Ripple: Davos man no longer

Financial Times
01/05/2021

How the SEC’s case against Ripple Labs knocks crypto’s establishment dreams.

Back in 2016, within the taupe-coloured finishings of the main Davos conference centre used by the World Economic Forum to shut down the Swiss ski resort every year, this reporter and the FT’s Gillian Tett met with Chris Larsen, then head of Ripple Labs.

It was January 22, the last formal day of the week-long Alps fest.

A low-key Larsen told us over he had come to Davos -- his first time -- because he felt it was a great place to network and spread the news about his new payment system. The mainstreamness of Davos didn’t bother Larsen. Unlike the rest of the crypto space, which famously eschewed traditional financiers, Larsen wanted Ripple to be seen as one of the grown-ups; as a serious offering that bankers would want to work with. That’s why it made sense to be at Davos.

Just a couple of years later Larsen would briefly become the fifth-richest man in the world, in paper terms, due to the soaring value of Ripple’s underlying tokens, known as XRP, he had come to Davos to indirectly pitch by promoting his system.

At the time of our Davos meeting, Ripple was still an obscure system not many outside of the “crypto space” had really heard of. And even within it there wasn’t much love for it because, unlike the rest of the world of crypto, Ripple Labs had controversially embraced centralisation -- operating a bit like a central bank with its own supply.

While the crypto world remained suspicious, the banking community was more open-minded to dealing with a crypto firm that promised to behave like an adult. What began in Davos ended with a number of high-level financial institutions embracing “proof of concepts” using Ripple technology, the most of prominent of which was Santander.

Ripple’s charm offensive went so far as to open the door to a project with the Bank of England. A freedom of information request to the BoE about the project in 2019 received a response noting that: “in 2017 the Bank undertook a proof of concept (‘PoC’) exercise with Ripple which was one of a number of PoCs which it undertook with several companies.” How much it paid Ripple for the deal was undisclosed, due to confidentiality provisions.

Even so, most of these types of experiments went nowhere.

“Unlike its competitor R3, it struggled to gain traction among financial institutions which, according to my friends in the City, had regulatory compliance concerns about Ripple’s public token component,” Preston Byrne, a partner at US-based Anderson Kill specialising in crypto advocacy, told FT Alphaville on Tuesday.

This week, nearly five years after that Davos tour, the Securities and Exchange Commission revealed it had filed an action against Ripple Labs Inc including Ripple co-founder Chris Larsen and current CEO Brad Garlinghouse for “raising funds beginning in 2013 through the sale of digital assets known as XRP in an unregistered securities offering to investors in the US and worldwide”.

The suit goes on to note:

Ripple also allegedly distributed billions of XRP in exchange for non-cash consideration, such as labor and market-making services. According to the complaint, in addition to structuring and promoting the XRP sales used to finance the company's business, Larsen and Garlinghouse also effected personal unregistered sales of XRP totaling approximately $600 million. The complaint alleges that the defendants failed to register their offers and sales of XRP or satisfy any exemption from registration, in violation of the registration provisions of the federal securities laws.

Critics of Ripple, especially the legally minded, had always claimed the organisation could find itself in hot water for having conducted an illegal security sale. Ashton Kutcher’s prominent giveaway of Ripple on the Ellen DeGeneres show in 2018 was flagged as a particular concern. Watch for yourself, it’s quite a moment:

Back in 2016, within the taupe-coloured finishings of the main Davos conference centre used by the World Economic Forum to shut down the Swiss ski resort every year, this reporter and the FT’s Gillian Tett met with Chris Larsen, then head of Ripple Labs.

It was January 22, the last formal day of the week-long Alps fest.

A low-key Larsen told us over he had come to Davos -- his first time -- because he felt it was a great place to network and spread the news about his new payment system. The mainstreamness of Davos didn’t bother Larsen. Unlike the rest of the crypto space, which famously eschewed traditional financiers, Larsen wanted Ripple to be seen as one of the grown-ups; as a serious offering that bankers would want to work with. That’s why it made sense to be at Davos.

Just a couple of years later Larsen would briefly become the fifth-richest man in the world, in paper terms, due to the soaring value of Ripple’s underlying tokens, known as XRP, he had come to Davos to indirectly pitch by promoting his system.

At the time of our Davos meeting, Ripple was still an obscure system not many outside of the “crypto space” had really heard of. And even within it there wasn’t much love for it because, unlike the rest of the world of crypto, Ripple Labs had controversially embraced centralisation -- operating a bit like a central bank with its own supply.

While the crypto world remained suspicious, the banking community was more open-minded to dealing with a crypto firm that promised to behave like an adult. What began in Davos ended with a number of high-level financial institutions embracing “proof of concepts” using Ripple technology, the most of prominent of which was Santander.

Ripple’s charm offensive went so far as to open the door to a project with the Bank of England. A freedom of information request to the BoE about the project in 2019 received a response noting that: “in 2017 the Bank undertook a proof of concept (‘PoC’) exercise with Ripple which was one of a number of PoCs which it undertook with several companies.” How much it paid Ripple for the deal was undisclosed, due to confidentiality provisions.

Even so, most of these types of experiments went nowhere.

“Unlike its competitor R3, it struggled to gain traction among financial institutions which, according to my friends in the City, had regulatory compliance concerns about Ripple’s public token component,” Preston Byrne, a partner at US-based Anderson Kill specialising in crypto advocacy, told FT Alphaville on Tuesday.

This week, nearly five years after that Davos tour, the Securities and Exchange Commission revealed it had filed an action against Ripple Labs Inc including Ripple co-founder Chris Larsen and current CEO Brad Garlinghouse for “raising funds beginning in 2013 through the sale of digital assets known as XRP in an unregistered securities offering to investors in the US and worldwide”.

The suit goes on to note:

Ripple also allegedly distributed billions of XRP in exchange for non-cash consideration, such as labor and market-making services.According to the complaint, in addition to structuring and promoting the XRP sales used to finance the company's business, Larsen and Garlinghouse also effected personal unregistered sales of XRP totaling approximately $600 million. The complaint alleges that the defendants failed to register their offers and sales of XRP or satisfy any exemption from registration, in violation of the registration provisions of the federal securities laws.

Critics of Ripple, especially the legally minded, had always claimed the organisation could find itself in hot water for having conducted an illegal security sale. Ashton Kutcher’s prominent giveaway of Ripple on the Ellen DeGeneres show in 2018 was flagged as a particular concern.

Ripple Labs, in anticipation of such challenges, has for a long time been committed to a PR offensive that has hotly contest any connection between itself and XRP. This has focused on building a narrative that control of the underlying token-infrastructure was impossible because of its decentralised support structure. It’s a narrative that was echoed in its official Wells response this week:

XRP transactions take place on the XRP Ledger (“XRPL”), a decentralized, cryptographic ledger powered by a network that is not controlled or owned by any one party. The XRPL has successfully recorded hundreds of millions of transactions for over eight years without error or dispute.

In 2016 it was clear the organisation was trying to take steps to reduce its dependence on XRP -- increasingly pushing technological solutions focused around ledger interoperability so as to better woo and hook the banks on its systems. “Banks don't have to use XRP and to date they haven't,” a Ripple PR summed up for us after our meeting with Larsen. “We're first focused on creating existing fiat currency liquidity on Ripple. We see this as the foundational layer - make the world's banks interoperable so money moves inexpensively and instantly around the world.”

But as Byrne notes, the contradictions seemed ever-present:

For nearly a decade it [XRP] has hovered in the top ten cryptos by market capitalization and even now, even after this lawsuit has been filed, ranks only behind Ethereum and Bitcoin in terms of importance to the markets. It has also been the envy of companies everywhere who wonder why Ripple should be permitted to print money when they cannot. For a time, Ripple was a contender to win the “blockchain” game. In 2013-14 it counted itself among one of perhaps half a dozen choices major banks could adopt for enterprise blockchain experimentation.

And even in 2016 there was vagary about who exactly was representing XRP. In a follow-up email, Chris Larsen’s PR confirmed to us that XRP units were majority-owned by Ripple management, with 66bn XRP held by Ripple and 33bn by others, adding that “we continue to distribute it every week to institutional investors and market makers”. She also noted XRP was “fundamental to the existence of the Ripple network”, adding that they were developing an incentive programme to offset market makers’ costs “when they were providing liquidity against XRP” as part of their longer-term plan to make XRP a key bridging asset in FX transactions.

In the end, Byrne notes, banks’ compliance concerns appear not to have been misplaced, as is laid bare by the SEC’s complaint. The regulator, he says, is arguing that at all relevant times, starting in 2013 when XRP was first created and up to and including parts of 2020, XRP itself "was an investment contract and therefore a security subject to the registration requirements of the federal securities laws".

The implications of the case are profound for crypto. If the SEC action is successful it would set a precedent that all widely traded cryptocurrency should be redesignated and regulated as a security, something the agency has hesitated to establish up until now.

This may concern other cryptocurrencies such as Ethereum and Eos, which unlike Bitcoin were pre-sold to the public in a similar fashion, notes Byrne.

The SEC is a law enforcement agency so its allegations are allegations and must be proven in court. It appears from this complaint that the SEC seeks to end XRP. American regulators have so far not been persuaded by arguments from cryptocurrency professionals that investor protection laws should be disapplied to novel crypto offerings. Although cryptocurrency technology development – protocol dev, consensus engineering and layer 2 – will continue in the United States, this action signals that the U.S. is likely to be hostile to ICOs unless and until legislative change takes place.

2016, of course, turned out to be a funny year at Davos. It was the first year that Klaus Schwab, the head of WEF, officially went big on the idea of an incoming Fourth Industrial Revolution that would change the entire global system. Talk of robots, platforms and joblessness was everywhere. Talk of crypto -- or more specifically blockchain -- was also doing the rounds. High-level celebrity presence included Leonard DiCaprio, Will.I.Am and Kevin Spacey. On the political front, it was Justin Trudeau’s big year and even Joe Biden popped over to say hi.

Despite all of the networking and all of the hype, absolutely nobody seemed to foresee the two major events that would shake the world that year: Brexit, and the election of Donald Trump. It feels apt, perhaps, that it was also the year Chris Larsen managed to ripple his way through the conference without so much as a query about the legal fundamentals of his system from the high-level financiers there.

Related People

Blockchain and Virtual Currency Attorney | Anderson Kill
Preston Byrne
Partner
New York

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