The Securities and Exchange Commission obtained an emergency asset freeze from a federal court in Brooklyn, NY, to halt a purported fraudulent initial coin offering involving PlexCoin digital tokens that began in August 2017.

According to the SEC, the ICO – which was orchestrated by Dominic Lacroix and Sabrina Paradis-Royer of Quebec, Canada, through their unincorporated entity, PlexCorps – was marketed as a means for investors to obtain a new “tokenized currency” that would net early purchasers a very high rate of return. These returns would supposedly derive from the appreciation in value that would result from investments PlexCorps would make with the ICO’s proceeds; proceeds distributed to investors from PlexCorps’ profits; and the appreciation in value of PlexCoins when traded on digital asset exchanges.

However, charged the SEC, the defendants’ offering was fraudulent and the proceeds of the ICO were never to be used for legitimate business development. Instead, said the SEC, the proceeds “were intended to fund Lacroix and Paradis-Royer’s expenses including home décor projects.”

The SEC charged all the defendants with engaging in securities fraud and Mr. Lacroix and PlexCorps with offering to sell securities for which no registration statement had been filed.

Previously, Quebec’s financial services regulator – the Autorité des marchés financiers – obtained ex parte orders against Mr. Lacroix and Ms. Paradis-Royer preventing them from engaging in securities transactions. (Click here for background in the article “Canada AMF Cautions Against Solicitations of New Virtual Currency” in the August 13, 2017 edition of Bridging the Week.)

The SEC said that the defendants raised US $15 million through the ICO.

An ICO involves the issuance of a new cryptocurrency on a blockchain in return for fiat currency or an existing cryptocurrency such as Bitcoin or Ether. An ICO is typically marketed through use of a white paper that broadly describes the purpose of the new cryptocurrency and an investor’s stake in the underlying project funded by the new cryptocurrency’s launch, if and as relevant.

Unrelatedly, Sal Mansy of Detroit, Michigan, was sentenced to one year and one day imprisonment, among other sanctions, for operating a Bitcoin exchange without registering his enterprise with the Financial Crimes Enforcement Network as a money-service business (“MSB”). Mr. Mansy and TV Toyz were charged by a federal grand jury in Maine in 2015 with knowingly operating an unregistered MSB, and pleaded guilty earlier this year.

Legal Weeds: In July 2017, the SEC published a Report of Investigation that concluded that digital tokens issued by an entity for the purpose of raising funds for projects – even if using distributed ledger or Blockchain technology – may be securities under federal law. If so, such securities must be registered with the Commission or eligible for an exemption from registration requirements. Moreover, the SEC concluded that any person offering trading facilities like an exchange for digital tokens that are securities must be registered as a national securities exchange or be exempt from such registration requirement.

The SEC’s Report follows an investigation by the SEC’s Division of Enforcement which concluded that digital tokens offered and sold during April and May 2016 by DAO, an unincorporated virtual organization created by UG, a German corporation, were securities subject to the SEC’s registration requirements. According to the SEC, investors purchased DAO tokens through transactions on the Ethereum Blockchain in exchange for approximately 12 million Ether that was valued at approximately US $150 million at the time.

Notwithstanding its finding, the SEC determined not to take an enforcement action against the DAO entity,, any of the natural person founders of the DAO entity or any entity that offered secondary trading in DAO tokens “based on the conduct and activities known to the Commission at this time.” The Commission also declined to take an enforcement action against any intermediary, including any trading facility, involved in the transactions.

According to the SEC, US federal securities laws “may apply to various activities, including distributed ledger technology, depending on the particular facts and circumstances, without regard to the form of the organization or technology used to effectuate a particular offer or sale.”

(Click here for details on the SEC’s July 2017 Report of Investigation in the August 3, 2017 Advisory “SEC Warns That Digital Tokens May Be Securities” by Katten Muchin Rosenman LLP.)

International regulators, such as the Australian Securities and Investment Commission, have published similar guidance as the SEC regarding the application of their own laws to ICOs and other countries, such as China, have outright banned ICOs. (Click here to access ASIC’s advisory and here to access the article “China Bans ICOs While HK SFC Joins Regulator Procession Warning Digital Tokens in ICOs May Be Securities” in the September 10, 2017 edition of Bridging the Week.)

Since issuance of the DAO Report, the SEC has created a special Cyber Unit within its Division of Enforcement to focus on cyber-related matters, including ICOs. (Click here for more details in the article “SEC Enforcement Division Establishes Cyber Unit That Will Examine ICOs” in the October 1, 2017 edition of Bridging the Week.)

The charges against the defendants in the PlexCoin matter are the first filed by the SEC’s new Cyber Unit. However, the SEC has previously brought litigation in the ICO space. In September 2017, the SEC filed an enforcement action against two companies and their sole owner – who also was the chief executive officer and president of both companies – for engaging in a fraudulent initial coin offering. The companies were Recoin Group Foundation, LLC and DRC World Inc., while the sole owner was Maksim Zaslavskiy. (Click here for details in the article “SEC Files Lawsuit Against Companies and Backer for Purportedly Fake Initial Coin Offerings” in the October 1, 2017 edition of Bridging the Week.)