As the authors put it in the title of their recent guest post on this site, crypto is the new frontier of securities litigation. The title is reference to a statement by Stanford Law Professor Joseph Grundfest, made in conjunction with Cornerstone Research’s release of its annual survey of securities class action lawsuit filings. The Cornerstone Research report showed that crypto-related securities lawsuit filings surged in 2022. In a March 27, 2023, memo from the Dechert law firm, entitled “Cryptocurrency Securities Class Action Litigation 2022 Year Review,” (here), the law firm memo’s authors take a detailed look at the 2022 crypto-related securities suit filings, including a review of the defendants and the allegations involved.
As the authors of the Cornerstone Research report noted, the number of crypto-related securities lawsuit filings more than doubled in 2022 (to 23) compared to 2021 (11 cases). The law firm memo’s authors note that the recent years with the most crypto-related securities suit filings – 2018 (14 cases) and 2022 (23 cases) — both coincided with crypto “bear market” years. That was certainly true in 2022; as the law firm memo’s authors note, “the market capitalization of crypto assets fell dramatically in 2022 and crypto securities litigation skyrocketed.”
Indeed, the filings during the year in 202 were clumped together at times when the digital asset markets were stressed, first in May 2022 after the collapse of stablecoin TerraUSD and again after FTX’s high-profile bankruptcy in early November (indeed, nine of the 23 crypto-related cases filed in 2022 were filed in November and December, after FTX’s bankruptcy).
The plaintiffs’ lawyers filed the crypto and digital asset related complaints against a variety of kinds of companies, including “coin issuers, cryptocurrency exchanges, cryptocurrency miners, securitizers of cryptocurrencies or cryptocurrency mining contracts, and companies adjacent to cryptocurrency” but the majority of cases (13 out of 23) involved exchanges or trading and lending platforms. The authors observe that “it is likely that exchanges will continue to be a target of class actions until the SEC and courts provide additional clarification and guidance as to what crypto assets are considered securities.”
The key issues typically raised in the complaints are allegations that the defendants engaged in the unauthorized offering of unregistered securities in violations of Sections 5, 12 and 15 of the Securities Act of 1933 or that the defendants made false or misleading statements or omissions or the failure to make proper disclosures, resulting in financial losses for purchasers or investors.
A few of the 2022 crypto securities class action cases involved NFT companies or allegations related to NFTs, including, for example the complaint brought against Yuga Labs, Inc. a company that sells digital assets including its NFT collection known as Bored Ape Yacht Club. The complaint was brought by investors who purchased the company’s NFT’s or other digital assets. Interestingly, the defendants in the case include not only individuals directly associated with the company but also a long list of celebrities, including Paris Hilton, Jimmy Fallon, Justin Bieber and Gwyneth Paltrow. The plaintiffs allege a ”vast scheme between the start-up company and a Hollywood talent agency, united for the purpose of selling digital assets” by misleading potential investors through the use of celebrities.
In addition to the cases involving NFT companies, plaintiffs also filed four cases during 2022 against crypto mining companies and two against blockchain networks. Of the 23 crypto-related securities suit complaints filed in 2022, only eight involved companies traded on a public exchange.
The authors noted that in many of the cases the stock or asset price drop alleged were “typically more extreme than those seen in other securities cases” – as much as 90 percent or more. The authors note that “while such large price drops may prompt investors to file suit, such drops come with increased bankruptcy risk, which may impact potential recovery.” The majority of the 2022 crypto-related cases are still in their very early stages of litigation “and thus it is difficult to predict the viability of such cases.” The vast majority of cases “will continue being litigated into 2023 and possibly beyond.”
The authors note that these cases present a number of key legal issues. The “key underlying Issue” that is still unsettled are “the parameters as to when a cryptocurrency or digital asset is considered a security” which is a critical issue in the cases based on allegations that the crypto or digital asset involved should have been registered with the SEC.
The authors conclude by noting that given the ongoing high-profile investigations and bankruptcies, along with increased regulation, “challenges remain relating to cryptocurrency trading and token valuations” and other areas. As crypto-related filings become more prevalent and courts continue taking on more cases, we may see a continued uptick in the number of securities class action lawsuits in 2023.”