SEC cracks down on unregistered crypto exchange operator11.09.18
The Securities and Exchange Commission (SEC) has issued an order settling charges against EtherDelta founder Zachary Coburn, finding that his digital cryptocurrency “token” trading platform was being operated as an unregistered national securities exchange.
It appears the action was brought only against Mr. Coburn, as he sold EtherDelta to non-U.S. residents (that are ostensibly outside of the SEC’s regulatory purview) in December 2017. He was ordered to pay disgorgement and interest totaling $313,000, along with a $75,000 civil penalty. The order states that the SEC capped the civil penalty at $75,000 based upon remedial acts promptly undertaken by Mr. Coburn and because of his cooperation in facilitating the SEC investigation involving an emerging technology.
In the order, the SEC indicated that EtherDelta operates as an exchange, as defined in Section 3(a)(1) of the Exchange Act of 1934, as amended (Exchange Act), which under Exchange Act Rule 3b-16(a), “(1) brings together the orders for securities of multiple buyers and sellers; and (2) uses established, non-discretionary methods (whether by providing a trading facility or by setting rules) under which such orders interact with each other, and the buyers and sellers entering such orders agree to the terms of the trade.”
Thus, as EtherDelta is an exchange that meets the criteria of Exchange Act Rule 3b-16(a), it must register, pursuant to Section 5 of the Exchange Act, as a national securities exchange under Section 6 of the Exchange Act, or operate pursuant to an appropriate exemption.
Interestingly, in the order, the SEC specifically called out the exemption from Exchange Act Rule 3b-16(a) registration available to alternative trading systems (ATSs) found under Exchange Act Rule 3a1-1(a)(2), perhaps providing the beginnings of a roadmap for legally compliant cryptocurrency token exchanges.
Exchange Act Rule 3a1-1(a)(2) requires compliance with Regulation ATS, which among other things, requires an exchange to register as a broker-dealer, file a Form ATS with the SEC providing notice of its operations as an exchange, and establish written safeguards and procedures to protect subscribers’ confidential trading information. An ATS that complies with Regulation ATS and operates pursuant to the Rule 3a1-1(a)(2) exemption would not be required by Section 5 of the Exchange Act to register as a national securities exchange.
For context, one of the most popular ATSs in the United States is operated by the OTC Markets Group, Inc. and its tiers of the OTCQX, OTCQB and OTC Pink marketplaces. It’s also likely that certain (unregistered) cryptocurrency token exchange operators such as Coinbase that have acquired broker-dealers, have done so in furtherance of becoming an ATS.
The SEC’s order settling charges with Mr. Coburn was not only the SEC's first enforcement action relating to an unregistered cryptocurrency exchange, it may also be the first ring of the bell tolling for the end of the era of unregistered cryptocurrency exchanges (and correspondingly, unregistered cryptocurrency tokens themselves), at least in the United States.