As crypto prices surge, we find ourselves in the midst of another crypto wave. Given the unrelenting flow of news that accompanies such periods, it may have been easy to miss that the SEC staff recently granted no-action relief to another Ethereum-based token, VCOIN.
In only its third no-action letter to date for digital tokens, the SEC cleared the way for the software development company IMVU, Inc. to sell VCOIN, an ERC-20 token, as a transferable non-security to its global platform users. In its incoming letter, IMVU stated that it operates "one of the largest online three-dimensional avatar-based social communities in the world" with "over 7 million monthly active users from more than 140 countries" and "a user-generated virtual goods catalog of more than 40 million items." In the same letter, IMVU sought guidance from the SEC as to whether its offering of VCOIN would require registration under Section 5 of the Securities Act and Section 12(g) of the Exchange Act.
A Simple Decision for a Simple Fact Pattern?
The SEC staff issued an affirmative response to IMVU's request on November 19, 2020, with a set of stipulations upon which the no-action position is contingent. In particular, the SEC set forth eight conditions to which IMVU must adhere in order for VCOINs, as proposed, to maintain non-security status. For the most part, the stipulations mirror the same Howey-driven requirements enumerated by the SEC in its no-action relief granted to Pocketful of Quarters, Inc. (PoQ) in July 2019 (discussed in this blog post) and TurnKey Jet, Inc. (TKJ) in April 2019 (discussed in this blog post). These stipulations include that VCOIN will (i) be unlimited in supply and sold at a fixed price, with no prospect of appreciation resulting from IMVU's efforts; (ii) be immediately usable for the intended consumptive (and not speculative) purpose on a fully functioning platform; (iii) have restrictions on purchases, conversions, transfers, and secondary market trading; and (iv) maintain anti-money laundering (AML) and know-your-customer (KYC) precautions in accordance with Bank Secrecy Act and AML regulations.
In an era when the cool kids of crypto are creating ever more exotic and mind-bending financial instruments in the decentralized finance space, one can be forgiven for viewing the SEC's approval of a stablecoin with restricted transferability as being less than earth-shattering. Nevertheless, there is value in understanding the VCOIN model, especially as compared to the TKJ and PoQ models. At the very least, such an exercise allows us to understand the SEC's trajectory in this area.
Together, the three projects tell a story of regulators that are gradually becoming more permissive. Recall, TKJ described its network as a "private, permissioned, centralized blockchain network and smart contract infrastructure operated by TKJ." Then came the PoQ token, which was issued on Ethereum, a public blockchain network. Unlike the TKJ and PoQ models, the VCOIN no-action relief is the first to permit users to transfer a token outside of its closed platform to non-users and for any token holder to be able to exchange the token for fiat currency from the token issuer — IMVU in this case.
IMVU's incoming letter reports that IMVU's virtual world has over 75,000 "Creators and Service Providers" that provide virtual goods and services for IMVU's users. The Creators and Service Providers hire non-users (such as programmers, designers, influencers, etc.) "to build, market, or provide support related to the virtual goods and services they offer" in IMVU's virtual world. The introduction of VCOIN allows producers to extract real-world value in return for their activity in IMVU's virtual economy.
From the TKJ token to VCOIN, we see an evolution from a highly restricted token issued on a private and centralized blockchain and aimed at a narrow user base (private jet charters) to a public blockchain token for a platform with 7 million users that are able to transfer the token off-platform to non-users, albeit with some fee-based disincentives to discourage speculation. We look forward to seeing how this trend holds up in future no-action letters.
Virtual World Progress, Real World Stagnation
Given the growing list of regulatory questions raised by the crypto space, the need for a comprehensive digital asset framework has become more pressing. As widely predicted, regulatory uncertainty in the US has allowed other nations more hospitable to digital asset innovation to begin to pull ahead in a technology that some argue will be as transformative as the internet.
Originally Published by Latham & Watkins, December 2020
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