Ripple Vs. SEC: The Battle for the Crypto Industry

At the end of 2020, the U.S. Securities and Exchange Commission (SEC) filed formal charges against Ripple Labs. The regulator’s claims were lodged with the District Court for the Southern District of New York more than two years ago, but a final ruling on the case is still pending.

Let’s find out the main reason for the regulator’s claims against the crypto company and what impact the outcome of this lawsuit could have on the industry.

What’s Behind the Parties’ Disagreement?

Ripple Labs has been operating since 2012. The Ripple NET protocol created by the company became one of the first tools to solve the problem of prompt financial transfers. Ripple NET is something like SWIFT but based on distributed ledger technology (DLT) and with the native token XRP as the main currency. XRP was a stumbling rock in the conflict between the regulator and Ripple. 

In 2013, Ripple Labs conducted its first successful ICO using XRP, and by 2020, it had raised a total of ~$1.38 billion in investments. The SEC accused the company, its CEO Brad Garlinghouse, and Co-Founder Chris Larsen of improperly raising capital “through an unregistered securities offering.”

The SEC claimed that XRP wasn’t a cryptocurrency like ETH or BTC but a security. Therefore, Ripple Labs representatives should’ve registered XRP before offering users to buy it. The lawsuit was based on the SEC’s assertion that XRP was Ripple’s primary funding vehicle for seven years.

The regulator also asked the court to compel the company’s executives to disclose all financial information about XRP’s issuance and properly register the token with the SEC. In a statement of claim, the SEC said their intentions were primarily to prevent fraud and protect investors from financial loss.

Why Is the Lawsuit Lasting So Long?

The SEC’s case against Ripple Labs draws particular attention from the community primarily because the company has essentially become the regulator’s first “worthy adversary.” The fact is that such lawsuits are filed by the SEC against various cryptocurrency companies quite often. 

Among these kinds of attacks by the regulator on crypto projects are:

• The lawsuit against Block.one. The regulator accused the EOS token developer of illegally selling securities in 2017. The defendant paid a $24 million fine to the SEC.
• The lawsuit against KIK. The SEC accused the cryptocurrency platform of distributing unregistered securities. In 2019, the court ordered the defendant to pay a $5 million fine.
• The lawsuit against Thor Technologies. The regulator accused the crypto project’s executives of violating the Securities Act. The dispute was settled in 2022. The company paid about half a million dollars to the SEC.

There are lots of such examples, and most of these cases don’t even make it to trial. Defendants decide not to “pick a fight.” They comply with the regulator’s requirements and pay a fine. According to the SEC, in 2020, they were able to recover more than $4.68 billion in fines from various crypto companies this way.

That was apparently what the SEC reps were counting on, but Ripple Labs’ lawyers saw this process as an opportunity to break the vicious circle. The point is that any decision of this lawsuit can set a legal precedent to be used in similar disputes in the future. 

If the SEC proves that XPR is a security, the regulator will be able to require reporting from any cryptocurrency project and even ban companies that have ever conducted ICOs. 

On the other hand, if Ripple Labs wins the lawsuit, the SEC will no longer be able to file similar lawsuits against crypto companies and possibly lose its authority to make any decisions regarding the regulation of the cryptocurrency market at all. If XRP isn’t recognized as a security, then native token issuers won’t have to report to the regulator. Moreover, native tokens will be de jure considered a separate financial instrument, which will require another regulator or even a new supervisory body to be appointed.

Further Developments and Stances of the Parties

The crux of the process comes down to the SEC’s attempt to prove that the purchase of XRP involves an “investment contract.” That is, Ripple investors entered into some sort of agreement with the company to buy and sell financial tools. The SEC alleges that investors were counting on XRP’s price to rise not because of market trends, as is the case with cryptocurrencies, but because of the company’s own growth. Ripple, in turn, denies this.

Ripple’s lawyers pointed out that the term “investment contract” isn’t precisely defined under the Securities Act. Therefore, the court can only rely on the 1946 precedent mandating that those financial instruments that meet the basic criteria in the Howey Test be considered an “investment contract.”

The SEC argued that XRP meets those criteria because:

• Investors bought XRP expecting a return commensurate with the share of tokens in the Ripple NET.
• Ripple Labs represented XRP as an investment product, advertising the token as a financial instrument.
• XRP holders expressed confidence that their profits would grow through the company’s development, which in turn actively increased XRP’s liquidity and “usefulness.”

Ripple Labs’ lawyers, for their part, stressed that the points above were clearly missing from the Howey Test. The defense also noted that there was no actual “contract” between XRP investors and the issuer, so the token shouldn’t be called an “investment” financial instrument. In other words, all of Ripple Labs’ efforts to promote XRP can’t be seen as a bilateral commitment since there’s no actual confirmation of the company’s intentions when issuing the token nor of investors’ expectations after purchasing it.

The legal battle over whether the Howey Test applies to XRP has dragged on for more than a year and a half, but court officials haven’t ruled on its validity in the case. 

However, analysts say the process has passed to the final stage. The statement made by Ripple’s lawyers in September 2022, in which they pointed to the inconsistency of the regulator’s accusations, became a turning point. As evidence, the lawyers cited a statement from William Hinman, Former Director of the SEC’s Division of Corporation Finance. During a speech at the Yahoo Finance All Markets Summit in San Francisco in June 2018, the former senior executive publicly denied that BTC and ETH belonged to securities. Ripple’s lawyers asked the court to consider his statement in the current case.

The court ordered the SEC to disclose all internal documents related to Hinman’s statement. Officials filed a petition to withhold the papers, citing their confidentiality and also arguing that their ex-employee’s opinion “does not necessarily reflect those of the Commission.” The court turned down the petition and ordered the documents disclosed. The process could be deemed closed if the SEC’s internal documents prove the fact that Hinman “obtained legal advice from SEC counsel in drafting his speech.”

Yet, the SEC still has another ace in the hole that the regulator didn’t use in the process — a court ruling in a case against Telegram LLP regarding the Gram token. In 2020, the court ruled that the scheme to attract investments using Gram was nothing more than an investment contract, although the token wasn’t recognized as a security. So, it’s possible that if the SEC manages to use the documents in this current lawsuit, Ripple will lose.

How Is the Litigation Affecting Ripple and XRP?

The litigation has negatively impacted the value of XRP, but on closer examination, the two-year legal battle with the SEC has benefited Ripple in a sense.

XRP’s price halved in that time. According to CoinGecko, the token dropped immediately after word of the lawsuit against Ripple Labs went public, from $0.52 to $0.23. Major crypto exchanges such as Coinbase, Galaxy Digital, OKCoin, and Bitstamp suspended the asset’s trading. Some crypto industries, such as Crypto.com, decided to limit access to XRP to U.S. residents during the trial. As a result, XRP’s market cap dropped dramatically.

However, despite the market challenges, Ripple Labs managed not only to stay afloat but also gained new partners. First of all, it’s due to its resilience against the attacks of the U.S. regulator, which was appreciated by representatives of global financial institutions. 

From 2021, the company began actively negotiating with central banks on joint development within the framework of pilot projects of state digital currencies (CBDC). In March, the company announced that it had begun testing a private version of the public XRP Ledger, which was created specifically for the CBDC launch. 

Since 2021, Ripple has been directly involved in public digital currency projects in countries such as:

• Bhutan. In September 2021, Ripple announced a partnership with the country’s Royal Monetary Authority (RMA) for the CBDC pilot.
• The United Kingdom. In October 2021, Ripple co-founded the Digital Pound Foundation, a non-profit organization whose main goal is to help develop and launch the digital pound.
• The United States. In September 2022, it was revealed that Ripple was involved in the development of a tech sandbox program for the digital dollar.
• Palau. In December 2022, the company partnered with the government to explore the possibility of creating a state-owned stablecoin.
• Montenegro. In January 2023, a pilot state digital currency project was started with Ripple’s assistance.

The company also achieved great success through cooperation with various financial institutions and large commercial banks. Notable Ripple partners include:

• Japanese financial giant SBI Holdings. Ripple partnered with Hamamatsu Iwata Bank to provide international money transfers.
• South Korean non-bank transfer provider Global Money Express Co. Ltd (GME Remittance). Thanks to Ripple, the firm gained access to fast transactions between South Korea and Thailand.
• British payment firm Paydek. The company uses Ripple’s expertise to provide fast cross-border transfers to Latin American countries.
• Pakistani Bank Alfalah and Arab financial services provider LuLu Exchange. The volume of remittances between the countries increased precisely because of the partnership with Ripple in November 2021.
• The National Bank of Australia (NAB), Israel’s Bank Leumi, and the Canadian Imperial Bank of Commerce (CIBC). The organizations used Ripple technology to make international payments.
• Digital bank Travelex. The company uses the Ripple payment system for cross-border transfers between Brazil and Mexico.
• Lithuanian provider of international online transfers FINCI. The firm leverages Ripple’s On-Demand Liquidity (ODL) solution to provide business payments between Lithuania and Mexico.

In total, transactions on the Ripple Net platform reached a record $15 billion in 2022. Ripple developers began testing an EVM-compatible side-chain that is intended to extend XRP’s functionality on Ethereum.

To sum up, it’s worth noting that Ripple Labs has made significant progress over the past few years despite the lawsuits. The outcome of the lawsuit against the SEC will affect the company in any case, but large parts of the financial world are unlikely to give up on the technology offered by Ripple, even if the company loses in court. Such an outcome would only limit the distribution of Ripple’s technology in the United States.