On Wednesday, April 10, the Securities Exchange Commission (SEC) issued a Wells Notice to Uniswap Labs (Uniswap), the creator of the world’s largest decentralized cryptocurrency exchange. Before digging into why the SEC issued a Wells Notice to the U.S.-based software company, it’s important to understand what a Wells Notice is.
What is a Wells Notice?
A Wells Notice is a letter sent by a securities regulator like the SEC, which notifies prospective respondents of the substance of charges that the regulator intends to bring against them. Although not required by law, it is the practice of securities regulators to send Wells Notices so that prospective defendants are on notice that regulators intend to recommend that enforcement proceedings be commenced.
In a basic sense, Wells Notices let you know what regulators believe you’ve done wrong, and that they’re recommending an enforcement division take action against you or your company.
What is the SEC alleging Uniswap did wrong?
While Uniswap has not disclosed the exact content of the Wells Notice, their blog responding to the notice offers some strong hints, and their Chief Operating Officer and Chief Legal Officer also told reporters that the notice was focused on Uniswap acting as an unregistered securities broker and unregistered securities exchange.
Uniswap begins, like many of its beleaguered crypto compatriots, by claiming that the SEC does not have the requisite authority from Congress to exercise jurisdiction over crypto assets. To support this contention Uniswap points to a district court decision from Ripple v. SEC. In Ripple v. SEC Judge Analisa Torres seemingly dealt a blow to the SEC’s regulatory assault on crypto when she held that under the Howey Test programmatic sales of XRP to retail investors on digital asset exchanges did not constitute the offer and sale of securities because those sales were blind bid/ask transaction and retail buyers could not have known if their payments of money went to Ripple, another retail investor, or another seller of XRP.
But those who remember the case well might recall that Judge Torress also held that institutional sales of XRP did constitute the offer and sale of securities because institutional investors would have purchased XRP with the expectation that they would derive profits from Ripple’s efforts, and Ripple had led institutional investors to believe it would use the capital it received from those investors to improve the market for XRP and develop uses for the XRP ledger. Ripple and Uniswap are different companies, but similar to Ripple and many other large crypto companies, Uniswap has its own crypto, UNI. But reliance on the Ripple decision may be a touch premature, because that battle may not be over yet.
Next, Uniswap claims that Judge Toress’ decision in Ripple v. SEC and the Howey Test foreclose the SEC’s arguments that its protocol, web app, and wallet service operate as exchanges or brokers under federal securities laws. Uniswap however, goes a step further and claims that Ripple v. SEC and the Howey Test aside, the Uniswap Protocol, web app, and wallet would still not meet the legal definitions of securities exchange or broker.
Uniswap points to another decision from a New York district court in SEC v. Coinbase, where Judge Katherine Polk Failla dismissed the SEC’s claim that Coinbase’s native wallet functions as a broker under the definition provided in 15 U.S.C. § 78c(a)(4)(A). However, the court denied Coinbase’s motion for judgment on the pleadings as to whether Coinbase itself operates as an exchange, as a broker, and as a clearing agency under federal securities laws, and through its staking program, engaged in the unregistered offer and sale of securities. But that’s not to say that Uniswap’s reliance on this recent decision is necessarily misplaced. Judge Failla’s order in that case just means that the SEC made sufficient factual allegations for the case to proceed, so Coinbase could still theoretically win on the merits in the future.
Lastly, Uniswap asserts that its UNI token is not a security under the Howey Test. Uniswap argues that UNI is not a security because (1) there is no contract or promise between it and UNI owners; (2) there is no common enterprise; and (3) the value of the token is not dependent solely on Uniswap’s efforts. Uniswap may want to tread carefully with this argument, as at least part of it is misinformed. While a court may agree that UNI is not a security, under the latest Howey Test progeny, a finding that the profits were to be derived solely from Uniswap’s effort is not required. To satisfy that element of the Howey Test a court would only need to find that profits were to be derived predominantly from Uniswap’s efforts.
Have more questions?
Navigating the intricate web of cryptocurrency regulations in the United States is undoubtedly a daunting task, and the dynamic nature of this space underscores the need for ongoing vigilance and legal counsel to avoid potential pitfalls and ensure that businesses and investors can thrive within the bounds of the law. As attorneys operating exclusively in the digital asset space, we understand the importance of staying informed on the latest developments and helping clients stay compliant as cryptocurrency’s future in the United States continues to be shaped by regulatory developments. Whether you are an investor, entrepreneur, or business involved in cryptocurrency, our team is here to provide the legal counsel needed to maneuver this complex landscape. If you believe we can be of assistance, schedule a consultation here and read up on whether you need a crypto lawyer.