The United States Securities and Exchange Commission delivered a seismic shock to the cryptocurrency industry on December 22, 2020, filing a landmark lawsuit against Ripple Labs Inc. and two of its top executives for conducting what the regulator describes as a $1.3 billion unregistered securities offering through the sale of XRP tokens since 2013.
The complaint, filed in federal district court in Manhattan, names Ripple Labs along with Christian Larsen, the company’s co-founder and executive chairman of its board, and Bradley Garlinghouse, Ripple’s current CEO. The SEC alleges that the defendants raised capital to finance the company’s business through the sale of digital assets known as XRP in an unregistered securities offering to investors across the United States and worldwide.
TL;DR
- SEC files lawsuit against Ripple Labs, CEO Brad Garlinghouse, and co-founder Christian Larsen on December 22, 2020
- Regulator alleges $1.3 billion in unregistered XRP securities sales dating back to 2013
- Larsen and Garlinghouse personally sold approximately $600 million in unregistered XRP
- XRP price crashes 31% in a single day, falling to $0.4484 with a 13.25% 24-hour decline
- Major exchanges including Coinbase, Crypto.com, and OKCoin announce XRP trading suspensions
The $1.3 Billion Allegation
According to the SEC’s 71-page complaint, Ripple raised funds beginning in 2013 through the sale of XRP tokens to investors without registering the offering under the Securities Act of 1933 or satisfying any exemption from registration. The complaint alleges that Ripple also distributed billions of XRP in exchange for non-cash consideration, including labor and market-making services.
Christian Larsen and Bradley Garlinghouse, in addition to structuring and promoting the XRP sales used to finance Ripple’s business, allegedly effected personal unregistered sales of XRP totaling approximately $600 million. The SEC claims that over 14.6 billion XRP tokens were sold over the course of seven years, generating nearly $2 billion in total proceeds when accounting for both corporate and individual sales.
The Howey Test Applied to XRP
Central to the SEC’s case is the application of the Howey test, derived from the 1946 Supreme Court case SEC v. W.J. Howey Co. The test defines an “investment contract” as an investment of money in a common enterprise with a reasonable expectation of profits derived from the entrepreneurial and managerial efforts of others.
The SEC argues that XRP investors had a reasonable expectation of profits because of Ripple’s entrepreneurial and management efforts. From the outset, the defendants marketed XRP as an investment and promised investors that Ripple would develop and maintain a public market for XRP holders to resell their tokens. Ripple’s efforts to create and maintain a liquid market reportedly included listing XRP on cryptocurrency exchanges, selling XRP to institutional investors, and managing the price of XRP through sales, buy-backs, and an escrow arrangement for the XRP retained by the company.
Notably, the complaint reveals that Ripple received legal advice as early as 2012 suggesting that XRP tokens might qualify as “investment contracts” and therefore securities under federal law. Despite this early warning, Ripple allegedly took no steps to register the XRP tokens under the Securities Act or to find an exemption from registration.
The ODL Question
In late 2018, five years after Ripple began selling XRP, the company developed a non-speculative use case for XRP as an element of a cross-border payments system called On-Demand Liquidity (ODL). However, the SEC maintains that ODL is merely a post hoc attempt to justify Ripple’s position that XRP is not a security. The complaint states that ODL is not an economically viable product and that Ripple paid its principal ODL customer over $50 million through 2020 to subsidize the use of the system.
Market Devastation and Exchange Delistings
The immediate market impact was brutal. XRP, which had been the third-largest cryptocurrency by market capitalization after Bitcoin and Ethereum, saw its price plummet 31% on December 22, settling at approximately $0.4484 with a 24-hour decline of 13.25%. The token had already lost 75% of its value since hitting a two-year high in early November 2020, when investors had piled into cryptocurrencies amid a weakening US dollar.
While Bitcoin traded at $23,783 and Ethereum at $634.85 on the same day, the broader cryptocurrency market capitalization stood at approximately $640 billion, reflecting a sector in the midst of a significant bull run that the Ripple lawsuit threatened to disrupt.
The fallout extended well beyond price action. Leading cryptocurrency exchanges and financial platforms moved swiftly to distance themselves from XRP. Coinbase, the largest US-based exchange, announced it would suspend XRP trading pairs effective January 19, 2021. Crypto.com, OKCoin, Binance.US, and Wirex all followed with similar suspensions. Grayscale Investments, the world’s largest digital currency asset manager, removed XRP from its large-cap crypto fund.
Phil Liu, chief legal officer at Arca, offered a blunt assessment: “XRP, the coin, is one foot in the grave. Ripple, the company, may be insolvent by the end of 2021 if it can’t raise money by selling XRP and its other products aren’t profitable.”
Precedent and Context
The Ripple lawsuit follows high-profile SEC enforcement actions against Kik Interactive Inc. and Telegram Group Inc. in 2019. Telegram settled with the SEC in June 2020, returning $1.2 billion to investors, while a federal judge granted summary judgment in the Kik case in September 2020, ruling that Kik’s “Kin” tokens were securities and that the sale of nearly $100 million in tokens should have been registered. Kik was enjoined from further violations and paid a $5 million fine.
SEC Enforcement Division Director Stephanie Avakian emphasized the importance of registration requirements: “Issuers seeking the benefits of a public offering, including access to retail investors, broad distribution, and a secondary trading market, must comply with the federal securities laws.”
Why This Matters
The SEC’s action against Ripple represents one of the most consequential regulatory moves in cryptocurrency history. By targeting the third-largest digital asset and classifying it as an unregistered security, the SEC sent shockwaves through an industry still grappling with fundamental questions about which tokens qualify as securities. The case establishes a critical precedent for how regulators may approach other major cryptocurrencies and could reshape the compliance landscape for token issuers worldwide. For investors, the rapid delisting of XRP from major platforms demonstrates the existential risk that regulatory action poses to even the most established digital assets.
Disclaimer: This article is for informational purposes only and does not constitute financial or legal advice. Cryptocurrency investments carry significant risk. Always conduct your own research before making investment decisions.