On February 26, 2020, Judge Phyllis J. Hamilton of the United States District Court for the Northern District of California dismissed certain claims in a putative class action asserting violations of the Securities Act of 1933 and California state law by a cryptocurrency firm and certain of its executives. Vladi Zakinov, et al. v. Ripple Labs, Inc., et al., No. 18-CV-06753-PJH (N.D. Cal. Feb. 26, 2020). Plaintiff alleged that the cryptocurrency created by the company was an unregistered security and, further, that the company had misrepresented the cryptocurrency’s long-term value. The Court held that plaintiff had sufficiently alleged that the cryptocurrency was an unregistered security, but dismissed the misrepresentation claims for failure to allege an actionable misstatement or omission.
The company argued that the complaint should be dismissed under the Securities Act’s three-year statute of repose and for failure to state a claim, but did not challenge on the pleadings whether the cryptocurrency qualified as a security. With respect to the statute of repose—which precludes actions “more than three years after the security was bona fide offered to the public”—plaintiff argued that the three-year period should begin to run from the date a security is last offered to the public. Slip op. at 10-11. The Court rejected this argument, instead finding more persuasive the “first offered” rule articulated by the Second Circuit. Id. at 11 (citing Stolz Family Partnership L.P. v. Daum, 355 F.3d 92, 100 (2d Cir. 2004)). The Court explained that the “last offered” interpretation would not serve the statutory purpose of providing final repose—except in the rare case where the one-year limitations period was tolled throughout the duration of the offer and for three years thereafter. Id. at 12.
Applying the “first offered” rule, the Court declined to dismiss the action on the pleadings, however, explaining that the action was brought within three years after the cryptocurrency was listed on an exchange. Id. at 18. Moreover, while acknowledging that certain sales may have occurred more than three years before commencement of the litigation, the Court held that it was not clear on the current record whether such sales represented “bona fide offer[s] to the public” within the meaning of the statute of repose. Id. at 18-19. The Court next addressed the company’s arguments that the Securities Act requires a purchase in an “initial distribution” of stock, rather than in the secondary market, and that defendant was not a seller within the meaning of the statute. The Court held that secondary market purchases are subject to the Securities Act based on the plain text of the statute (which references the sale of an unregistered security through the use of a prospectus “or otherwise”) and that plaintiff had sufficiently alleged that the company was a statutory seller based on a “solicitation” theory, given plaintiff’s allegations that the company had systematically marketed the cryptocurrency and financially benefitted from its efforts Id. at 21-22.
For similar reasons, the Court rejected the company’s argument that the California securities laws precluded claims based on secondary market transactions (id. at 26), and although noting that California law did impose a “privity” requirement, the Court found that it was met at the pleadings stage by the allegation that plaintiff “purchased . . . securities from defendants.” Id. at 27-28.
The Court held, however, that plaintiff had not sufficiently alleged a misrepresentation under California law, applying the heightened pleading standard of Rule 9(b). The Court held that plaintiff either failed to specify who made the challenged statements and how they were communicated, or failed to allege how such statements were false, including statements referencing the number exchanges where the cryptocurrency was available, statements by an executive suggesting he felt confident about the long term value of the cryptocurrency, and other statements by defendants generally expressing positive opinions about the cryptocurrency and its potential. Id. at 32-35.
Moreover, the Court held that an assertion that the cryptocurrency did not qualify as a security was a legal position and not an actionable misstatement. Id. at 35. The Court further concluded that plaintiff’s claims under two California consumer protection statutes did not apply to securities. Id. at 37–38. But the Court permitted plaintiff to replead these claims under an alternative theory should the cryptocurrency be deemed not to be a security at a later stage of litigation, and also permitted plaintiff to replead to attempt to address deficiencies in the misrepresentation claims.