lawsuit from its perspective. However, the documents that the SEC presents in the complaint already unfolds a clear enough picture of Kik’s unregistered token sales that it may be difficult to argue against these facts, according to Stephen Palley, an attorney at Anderson Kill and contributor to The Block, and Drew Hinkes, an attorney for Carlton Fields and general counsel for Athena Blockchain.

“The legal piece of it is actually pretty simple, as long as the SEC shows that under the Howey Test, these tokens were securities, the SEC wins,” said Palley.

Before and during the ICO, Kik repeatedly assured investors via various public events, Medium posts, press releases, and other marketing efforts that they could profit from the Kin token, all of which are cited by the SEC in the complaint.

Specifically, the firm promised to deliver the Kin Ecosystem that would integrate Kin into Kik’s messaging service, incentivize developers to conduct more Kin-related transactions via a rewards engine, and build a Kin-specific “transaction service” to address flaws in existing blockchain technology. All of these efforts aimed to generate demand for Kin and make its value appreciate.

However, as the SEC points out, the Kin ecosystem was not built prior to the ICO, nor was there any assurance that Kin could be used to buy goods and services. All investors received was a set of digital cartoon stickers on Kik’s messaging app, which the SEC alleges as Kik’s “effort to create a hypothetical ‘use’ for the tokens” and to save Kin from being classified as a security, according to the complaint. 

The SEC also lists evidence that shows the company was fully aware of the possibility that Kin could be considered a security. For example, Kik was warned by a consultant before it publicly announced Kin that “a Kin offering that raised ‘millions’ and ‘was highly marketed to users and the public at large… risk[ed] becoming a security in the eyes of the SEC very quickly,” the complaint states.

As the SEC alleges, in an effort to raise money to finance its operation, Kik decided to pursue the ICO nevertheless and raised nearly $100 million in cash and Ether. Therefore, the regulator argues that Kik knowingly failed to register its token as a security and seeks relief in the complaint, including a permanent injunction, civil money penalties, and disgorgement of ill-gotten funds with interest. 

There’s hope?

However, as straight as the facts seem, Hinkes says he thinks Kik may still be able to defend itself. If Kik can draw a distinction between its case and other ICO lawsuits that ended with the companies accepting penalties, the firm might be able to land itself in a more favorable position. 

“My view is that counsel for the defense will probably do everything they can to get the judge to give them a different interpretation of the law, and how it should be applied to these sorts of matters,” said Hinkes.

However, given that Kik was already in financial trouble when it issued the token and hoping to use the money from the ICO to keep itself afloat, it may be a tough sell to claim that Kin is not a security, according to Cornell University Law Professor Robert Hockett.

“Firms like this are at heightened risk of failure, hence their unsuspecting investors are at heightened risk of simply throwing their money away,” said Hockett. “So of course the SEC is responding. Any lawyer worth his or her salt would have advised Kik of this virtually certain response from the Commission. It’s quite surprising that they simply proceeded, cavalierly like this, with the sale.”

Kik’s fate is yet to be determined, but this case may also open up an opportunity for the public to gain more clarity on the SEC’s view over securities. As Kik is arguing against the SEC’s claim that Kin is bound by the securities laws, it will also prompt a new round of discussions regarding how and where to apply the 1933 Securities Act and Howey Test.

“This is the beginning of a lengthy process, where the parties will probably argue over… almost everything that the SEC has said about token sales,” said Hinkes.