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As crypto prices surge, we find ourselves in the midst of
another crypto wave. Given the unrelenting flow of news that
accompanies such periods, it may have been easy to miss that the
SEC staff recently granted no-action relief to another
Ethereum-based token, VCOIN.
In only its third no-action letter to date for digital tokens,
the SEC cleared the way for the software development company IMVU,
Inc. to sell VCOIN, an ERC-20 token, as a transferable non-security
to its global platform users. In its incoming letter, IMVU stated
that it operates “one of the largest online three-dimensional
avatar-based social communities in the world” with “over
7 million monthly active users from more than 140 countries”
and “a user-generated virtual goods catalog of more than 40
million items.” In the same letter, IMVU sought guidance from
the SEC as to whether its offering of VCOIN would require
registration under Section 5 of the Securities Act and Section
12(g) of the Exchange Act.
A Simple Decision for a Simple Fact Pattern?
The SEC staff issued an affirmative response to IMVU’s request on
November 19, 2020, with a set of stipulations upon which the
no-action position is contingent. In particular, the SEC set forth
eight conditions to which IMVU must adhere in order for VCOINs, as
proposed, to maintain non-security status. For the most part, the
stipulations mirror the same Howey-driven requirements
enumerated by the SEC in its no-action relief granted to Pocketful
of Quarters, Inc. (PoQ) in July 2019 (discussed in this blog post) and TurnKey
Jet, Inc. (TKJ) in April 2019 (discussed in this blog post). These
stipulations include that VCOIN will (i) be unlimited in supply and
sold at a fixed price, with no prospect of appreciation resulting
from IMVU’s efforts; (ii) be immediately usable for the
intended consumptive (and not speculative) purpose on a fully
functioning platform; (iii) have restrictions on purchases,
conversions, transfers, and secondary market trading; and (iv)
maintain anti-money laundering (AML) and know-your-customer (KYC)
precautions in accordance with Bank Secrecy Act and AML
regulations.
In an era when the cool kids of crypto are creating ever more
exotic and mind-bending financial instruments in the decentralized
finance space, one can be forgiven for viewing the SEC’s
approval of a stablecoin with restricted transferability as being
less than earth-shattering. Nevertheless, there is value in
understanding the VCOIN model, especially as compared to the TKJ
and PoQ models. At the very least, such an exercise allows us to
understand the SEC’s trajectory in this area.
Together, the three projects tell a story of regulators that are
gradually becoming more permissive. Recall, TKJ described its
network as a “private, permissioned, centralized
blockchain network and smart contract infrastructure operated by
TKJ.” Then came the PoQ token, which was issued on Ethereum, a
public blockchain network. Unlike the TKJ and PoQ models, the VCOIN
no-action relief is the first to permit users to transfer a token
outside of its closed platform to non-users and for any token
holder to be able to exchange the token for fiat currency from the
token issuer — IMVU in this case.
IMVU’s incoming letter reports that IMVU’s virtual world
has over 75,000 “Creators and Service Providers” that
provide virtual goods and services for IMVU’s users. The
Creators and Service Providers hire non-users (such as programmers,
designers, influencers, etc.) “to build, market, or provide
support related to the virtual goods and services they offer”
in IMVU’s virtual world. The introduction of VCOIN allows
producers to extract real-world value in return for their activity
in IMVU’s virtual economy.
From the TKJ token to VCOIN, we see an evolution from a highly
restricted token issued on a private and centralized blockchain and
aimed at a narrow user base (private jet charters) to a public
blockchain token for a platform with 7 million users that are able
to transfer the token off-platform to non-users, albeit with some
fee-based disincentives to discourage speculation. We look forward
to seeing how this trend holds up in future no-action letters.
Virtual World Progress, Real World Stagnation
Given the growing list of regulatory questions raised by the
crypto space, the need for a comprehensive digital asset framework
has become more pressing. As widely predicted, regulatory
uncertainty in the US has allowed other nations more hospitable to
digital asset innovation to begin to pull ahead in a technology
that some argue will be as transformative as the internet.
Originally Published by Latham & Watkins, December
2020
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