Late last month, SoluTech, Inc. and Nathan Pitruzello consented to a cease-and-desist order with the U.S. Securities and Exchange Commission (“SEC”).  From April 2018 through March 2019, SoluTech, a technology start-up company and Pitruzzello, SoluTech’ s, 24 year old former Chief Executive Officer and co-founder, offered and sold securities in the form of digital assets called SCRL. The securities were sold purportedly to fund the development of a blockchain-based platform called the Scroll Network and additional technology products. The Scroll Network, was intended to be an immutable blockchain data management solution. No product was completed by SoluTech.

SoluTech and Pitruzzello conducted an offering of SCRL tokens to investors through an initial coin offering (“ICO”).  The defendants advertised the ICO on the company’s website and social media platforms. SoluTech and Pitruzzello took no measures to restrict U.S. based purchasers from accessing information about the token offering.  Prior to the completion of the ICO, the company stated, “This is your last chance to purchase $SCRL until listed on an exchange!” The defendants also “sought to create a market for SCRL tokens by communicating with digital asset trading platforms to have the token traded on such platforms . . . [and that the tokens began trading on online trading platforms.}” 

The ICO raised approximately $2.4 million from more than 100 investors.  Pitruzzello provided token offering content for SoluTech’ s website and social media accounts and engaged in offering and selling efforts, including holding substantive conversations with potential and actual investors. Pitruzzello referred to the token as a security in external correspondence, stated that the token sale was in compliance with U.S. securities laws, and referred to prospective token purchasers as “verified purchasers,” “qualified purchasers,” “institutional” investors, and “accredited” investors.

The SCRL tokens were deemed securities based on the investment contract test set forth in SEC v. W.J. Howey Co., 328 U.S. 293 (1946).  SoluTech and Pitruzzello violated Sections 5(a) and 5(c) of the Securities Act of 1933 by offering and selling these securities without filing a registration statement with the SEC or pursuant to an exemption from registration.  The defendants also violated the antifraud provisions of the federal securities laws in the course of the company’s offering. SoluTech and Pitruzzello misrepresented to potential investors that the company was generating revenues and had been paying clients substantial returns. At all times during the offering, however, SoluTech had no revenues. In addition, during an effort in 2019 to sell Series A stock, the defendants misrepresented to potential investors that other investors had provided term sheets to the company demonstrating their interest in investing in exchange for shares of the company’s preferred and capital stock, and circulated those false term sheets to third parties, including potential investors.

The cease-and-desist order requires Pitruzzello to refrain from participating, directly or indirectly, in any offering of any digital asset security and levied a $25,000 civil fine that he can pay over a few years. SoluTech was not required to pay civil penalty since the company is insolvent and has ceased operations.  The order did not require disgorgement by SoluTech or Pitruzzello.  SoluTech was required to:  (i) take all reasonable steps to remove SCRL from any further trading on all digital asset trading platforms; (ii) publish notice of such requests on SoluTech’ s website and social media channels; (iii) take all reasonable steps to destroy all SCRL in its custody, possession, or control; (iv) take all reasonable steps to publish notice of the Order on SoluTech’ s website and social media channels; and (iv) certify, in writing to the SEC, compliance with the undertakings in the order.

This case is one of the most recent SEC enforcement actions against issuers of securities during the ICO craze of 2017-2018, and is evidence of the SEC’s continuing focus on offerings of digital assets securities in a manner that did not comply with the securities laws and often involved fraud or misrepresentation. This case illustrates that the SEC is not limiting its enforcement actions to large offerings by pursuing cases where a relatively small amount of money is raised. This case also demonstrates the benefits of cooperation with the SEC as the action did not result in the imposition of a civil penalty.

Unfortunately, for the firms that used ICOs to raise capital, we do not believe this will be the last ICO related enforcement action.