Much Ado About Nothing: the SEC’s No-Action Letter
By Oscar Jofre
On April 3, the SEC issued its first no-action letter saying that the tokens proposed to be issued by the applicant, TurnKey Jet (or TKJ, a Florida-based charter airline operator), are not deemed securities. The actual letter is here. The media widely reported this using, in their headlines, the words “crypto”, “ICO”, and one reference to Turnkey Jet as a “cryptocurrency business” (which it is not).
None of these phrases are referenced in the SEC’s no-action letter itself. In fact, the Forbes article is blatantly misleading, beginning with calling Turnkey Jet a “cryptocurrency business”. The very first paragraph of the Forbes article sounds very encouraging to the ICO community:
The U.S. Securities and Exchange Commission has issued its first ever letter assuring investors in a startup using crypto-tokens similar to bitcoin to raise capital that it will not take an enforcement action against the company, and in a separate document explained the rationale behind the decision for future companies.
If anything, the no-action letter implies exactly the opposite!
Firstly, TKJ is not a “cryptocurrency business”.
Secondly, TKJ is not proposing to raise capital through the issue of tokens, which are purely utility tokens and have no investment value. The company’s tokens are neither cryptocurrency nor securities.
Thirdly, the SEC letter does not provide investors an absolute guarantee that no action will be taken against them or the company, since this is not legally binding precedent and the SEC staff reserves the right to change positions reflected in prior no-action letters. Even the current no-action letter is valid only as long as the representations made by the applicant (TKJ ) are correct and fully followed subsequently.
Unfortunately, the misleading headlines give false relief to those who do not read beyond the headlines. It is important to read the actual submission by TKJ and the SEC response in the form of a no-action letter. In the murky world of ICOs that for the most part turned out to be fraudulent, and of the rest, only a tiny fraction had even a semblance of a credible business plan, TKJ stands out as an example of a legitimate business that took great pains to ensure that its utility tokens have absolutely no resemblance to ICOs or bitcoin. Here are the key factors that led the SEC to issue its no-action letter:
- No investment or capital raise. The proceeds of TKJ’s token sale are not to be used for developing the product or solution; instead, the funds are kept in escrow to be used for payments to service providers upon redemption of the tokens by its customers (travelers on their charter jets), or for repurchase or liquidation (but only at a discount). The only “capital raise” aspect of this is that the interest amount from the interest-bearing accounts is kept by the company and the interest amount is not distributed to the token holders. However, to prevent this becoming a potential loophole by mimicking an ICO-type of sale, the tokens are to be used only for purchasing air charter services and not for development.
- No trading. The tokens can be traded, but only among members of TKJ, and not in a wide secondary market; the motivation to trade is not speculation or investment. TKJ makes unlimited tokens available at a face value of USD 1 per token and repurchases them only at a discount, so speculative trading is meaningless.
- No gain in value. The tokens obviously cannot gain in value from their face value of USD 1 per token, since the company issues them at that price in unlimited quantities as necessary.
In summary, the SEC granted this no-action letter to TKJ as long as the following conditions are met: no capital raise for funding development, the existence of viable products and services before the tokens are sold, no trading on secondary markets for speculation or investment, no storage in third-party wallets, no repurchase at premium, no expectations are set for increase in the value of the tokens, and that the tokens are not marketed as investments.
This is as different from an ICO as a camel is from a camel-dropping.
What is astonishing about this whole issue is that there is already a well-established model that doesn’t even come under the aegis of the SEC: rewards points in various flavors, from Uber Rewards, AMEX Membership Rewards, Starwoods’ Starpoints, Delta SkyMiles, etc.
All of these membership and loyalty reward programs have been chugging along merrily for decades without any controversy. Utility tokens are no different, except that they are implemented on a blockchain or DLT — and therein lies the rub. The fraudulent ICOs have so tarnished the use of blockchain that any company with a legitimate business such as TKJ feels they have to go through the time and expense to seek a no-action letter for what is no more than a sophisticated implementation of a membership program.
The real value of enterprise blockchain or DLT, in general, is in its ability to bind a fragmented ecosystem of participants into a trusted network and provide operational efficiencies for their business processes, not to flout regulation at the expense of investor protection.