Securities Snapshot
November 2, 2021

Ninth Circuit Holds that Purchasers of Unregistered Shares in Slack’s Direct Listing May Bring Securities Act Claims

Ninth Circuit Holds that Purchasers of Unregistered Shares in Slack’s Direct Listing May Bring Securities Act Claims; Small Class of Crypto Purchasers Recommended for Certification; Tether to Pay $41 Million to Settle Allegations Stablecoins Not Fully Backed as Represented; and Music Streaming Service Akazoo to Disgorge $35 Million to Settle Fraud Charges.

On September 20, 2021, the U.S. Court of Appeals for the Ninth Circuit held that shareholders could assert Securities Act of 1933 claims challenging the accuracy of Slack Technology, Inc.’s registration statement even if they purchased unregistered shares in Slack’s direct listing. In affirming the district court’s refusal to dismiss the case on standing grounds, a divided panel concluded that the plaintiff had statutory standing to sue despite being unable to establish whether he purchased registered or unregistered shares. This decision is significant because it appears to reflect a departure from well-established limitations on statutory standing for such claims.

In connection with Slack’s 2019 direct listing, Slack shares registered pursuant to Slack’s registration statement became available for public sale at the same time as unregistered Slack shares became available for public sale. Following the direct listing, plaintiff filed a putative class action on behalf of Slack shareholders against Slack, its officers and directors, and certain institutional investors, alleging violations of Sections 11, 12(a)(2), and 15 of the Securities Act of 1933 on the grounds that statements in Slack’s registration statement were false and misleading. Defendants moved to dismiss, arguing that plaintiff lacked standing to sue because he did not sufficiently allege that the Slack shares he purchased were registered under the challenged registration statement. The district court denied defendants' motion to dismiss in part and defendants filed an interlocutory appeal with the Ninth Circuit on the issue of statutory standing.

The Ninth Circuit affirmed the district court’s holding the plaintiff had standing to sue. The majority of the panel concluded that Section 11 applied to unregistered Slack shares sold in the direct listing because their public sale depended on the existence of an operative registration statement as New York Stock Exchange Rules require a company to file a registration statement to engage in a direct listing. The majority of the panel also noted that interpreting Section 11 as applying only to registered shares with respect to a direct listing “would essentially eliminate Section 11 liability . . . in a direct listing for both registered and unregistered shares,” “create[ing] a loophole large enough to undermine the purpose of Section 11 as it has been understood since its inception.” Employing similar reasoning, the majority of the panel also concluded that Section 12(a)(2) applied to unregistered Slack shares because the prospectus was part of the offering materials that were required for shares to be sold to the public.

The Ninth Circuit’s decision appears to be a significant departure from well-established limitations on which investors have statutory standing for purposes of Section 11 and 12(a)(2) claims. To the extent it is not overturned, direct listings in which registered and unregistered shares became available for public sale simultaneously will be subject not only to fraud-based claims under the Securities Exchange Act of 1934 but also to Section 11 and 12(a)(2) claims.

Small Class of Crypto Purchasers Recommended for Certification

On October 21, 2021, a U.S. District Court for the Southern District of New York magistrate judge recommended certifying a class in a suit against online crypto-asset exchange KuCoin and certain of its executives.

Plaintiff alleged that KuCoin and its executives violated federal and state securities laws by, among other things, transacting in unregistered securities and failing to register KuCoin as a securities exchange and as a securities broker-dealer. Plaintiff alleged that he purchased TOMO digital tokens on KuCoin and sought certification of a class that included purchasers of TOMO or any of nine other types of digital tokens on KuCoin. Plaintiff estimated that the class he sought to represent included 1,694 people in the United States, of which only 26 held TOMO digital tokens.

The court recommended that a class limited to purchasers of TOMO digital tokens be certified, concluding that plaintiff lacked standing to represent purchasers of types of digital tokens that he himself had not purchased. The court reasoned that while the plaintiff had a sufficient stake in the asserted claims with respect to the TOMO digital token, he did not with respect to the other digital tokens: “[Plaintiff] can obtain full recovery for his injury by demonstrating that TOMO [t]okens are securities; he need not introduce evidence with respect to any other [t]okens to establish that fact or any other material fact such as whether KuCoin was or was not a registered exchange or broker-dealer at the relevant time. [Plaintiff’s] incentives thus are not sufficiently aligned with those of absent class members who purchased the [t]okens that he did not.” The court further observed that for each digital token, proving it was a security would require a “factually intense” inquiry.

While the putative class was thus limited to 26 members, the court nonetheless concluded that the class was sufficiently numerous to render class treatment appropriate because “[j]uidical economy will be served by proceeding in one action rather than 26 individual actions, and there is no reason to believe that the TOMO [t]oken purchasers are geographically concentrated in a manner that would aid joinder to alleviate that concern.” 

Tether to Pay $41 Million to Settle Allegations Stablecoins Not Fully Backed as Represented

The first Commodity Futures Trading Commission enforcement action against a major stablecoin (a virtual currency whose value is pegged to fiat currency) has resulted in a significant fine. On October 15, 2021, the CFTC issued an order simultaneously filing and settling charges against entities associated with the Tether virtual currency, USDt, in connection with claims that Tether made false representations between June 2016 and February 2019 that it maintained sufficient U.S. dollar reserves to back each USDt in circulation. The CFTC found that Tether had misrepresented that it maintained sufficient fiat reserves to back every USDt in circulation “one-to-one” and that it maintained 100% reserves at all times, when in fact at times the USDt were backed by various non-fiat assets in accounts that were not held by Tether and that were not routinely audited or tracked in real time. Without admitting or denying those findings, Tether agreed to pay a $41 million penalty and to cease and desist from future violations.

The Tether order marks the first time that the CFTC has applied the Commodity Exchange Act’s broad definition of a “commodity” to a stablecoin. In connection with the order, however, CFTC Commissioner Dawn D. Stump issued a statement “reiterat[ing] [her] concern that enforcement actions . . . involving digital assets may cause confusion about the CFTC’s role in this area” and that the CFTC “should seek to ensure the public understands that we do not regulate stablecoins and we do not have daily insight into the businesses of those who issue such.”

Music Streaming Service Akazoo to Disgorge $35 Million to Settle Fraud Charges

On October 27, 2021, the SEC announced a settlement with digital music streaming service Akazoo S.A. over allegations that Akazoo defrauded investors out of tens of millions of dollars.

Akazoo was formed in a 2019 merger with a special purpose acquisition vehicle, or SPAC. The SEC alleged that the $54.8 million raised from investors in connection with the merger was obtained by Akazoo “grossly misrepresenting the nature and success of its music streaming business.” According to the SEC, Akazoo claimed to have millions of paying monthly subscribers and over $124 million in annual revenue when in fact it had no paying users and no appreciable revenue. Following an April 2020 short-seller report claiming that Akazoo was engaged in fraud, the Akazoo board initiated an internal investigation and thereafter publicly disclosed the investigation’s finding that Akazoo management had engaged in fraud.

In its settlement with the SEC, Akazoo, without admitting or denying the SEC’s allegations, agreed to disgorge the net profits gained as a result of the allegedly wrongful conduct. Pursuant to the settlement agreement, that obligation will be satisfied by Akazoo paying $35 million to allegedly defrauded investors in related private lawsuits pending in New York federal court and Georgia state court.

Kate E. MacLeman

Dorothy Hazan
Jessica Huang
Viktors Dindzans