Banks that use Ripple software for international payments, including PNC Financial Services Group, Bank of America and Banco Santander, received some undesirable news last week when the Securities and Exchange Commission hit Ripple with a 71-page complaint.
The complaint casts a harsh light on how the company raises money by selling digital tokens called XRP.
According to the SEC, Ripple executives sold 14.6 billion units of XRP for more than $ 1.38 billion to finance the company’s operations and acquire personal assets without registering its XRP offers and sales with the SEC. These actions violated several securities laws, the complaint says. The SEC seeks to permanently ban Ripple and its leaders from selling unregistered XRP, making defendants “return all illicit earnings” from transactions and imposing unspecified civil penalties.
What does this mean for banks that work with the San Francisco company?
In the early days of Ripple and XRP, some banks were optimistic about both.
The capital market division of Royal Bank of Canada, a former partner of Ripple, enthusiastically endorsed Ripple and XRP in a 2018 report called “Imagine 2025”.
ATB Financial in Edmonton began testing Ripple’s xCurrent software for international payments in 2016. Tim Wan, who was then director of innovation at ATB for $ 43 billion, saw Ripple as a software company that was trying to replace the current methods of moving international money (basically, Swift) in a more efficient and cheaper way – “which is respectable,” he said. “And I believe there is a need.”
But Wan, who is now a member of the digital advisory board at technology company Box, had reservations about XRP even then.
“At the time, it was still a big unknown,” said Wan. “I would say it is still a big unknown.”
The SEC case will affect Ripple’s relations with banks, he said.
“Banks are built on the notion of trust,” said Wan. “Banks are incredibly sensitive to the perception of a lack of confidence in any technology platform that is being used to move money.”
An ATB spokesman said the bank has not been involved with Ripple since 2016.
BBVA conducted a similar pilot with Ripple in 2017, but it did not propel him either. The bank declined to comment on the SEC’s case.
Santander, a large Spanish bank, has been using Ripple’s xCurrent software for international payments since 2018. The bank does not use XRP. PNC went live with xCurrent in late 2019. Bank of America has partnered with Ripple since 2016. All three declined requests for comment. Ripple did not respond to a request for comment.
Jay Dubow, a partner at Troutman Pepper who previously worked at the SEC, pointed out that Ripple’s software is separate from the company’s XRP sales.
“As long as the company has the ability to handle support for the software, there should be no problems, ”said Dubow.
US banks avoided XRP
Ripple had long urged banks to use XRP as a mechanism to move money around the world.
Using Ripple’s xRapid software, banks could use their own local currency (say, US dollars) to buy XRP. Then they could buy the foreign country’s currency with that XRP and use that to make the payment, instead of using a network of correspondent banks.
Euro Exim Bank, based in Saint Lucia and London, said last year that it planned to start using XRP for international payments. The company did not respond to a request for comment.
No US bank uses XRP in this way yet, at least not publicly.
In an interview last year, Manish Kohli, Citi’s global head of payments and receivables, predicted that very few banks will use cryptocurrencies like XRP in international payments due to the market risk that cryptocurrencies represent.
The SEC’s complaint appears to confirm banks’ cautious stance on XRP.
According to the complaint, Ripple made money not by selling software, but by selling XRP.
In 2019, for example, Ripple earned $ 23 million from sales of its xCurrent and xVia software, but raised $ 200 million from selling XRP to investors.
“In other words, the vast majority of Ripple’s revenue came from XRP sales, and Ripple relied on those sales to finance its operations,” the complaint said.
In addition, according to the complaint, one of Ripple’s original founders, Chris Larsen, earned $ 450 million from the sales of the XRP he gave himself when he and his co-founders created the initial 100 billion. From April 2017 to December 2019, Ripple CEO Brad Garlinghouse sold more than 321 million of the XRP he received when he joined the company and raised $ 150 million.
Ripple’s defense potential
The accusations raised by the SEC have revolved around Ripple for years, in several class actions brought by investors and in unofficial conversations between people who follow the deal.
Ripple and Brad Garlinghouse are likely to argue in court, as they have in public comments in the past, that XRP is a decentralized digital currency.
On a blog posted last week, Garlinghouse argued that XRP is not a security because “XRP is not an ‘investment contract’. XRP holders do not participate in Ripple’s profits or receive dividends, nor are they entitled to vote or other corporate rights. Buyers receive nothing from their XRP purchase, except the asset. In fact, the vast majority of XRP holders have no connection or relationship with Ripple. “
Brian Klein, a partner at Baker Marquart who has represented cryptocurrency companies in similar cases in the past but is not involved in this case, said the SEC’s claims have not been tested.
“Obviously, there is another side to this story that has not yet been told and that deserves to be heard,” he said. “The case could pose an existential threat to Ripple because of the penalties the SEC is seeking. Unfortunately, just filing this case can also permanently damage the XRP. That mere SEC claims could be the death blow to a cryptocurrency is very unfortunate. “
The SEC has resolved two cases similar to this one, Klein said.
In June, the U.S. District Court for the Southern District of New York approved an agreement with the messaging software company Telegram, whose unregistered offering of digital tokens called Grams violated securities laws, according to the SEC. Telegram agreed to stop selling to Grams, return more than $ 1.2 billion to investors and pay a $ 18.5 million civil fine. In May, the company ended its cryptocurrency operation.
In October, a federal district court agreed with the SEC that Kik Interactive’s unregistered offering of digital tokens called Kins in 2017 violated federal securities laws. Kik has been banned from offering unregistered tokens and will pay a $ 5 million fine.
“The SEC has filed several lawsuits against cryptocurrency companies for several years,” said Klein. “I think the SEC, unfortunately, has chosen to use enforcement as a tool to regulate, rather than issuing clear guidelines.”
He would prefer regulators like the SEC to work with Congress to create laws to govern the cryptocurrency.
“Cases can take years to be processed by the courts,” said Klein. “And even when the SEC wins, as it did with Telegram and Kik, the district court’s decisions are not binding on other circuits or even other courts on the same circuit. What you have is a reading process rather than clear guidance. “