Ripple announced plenty of good news at its crypto orgy SWELL the last two days, including the long-awaited launch of XRapid, the international remittance protocol that uses XRP. Crypto investors were generally pleased with what they heard and saw with the price of XRP essentially doubling in the week leading up to the gathering. But at least some thoughtful observers were waiting for a more fundamental question to be definitively addressed: Is XRP a security?
Two different threads on XRPChat used the “800 lbs. gorilla” metaphor to discuss what was on everyone’s mind—whether the SEC would a) declare XRP a commodity, as it essentially has done with bitcoin and Ethereum, b) declare XRP a security, which many believe would be a near death-blow for Ripple, or c) continue to leave the question unaddressed.
On Tuesday morning, XRP watchers obsessing over that question got a valuable window on the SEC’s thinking from someone intimately familiar with how the agency works. And it was good news for XRP bulls.
Michael Didiuk is a partner at Perkins Coie, where he advises clients on blockchain and DLT specifically with regard to regulatory compliance. The reason he’s in demand in that space is the eight years he spent at the U.S. Securities & Exchange Commission. Not only did he work on the executive staff of two SEC Commissioners in Washington, but he also served in the Office of Compliance Inspections and Examinations in the SEC’s San Francisco Office. He has specific expertise on the Securities Act of 1933, the Securities Exchange Act of 1934, the Investment Company Act of 1940, the Investment Advisers Act of 1940 and the Commodity Exchange Act. In other words, he’s particularly conversant in the precise question that’s vexing XRP watchers right now: what is and is not a security.
On Tuesday morning, Didiuk gave a definitive answer. XRP is not a security.
Speaking on a panel hosted by Ben Lawsky, a Ripple board member who is the former Superintendent of Financial Services for New York, Didiuk laid out why he believes that XRP fails to meet the four parameters of the Howey Test, the definitive 1946 Supreme Court case that has served to answer “What is a security?” ever since.
In an exclusive interview with Modern Consensus, Didiuk laid out in even clearer terms exactly why he believes XRP is not a security.
“The Howey Test requires four factors – 1) Investment of money, 2) In a common enterprise, 3) With the expectation of profits, 4) From the managerial efforts of others. All four of those have to be met; if one is not met you don’t have a security. And so with XRP … If Ripple went away, if the CEO got hit by a bus, if the company just went under, XRP would still exist. And so for me, I look at that as there is no managerial efforts. Ripple created it and now it’s just operating on its own in the open source world. And so if Ripple went away, like I said, XRP would still continue to operate. And so you look at the fourth prong of the Howey Test and that’s not there. The managerial efforts of others is not driving XRP. You’ve seen a lot of great things being done at Ripple over the past several months and it doesn’t affect the price of XRP, and so obviously they don’t correlate to each other. And typically, when there is a security and there’s an option or a warrant, they tend to move in tandem, but here they don’t. I’m not saying that’s dispositive, but it’s just another factor to think about.”
So that chips away at the fourth Howey test—the idea that the managerial efforts of those working for Ripple can impact the price of XRP.
Didiuk also cast doubt on whether XRP fulfills other typical aspects of a security. He explained to Modern Consensus how with a security, a buyer who accumulates a large portion can expect to exert influence or even control over management of the issuing company. We see that all the time with ‘activist investors’ who buy large chunks of an underperforming company and then demand board seats or the ouster of a CEO or the sale of a division.
“I think that is dispositive. If you accumulate 4 or 6 or 10% in the token space it doesn’t really have an impact. I’m not a technologist by training so I don’t have a deep dive in terms of the technology and what people have done, but my understanding is those type of ownerships don’t really have an impact. You can’t impact the company by buying XRP like you could if you owned 25% of Coke you could put a board seat or get behind a proxy. You could try to change things.”
So if it’s so clear that XRP is not a security, what’s taking so long for regulators to simply make that declaration?
Well perhaps that’s just the pace of government.
Consider: The SEC started seeing bitcoin in 2011. With no associated company and an anonymous founder, it clearly had no “managerial effort” behind it. According to one SEC insider Modern Consensus spoke to, everyone there, including then Chairwoman Mary Jo White viewed bitcoin as a non-security. Yet, it took until June 2018 for the SEC to declare that bitcoin and Ethereum are not securities.
Coming from a highly placed, sober former SEC official, Didiuk’s clear, comprehensive opinion that XRP is not a security, given both on stage and in this interview, will surely give ballast to XRPers. But if that wasn’t enough reason for XRP bulls to cheer, check out Didiuk’s socks. Yep – that’s the famous Ripple triskelion.