In December of 2020, the Securities and Exchange Commission dropped a bomb on the crypto industry by suing one of its most prominent companies, Ripple, as well as two of the firm's top executives.
The case, which turns on whether Ripple and its executives sold unlicensed securities in the form of the token XRP, poses an existential threat to both the company and the broader industry. If a judge concludes that XRP is a security, Ripple likely will crumble, and the ruling will give the SEC a powerful weapon to go after other blockchain projects.
Despite this pressure, Ripple has refused to settle. Instead, it has tried to turn the tables on the SEC, mounting an aggressive legal defense and very publicly calling out questionable behavior by the agency. Now, nearly a year and a half after it begun, the case is heading for a critical juncture.
Has either side gained the upper hand, and has the potential outcome become any clearer? A look at key developments so far, along with the perspective opinion of securities law experts, offers some clues.
SEC v. Ripple: Who has the edge so far?
When companies face an SEC lawsuit, they typically settle rather than fight. That's because the SEC only sues when it believes it has a strong case, and because litigation is horribly expensive.
Money, however, is not an issue for Ripple. The company has raked in enormous sums by selling XRP, meaning it has resources to hire the country's top securities lawyers, including former SEC Chair Mary Jo White.
But as some have noted, the best lawyers in the world won't help a defendant who's clearly in the wrong. "Hiring Mary Jo White is meaningless—it just means they have a lot of money. You can hire fancy law firms ... but the law is the law," crypto lawyer Stephen Palley, who's skeptical of Ripple's chances, told Decrypt last year.
Nonetheless, Ripple's legal team has notched some notable victories in the early stages of the case, including winning the right to depose a former SEC executive, Bill Hinman, and forcing the agency to hand over documents that describe some of its internal deliberations.
While the specific contents of the documents—including minutes of internal SEC meetings—have yet to become public, they are likely to strengthen Ripple's hand when it comes to claiming that the agency's crypto policy has been arbitrary and unclear.
Meanwhile, revelations about Hinman, the agency's former director of corporate finance, could prove embarrassing to the SEC. His behavior has already raised eyebrows due to his 2018 decision to declare that Ethereum was not a security based on a novel legal test. Shortly after, he quit the SEC to return to his law firm, which has ties to the Ethereum Foundation.
Documents filed by the SEC in the Ripple case suggest the agency will try to portray Hinman as a rogue agent who acted on his own when it came to Ethereum—a tactic that could help rebut Ripple's claims that that the agency has acted arbitrarily in deciding which tokens are securities. It's unclear if this tactic will work, however, and it's possible that Ripple obtained evidence during its deposition of Hinman that could undermine the SEC's case.
Ripple had less success in forcing the SEC to turn over documents about crypto trading by the agency's own staff. The company had hoped to show the agency had long been indifferent to such trading—which, if true, would have helped Ripple made the case the SEC itself did not regard XRP and other tokens as securities. But in this case Magistrate Judge Sarah Netburn agreed that any such documents were privileged and could not be part of the case.
The upshot is that's unclear if Ripple, in the pre-trial stage of the case, has found any smoking gun among the SEC's papers, or whether its aggressive tactics will yield any advantages.
"I would say based on the discovery decisions, it looks like the Ripple defendants’ strategy of 'putting the SEC on trial' has had mixed results," said Peter Fox of Scoolidge Peters Russotti & Fox. "Of course, again, we don’t know what material they’ve obtained where they have had success."
Meanwhile, Netburn has rejected attempts by Ripple CEO Brad Garlinghouse and co-founder Chris Larsen to throw out the case against them on a so-called motion to dismiss. This means the SEC presented enough evidence in the early stages to allow the case to proceed further, and means the executives personally remain in legal peril.
"We will continue to fight hard in defending this case so that the industry can get the needed clarity it deserves to move forward and thrive. And while we would have preferred the cases against Brad and Chris to end now, the Court has decided to make the SEC prove its claims. We are confident that ultimately all of the SEC’s claims will be dismissed," Stuart Alderoty, the company's top lawyer, said in response to the judge's refusal of the motion to dismiss.
The SEC, meanwhile, suffered a setback of its own last month when Netburn refused to strike one of Ripple's main defenses—that it would be unfair to hold the company and its executives liable given that the agency had failed to issue clear rules as to whether tokens like XRP were securities in the first place. Some attorneys regard this as the strongest defense for both the company, and Garlinghouse and Larsen.
All of these procedural developments may, however, prove relatively insignificant in the larger context of the case. According to Preston Byrne, a longtime crypto attorney with Anderson Kill, Ripple is still behind the eight ball when it comes to the so-called Howey Test—a four-part test established by the Supreme Court in 1946 to show whether something is a security.
"The back and forth on the Ripple case is reasonably typical pretrial stuff that doesn't really speak to the merits of the case. I think Ripple's likelihood of success on the merits is low and largely unchanged," said Byrne. "The SEC alleges that the company engaged in a rolling offering of its tokens to the investing public in the manner of an investment contract, a view broadly shared among the members of the American crypto bar."
While the procedural tussles between the SEC and Ripple have been unsurprising, what is surprising is how slowly the case has progressed. Not long after the SEC sued Ripple, Garlinghouse predicted the parties would have their day in court as soon as last fall—now a final decision is unlikely before 2023.
What's taking so long—and is the delay significant?
As the case as dragged on, Garlinghouse and other Ripple executives have taken the unusual step of publicly trolling the SEC, suggesting it miscalculated in going after the company. For example, Alderoty recently took to Twitter to note that SEC Chair Gary Gensler isn't a lawyer "but once visited a law library."
And this week, Alderoty pointed to an 11th hour procedural filing by the SEC to suggest the agency was deliberately slow-rolling the process.
And to those asking if this is a joint filing - yes it is. But, based on the SEC's track record, if we didn't agree to this, the next iteration would have very likely been even longer.
— Stuart Alderoty (@s_alderoty) April 22, 2022
Fox, the crypto lawyer, isn't convinced that the last-minute filings by the SEC are a deliberate attempt to stall.
"I don't think it would be right to interpret the latest discovery twist as evidence of foot-dragging. Instead, it appears that the SEC was just trying to get in the last word in the battle of the experts by submitting third report, after its expert’s rebuttal report was (apparently effectively) rebutted by Ripple’s expert rebuttal report," said Fox.
Whatever the reason for the delay, the stakes have only grown higher since the SEC sued in 2020. Since that time, crypto regulation has moved to the forefront of the policy agenda in Washington, D.C., as the industry has increased its political clout, and as the Biden administration has turned to crypto as a key source of tax revenue.
The stakes have also grown higher for Gensler personally. According to a former high-level SEC staffer, who spoke on the condition of anonymity, Gensler decided at the outset of his chairmanship to take a hard line against crypto in order to increase his public profile, and to win favor among progressives in hope of becoming Treasury Secretary.
The SEC did not respond to a request for comment about Gensler's motives or the agency's strategy in the Ripple case.
None of this, however, has a bearing on the legal outcome of the Ripple case, which Fox predicts is likely to be resolved by summary judgment—an outcome where a judge decides a case based on the legal filings rather than on testimony given at trial.
Based on the latest schedules filed in the case, the judge's ruling on summary judgment motions is likely to come in early 2023. Barring new crypto legislation in Congress—something expected to arrive in mid-2023 at the earliest—the judge's decision is likely to prove a turning point for the industry.
If the ruling goes against the SEC, the agency and Gensler will be significantly weakened, and the price of XRP and other tokens is likely to soar. If the SEC wins, however, it will deal a blow to the broader crypto industry and could lead the agency to launch a wave of new enforcement actions.
Byrne, the Anderson Kill lawyer, noted that an initial decision against Ripple wouldn't be the end of the matter, with the case possibly lasting several more years: "Ripple appears to be willing to fight this thing and appeal it to the moon."