Chi-Ru Jou is a Blockchain and Securities Law Partner at Taylor English Duma. She specializes in blockchain and cryptocurrency as well as litigation affecting the financial services and technology industries. Previously, Ms. Jou was a Partner at CKR Law, advising blockchain companies with regard to federal and state securities laws, money transmitter laws, and smart contract dispute resolution mechanisms. Prior to CKR Law, she was a Partner at Emergent, where she was a member of the five-attorney Blockchain and Digital Currency Group and focused on providing legal risk management advice to blockchain startups. Among numerous other positions, she began her career practicing securities litigation and regulatory enforcement at Paul Weiss. Ms. Jou has published articles in CoinDesk, New York Law Journal, Bloomberg Law Reports, Virginia Journal of Law & Technology, and Virginia Sports & Entertainment Law Journal, and she has been selected as a Rising Star of New York Metro by Super Lawyers Magazine for 2013 through 2016. Ms. Jou received an MA in Music Theory from Yale’s Department of Music.
The views and opinions expressed in this interview are those of Ms. Jou and do not necessarily reflect the official policy or position of Taylor English Duma LLP. They are for informational purposes only and should not be taken as legal advice.
The Politic: What’s your background?
Chi-Ru Jou: I started my career practicing securities litigation and regulatory enforcement at a big law firm called Paul Weiss. I then ventured into working for smaller law boutiques, and in 2016, I joined a law boutique started by some of my Columbia Law School classmates. It was cool because these were people in my network. They started a blockchain group, which initially had only one partner, and they wanted to expand the practice. In late 2017, they pulled me on board as a securities attorney, because they saw the field increasingly heading toward securities law.
What work did you do there?
It was a boutique that mostly did litigation, but they also had a couple of corporate attorneys. Our blockchain group was intended to cover a broad base. We worked on some cryptocurrency litigation, but we were also interested in working on some of the transactional work of advising blockchain startups on securities law and talking to some crypto funds, too. The group was just getting off the ground when I was there. Then, I was recruited by CKR Law, an international law firm where I worked for a while. Now, I’m a Blockchain Partner at Taylor English Duma, a large national law firm headquartered in Atlanta.
What’s your day-to-day work at Taylor English Duma?
We intend to have a pretty broad-based blockchain group there as well. The firm just started to enter the New York market and launch its blockchain practice. We anticipate advising on much of everything: token offerings, cryptocurrency litigation, general platform compliance, and some enterprise blockchain applications, too, such as the formation of a blockchain consortium. We also advise companies that want to apply to the Securities and Exchange Commission (SEC) for no-action letters pertaining to the integration of utility tokens.
What’s a no-action letter?
The SEC took the position that most of the tokens issued by these blockchain startups are “securities.” However, there’s a small subset of so-called “utility” tokens that may not have to register as a securities offering. The SEC implemented a case-by-case application process for evaluating token offerings, where they might say, “Go ahead. Integrate your utility token. We won’t prosecute.” These are so-called “no-action” letters.
You have to be careful, though, because these letters are not binding on the SEC: They can decide to prosecute you regardless of whether they’ve granted you a no-action letter. What they really mean is that they probably won’t prosecute you. No-action letters are a sort of reassurance that you can go ahead with your utility token, without SEC registration as a security token or an exemption. So far, the SEC has granted two of these no-action letters. The process is slowly moving along, but it’s exciting to witness.
How many applications have they received in total?
I’m sure they’ve received a large number of applications, but the process is confidential so we can’t really know the number. People send applications to the SEC, and those applications are only published if they’re successfully granted a no-action letter.
What are the two successful companies?
One of them was Turnkey Jet, and the more recent one, in the past couple of weeks, was Pocketful of Quarters. They were both stablecoins, so they argued that there was no opportunity to profit and these were therefore not investments. I would be cautious in thinking that you can run to the SEC with just any idea.
Were there any other similarities?
That was the main similarity, but another argument that a startup could make would be that their project would be highly decentralized. All of these applications are analyzed under the Supreme Court’s decision in SEC v. W.J. Howey Co., which involves the following test: Are you putting in money to invest in a common enterprise that’s yielding a profit based on the efforts of the company itself or its promoters?
Part of that involves determining whether the profits are coming from these centralized actions on the part of the company. One argument you could make is that the company isn’t adding enough to the equation to cause the token to appreciate in value. That’s the decentralization argument, and that’s a factor as well.
Decentralization is a good thing?
Decentralization is a good thing for the purposes of the Howey Test because it shows that any gain in value of the token does not come from the efforts of the company or its promoters. When you invest in a company-issued security, you’re sharing in the revenues of that company. If the company does well, the share price goes up.
You don’t want that to be the case if you’re looking for a no-action letter. You want to argue that the change in the value of the token isn’t based upon whether the company or its promoters are doing well.
Could you think of the entire collective of decentralized users as the “owners” of the company, and therefore when the token performs well, the “owners” of the company are profiting?
Right, so it depends on your token. Some tokens are essentially a software license. You go on the platform and you participate in a lot of activities. Maybe you earn reward points on the platform. But suppose the people running the platform are doing a minimal amount of work, and the whole ecosystem is run by the users. Then you’d have a much stronger case that it’s really not like an investment in a company.
What’s the general, industry-wide reputation of the Howey decision?
There’s been a lot of debate about whether it’s better to have a principles-based system or a rules-based system. The Howey Test is a test that’s been around since 1946. It’s a multi-factor-based test. It’s based upon principles. The idea is that these principles can and should be applied over time to very different technologies, and they’re supposed to hold up regardless of the particular technology in question.
Even though principles-based tests are more flexible, there’s a lot of uncertainty, because you’re applying a lot of factors, and you’re not given a lot of guidance on how to apply them. You have to balance that approach with some decisions by courts with rules of thumb in particular cases that involve specific technology. Those slightly more rules-based decisions help people understand how to apply the principles-based test. I agree the principles-based test has more longevity, but there needs to be more clarity as to how that test applies to specific technologies.
As you mentioned, these no-action letters aren’t exclusive to token offerings/blockchain tech. When it comes to earlier technologies, do you have any sense of whether/how often the SEC has ultimately decided to prosecute after issuing a letter?
The Howey Test has been applied to a number of different types of investment schemes. I think the original test involved an investment in orange groves. It’s been applied over time to a large variety of situations. There have been some no-action letters from the SEC in the past outside of crypto, such as involving memberships in organizations where you’re using that membership to participate in the organization, but where that membership isn’t an investment that will appreciate value over time. It’s intended to be flexible.
What I mean by rule based is the following: Right now, there’s the Token Taxonomy Act that’s moving through Congress. It would define some digital tokens as not being securities at all. That would be an example of where Congress stepped in and put in place a rule that carved out an area for the Howey Test. I think there may be some situations where you have to do that, because the principles-based test is not providing the clarity that the industry requires.
Just trying to understand better: Let’s say the principles-based approach covers 90 percent of the cases where you’re evaluating whether a token is a security or not. Then, the remaining 10 percent of these cases are funneled into the SEC’s case-by-case application procedure.
If you had the rules-based approach as well, maybe that would cover another 5 percent of cases, and then you would only have half of the regulatory burden present in the SEC’s current no-action latter procedure. Is that an accurate mental model?
These tokens going through the no-action process aren’t necessarily falling through a crack in the Howey Test. It’s just that under the Howey Test, they have a good chance of being deemed not securities. But because the Howey Test is a little fuzzy or too general, the companies are seeking a definitive statement from the SEC with regards to their case. They want the SEC to say that they’re not going to prosecute. They want some reassurance. So, the problem is that a very case-by-case process can take upwards of a year to culminate in a no-action letter.
We’re hoping that the process will speed up now that two have been granted. It would be nice to have a more streamlined process in place. I’m hoping the SEC figures out that there are more tokens that fit in this bucket than they previously anticipated, and accordingly, they understand that these no-action letters aren’t sufficient.
These no-action letters apply to other technologies, as you mentioned. How often does the SEC go back and prosecute after they’ve handed out a letter?
Anecdotally, I haven’t heard of the SEC prosecuting a company that was already granted a no-action letter. When you apply for the no-action letter, you agree to fit within the particular facts and circumstances under which the SEC has granted you a letter. If you end up adopting a program that varies from what you promise to the SEC, they’re not going to be happy about that.
I haven’t taken a survey, but I think that no-action letters are meant to reassure people. I don’t think there has been a widespread practice of the SEC going after companies that they’ve already said they won’t prosecute.
I’m just curious because I read a paper authored by Prof. Hoffman and a computer scientist at Penn Law, which looked at the promises made by 50 ICOs (in whitepapers, social media, etc.) and whether those promises matched the reality of what was written into corresponding source code. The results were pretty discouraging.
Right. In fact, my previous law firm CKR discussed this exact issue, and we decided that we had to tell our clients to audit their smart contracts at the time of the token offering. That way, our clients would make sure they were delivering what they promised in their whitepapers. That’s actually because we read the study you’re referring to.
I think we’re going through a really exciting transition period right now where we’re going to find out if the U.S. will be a major player in the blockchain industry or not. That answer depends a lot on regulatory clarity and whether the regulatory environment will stabilize. This is a very unclear time, and we want to hang on, adopt strategies that will allow our clients to survive this period, and find out what the next year will hold for the U.S. landscape.
For example, some blockchain platforms have been adopting strategies where they keep track of points on their platform, but they’re delaying their token integration until the regulations become more clear. Startups are waiting things out to see what happens next.