As the cryptocurrency market develops and grows, cryptocurrencies have become the subject of an increasing number of securities lawsuits. This year alone, more than 10 cryptocurrency securities lawsuits have been filed in federal district courts throughout the country.
While regulations and laws governing the cryptocurrency market continue to develop, recent activity involving cryptocurrency has raised a host of questions concerning investor protections. As federal and state regulators and policymakers grapple with how to regulate digital currencies, some investors have sought protection through securities lawsuits.
Based on the number of lawsuits filed to date and the recent decline in the price of cryptocurrencies, such litigation will likely increase in volume in the coming year. Investors should be aware of recent cryptocurrency case law to safeguard their rights and preserve their legal remedies. A selection of recent securities lawsuits against five cryptocurrency companies is highlighted below to illustrate some of the typical cases in which investors have found reason to pursue legal action against cryptocurrency companies.
Longfin: Precipitous Drop in Stock Value After Disclosure
Longfin Corp., a global cryptocurrency company, was a “pure stock scheme.” On April 9 and April 19, 2018, two classes of investors sued Longfin and its top officers for allegedly violating Sections 10(b) and 20(a) of the Securities Exchange Act. The investors allege that Longfin misrepresented the location of its primary offices and the identity of key employees in its public statements; had numerous material weaknesses in its operations and internal financial reporting controls; and was ineligible for inclusion in certain stock indices.
The investors allege that when this information was made public, Longfin’s stock value declined more than 86 percent in two weeks. The investors are attempting to recover damages associated with the decline in stock value.
Takeaway: This case is an example of a cryptocurrency company’s shares plummeting after company executives disclosed financial information to the public. Prospective investors should be wary of giving too much credibility to unsubstantiated statements made by cryptocurrency companies and should be selective when determining the trustworthiness of sources.
Nano: Danger of Foreign Exchanges and Hacks
Nano, a U.S.-based blockchain developer and cryptocurrency issuer, was involved in a hack scandal. On April 6, 2018, a class action was filed against Nano and its key officials for allegedly violating federal securities laws.
The complaint alleges that Nano engaged in an unregistered offering and sale of securities by issuing cryptocurrencies on BitGrail, an Italian cryptocurrency exchange, in violation of Sections 12(a) and 15(a) of the Securities Act. The complaint also alleges that Nano wrongly encouraged investors to invest assets with BitGrail, which lost $170 million worth of the cryptocurrency “XRB” due to a hack on the exchange platform. The investors are asking for, among other relief, rescission of their investments.
Takeaway: This case is noteworthy because it illustrates the vulnerabilities of cryptocurrency exchanges and their susceptibility to theft. To protect cryptocurrency investments from possible hacks and cyber theft, investors should take a number of precautionary measures, including closely examining where funds are being held and inquiring about the security controls in place to prevent potential hacks.
Giga Watt: Mismanagement Allegations
Giga Watt, a U.S.-based cryptocurrency startup, was a promising venture that was arguably mismanaged by its founder. On March 19, 2018, an investor sued Giga Watt for allegedly violating federal and state securities laws by selling cryptocurrency investments without registering those investments with regulatory entities.
The investor alleges that he invested more than $500,000 in the Giga Watt ICO with an expectation that his investment would increase in value, but Giga Watt “pocketed for themselves large sums of money for their promotional efforts,” resulting in his not receiving “any meaningful return on his investments.” He is suing to rescind his investments and impose a constructive trust over the assets that were collected by Giga Watt.
Takeaway: This case is important because it highlights how investors who find out after the fact that a cryptocurrency company founder has mismanaged funds may pursue legal action against the company. Investors may also protect themselves from potential mismanagement of their investments by researching company governance and only investing in companies whose managers have a proven business track record. Investors should exercise caution if company managers lack experience or knowledge or if an ICO fails to disclose the identity of company managers.
Bitconnect: Investors Allege Scam
Disgruntled investors allege that Bitconnect, a U.K.-based cryptocurrency company, implemented a classic Ponzi scheme. Three lawsuits have been filed this year against Bitconnect for allegedly violating federal securities laws by engaging in the offer and sale of unregistered securities and other unlawful conduct.
Most recently, on February 7, 2018, a class action lawsuit was filed against Bitconnect and key officers for allegedly violating various provisions of the Securities Act and the Securities Exchange Act. The investors allege that Bitconnect operated a Ponzi scheme to cheat thousands of investors out of millions of dollars. The investors allege that they were scammed by Bitconnect after being guaranteed monthly returns of up to 40 percent only a month before Bitconnect collapsed. Furthermore, they allege that after the site was shut down, the cryptocurrency lost more than 90 percent of its value, and they are seeking damages and equitable relief.
Takeaway: This case is significant because it serves as a cautionary tale for investors who are promised high monthly returns from companies that do not actually perform legitimate business activities. Investors evaluating an ICO should be wary of red flags for scam cryptocurrency investments, including insufficient detail on how the technology operates and the viability of the technology over time, the history of team members involved in the project, and the legitimacy of the venture itself.
Paragon Coin: Aggressive Marketing Claims
Paragon Coin, a cryptocurrency startup invested in the marijuana industry, is an example of a heavily marketed cryptocurrency ICO that promised high investment returns without delivering results. Paragon Coin drew attention to its ICO with celebrity endorsements, including endorsements by rapper The Game and by its founder former Miss Iowa Jessica VerSteeg.
On January 30, 2018, a class action lawsuit was filed against Paragon Coin, Inc., for allegedly violating Sections 12(a)(1) and 15(a) of the Securities Act by failing to register its ICO as a securities offering. The complaint alleges that “Defendants marketed the Paragon ICO as offering a path towards legalization of cannabis,” but in fact, “the Paragon ICO was simply a method for Defendants to raise capital in order to purchase real estate investments.”
The class seeks, among other relief, rescission of investments and compensatory damages.
Takeaway: This case is significant because it illustrates the lure that celebrity endorsers, social media and marketing statements can have on investors. Investors should look beyond the hype generated by celebrity endorsements and aggressive marketing campaigns and consider the risks of would-be attractive investments.
The Future of Cryptocurrency Securities Lawsuits
As these cases illustrate, investors are increasingly turning to litigation to pursue their legal rights following failed cryptocurrency investments. Given the wide fluctuations in the price of cryptocurrencies and the recent precipitous drop in value, the lawsuits discussed above are only the beginning wave of securities lawsuits filed relating to cryptocurrencies.
By heeding the lessons gleaned from these securities lawsuits and exercising due diligence before investing in cryptocurrency, investors may protect their investments against loss, theft, scams and other risks associated with cryptocurrency.
First, investors should be wary of giving too much credibility to unsubstantiated statements made by cryptocurrency companies. Second, investors should take precautionary measures to protect their cryptocurrency investments from possible hacks and theft. Third, investors should protect themselves from potential mismanagement of their investments by researching company governance and only investing in companies whose managers have a proven track record. Fourth, investors evaluating an ICO should be wary of red flags for scam cryptocurrency investments. Fifth, investors should look beyond celebrity endorsement buzz and aggressive marketing campaigns when evaluating potential investments.
Whether investors in these lawsuits will prevail remains to be seen, but, based on the allegations in these complaints, investors should always be cautious and perform their own due diligence before deciding where and how to allocate their funds.
This is a guest post by Craig Weiner and Chelsea Walcker. Views expressed are their own and do not necessarily reflect those of BTC Inc or Bitcoin Magazine.