ICOs Should Tread Carefully on Social Media


In two recent enforcement actions, the SEC looked past formal offering documents and cited statements made on Reddit, YouTube and other social media to determine that the AirFox and Paragon ICOs were unregistered sales of securities.

En détails

On November 16, 2018, the US Securities and Exchange Commission (SEC), in separate actions, settled charges with Carrier EQ Inc. d/b/a AirFox(AirFox) and Paragon Coin, Inc. (Paragon), alleging that each entity had launched an initial coin offering (ICO) that constituted the unregistered sale of securities.

In its press release, the SEC announced that AirFox and Paragon Coin sold and delivered digital tokens to consumers in 2017, which according to the SEC, was “after the [SEC] warned that ICOs can be securities offerings in its DAO Report of Investigation.” The press release further stated that these are the SEC’s “first cases imposing civil penalties solely for ICO securities offering registration violations.”


In 2017, AirFox launched an initial token offering for the virtual currency “AirTokens,” ultimately selling 1.06 billion AirTokens to more than 2,500 investors and raising approximately $15 million. Proceeds from the ICO were to be used to finance the development of the AirToken Project.

The company informed potential investors that they were contributing to “the development of the AirToken Project,” described as an ecosystem to be created by the company in which AirTokens would serve as a medium of exchange for mobile data, physical goods, and micro lending.

While the “terms of AirFox’s initial coin offering purported to require purchasers to agree that they were buying AirTokens for their utility as a medium of exchange for mobile airtime, and not as an investment or a security,” the SEC looked beyond AirFox’s offering documents and formal contracts with investors in determining that AirFox had sold unregistered securities.

The SEC pointed to the AirToken Project’s white paper, blog posts, online videos and correspondence with virtual currency exchanges on which AirFox was seeking to have the AirTokens listed. In this context, AirFox stated that “AirTokens would increase in value as a result of Airfox’s efforts, and that AirFox would undertake efforts to provide investors with liquidity by making AirTokens tradeable on secondary markets.”

The SEC Order determined that according to SEC v. W.J. Howey Co., 328 U.S. 293 (1946) and its progeny, Airfox’s “AirTokens” constituted securities without any applicable exemption from registration. Under Howey, a “security” is defined as an “investment of money in a common enterprise with profits to come solely from the efforts of others.”

The SEC determined that the AirToken ICO was a sale of securities because “investors’ profits were to be derived from the significant entrepreneurial and managerial efforts of others—specifically AirFox and its agents—who were to create the ecosystem that would increase the value of AirTokens, and facilitate secondary market trading.” The SEC further pointed to the fact that at the time of the ICO, that purported functionality of the system was not available.

Importantly, the SEC looked beyond AirFox’s offering documents and formal contracts with investors in determining that AirFox had sold unregistered securities. AirFox admitted that the mobile airtime and loyalty point prototype “was ‘really just for the ICO and just for investment purposes so people know . . . how it’s going to work’ and ‘[did not] have any real users’ at the time of the ICO.” Those in the industry should be aware that in determining that the ICO was an unregistered sale of securities, the SEC pointed to the white paper, blog posts, online videos and AirFox’s responses to questions on applications from virtual currency exchanges when AirFox was seeking to get AirTokens listed on those virtual currency exchanges. The AirFox matter indicates that the SEC will be reviewing the full suite of statements made by a company launching an ICO to determine whether an unregistered sale of securities has occurred.

As a part of the settlement, AirFox agreed to undertake significant remedial actions, including registering the AirTokens as a security under Section 12(g) of the Securities Exchange Act of 1934 and timely making all required securities filings under the Exchange Act. Other remedial actions included issuing a press release notifying the public of the SEC’s order, sending claim forms to its investors that purchased AirTokens before October 5, 2017, notifying them of their potential claims under Section 12(a) of the Securities Act, and submitting to the SEC monthly reports, final report and certification of completion regarding claims received and paid out. Additionally, the SEC fined AirFox $250,000.


In 2017, Paragon announced in a white paper that it would launch an “initial token crowdsale” to the general public for the virtual currency “ParagonCoins” or “PRG.” Paragon announced in a white paper that the proceeds from the sale would be used to “develop its business,” to “build an ‘ecosystem’ around the token,” and to fund the purchase of real estate for a contemplated “ParagonSpace” co-working space.

Paragon announced in its white paper that a total of 200,000,000 PRG tokens were to be generated and that over time the number of tokens in circulation would decrease, increasing demand. Paragon also described a timeline that provided for various development milestones in 2017 and 2018, including the listing of PRG tokens on “major exchanges” within one month of the close of the offering. Paragon also engaged a celebrity to promote the offering and directed the celebrity (a hip hop artist called The Game) to release statements on various social media sites promoting Paragon, including through promotional videos on YouTube. Paragon also engaged in “Ask Me Anything” sessions with potential purchasers through Reddit, an online forum. Paragon announced on the Reddit “Ask Me Anything” forum that PRG tokens were “a product that we’re expecting to appreciate in value due to it[s] limited supply and the ecosystem we’re building around to build a strong demand.”

The SEC determined that Paragon’s PRG tokens were securities according to Howey and its progeny. The SEC’s order states “the offering was an offer and sale of ‘securities’ as defined by Section 2(a)(1) of the Securities Act because it constituted the offer and sale of investment contracts.” Like the case against AirFox, the SEC relied on Paragon’s marketing of the PRG token to determine that the ICO constituted the unregistered sale of securities. The order describes Paragon’s marketing on Paragon’s web pages, the white paper it released, as well as statements made by Paragon on message boards, blogs, social media, and other outlets.”

The SEC determined “PRG token purchasers had a reasonable expectation of profits from their investment in the Paragon enterprise . . . [p]urchasers had a reasonable expectation that they would obtain a future profit from buying PRG tokens if Paragon were successful in its entrepreneurial and managerial efforts to develop its business.”

Paragon agreed to undertake significant remedial actions. This includes, among other measures, the issuance of a press release notifying the public of the order, registering the PRG token as a security, issuing claim forms to purchasers of the securities notifying them of their right to submit claims against Paragon, complying with the reporting requirements of the 1934 act, and paying a $250,000 civil money penalty.

Key Takeaways

The AirFox and Paragon cases indicate that the SEC is actively monitoring and pursuing actions against companies that have launched ICOs that the SEC believes constitutes the sale of securities. Following the AirFox and Paragon orders the SEC issued a Statement on Digital Asset Securities Issuance and Trading which addresses “several recent [SEC] enforcement actions involving the intersection of long-standing applications of our federal securities laws and new technologies,” and is explained in depth in the following article, “SEC Divisions Issue Digital Asset Securities Statement.” Stephanie Avakian, Co-Director of the SEC’s Enforcement Division stated: “We have made it clear that companies that issue securities through ICOs are required to comply with existing statutes and rules governing the registration of securities. These cases tell those who are considering taking similar actions that we continue to be on the lookout for the federal securities laws with respect to digital assets.”

What is particularly notable about the AirFox and Paragon cases is the sort of information the SEC cited as evidence that the ICO actually constituted the sale of securities. Despite the language in the offering documents and other formal contracts, the SEC relied upon blog posts, Reddit, YouTube videos, white papers and other less traditional forms of evidence to determine that AirFox and Paragon had engaged in the unregistered sale of securities. These orders indicate that when launching ICOs, companies need to be extraordinary careful with not only their offering documents and white papers, but everything that they put out in the public sphere particularly in less formal mediums, like blog posts, Reddit and social media.