On October 3, 2022, the Securities and Exchange Commission (SEC) issued a cease-and-desist order (the "Order") against media personality Kim Kardashian for violations of Section 17(b) of the Securities Act of 1933 (the "Securities Act"), which makes it unlawful for any person to promote a "security" without fully disclosing the receipt and amount of compensation received for such promotion. Section 17(b) is known as the SEC's "anti-touting rule."
The SEC's charges stemmed from an Instagram story posted by Kardashian on June 13, 2021, about EMAX tokens, a digital asset offered by EthereumMax. The post included a link to the EthereumMax website, through which potential investors could purchase EMAX tokens. Although Kardashian's Instagram post included "#AD" in a series of hashtags at the end of the post, the hashtag was not sufficient to comply with the requirements of Section 17(b) because Kardashian did not specifically mention that she was paid $250,000 for promoting the token.
In the order, the SEC found EMAX to be an "investment contract", which is a "security" for purposes of the Securities Act. The SEC would have no basis for charging Kardashian for violations of its anti-touting rule if the token was not a "security." In determining that EMAX is an "investment contract," the SEC applied the "Howey test", as detailed in the 1946 U.S. Supreme Court case, SEC v. Howey Co., and concluded that investors had a reasonable expectation of receiving a profit based on the efforts of others (in this case, EthereumMax and its agents) for reasons such as the following:
- EthereumMax frequently highlighted increases in the price of EMAX on social media;
- EthereumMax and its agents indicated publicly that they would expend significant efforts to develop the EthereumMax platform to increase the value of EMAX tokens;
- EthereumMax stated it would ensure a secondary trading market for EMAX tokens; and
- EthereumMax's marketing materials emphasized the purported expertise of the Company's management.
The SEC's Chairman, Gary Gensler, announced the charges in a tweet at 7:30 a.m. on October 3, 2022, and also appeared on CNBC that same day to discuss the charges. The SEC does not typically seek such publicity in connection with its orders, which generally are only accompanied by a press release. However, the increased publicity appears to be in line with the SEC's recent statements regarding increased scrutiny of and enforcement efforts relating to digital assets the SEC regards as securities. By charging a celebrity with hundreds of millions of social media followers, the SEC has generated an uncommon amount of press attention for a regulatory action and has reached a significantly broader audience.
Without admitting or denying the SEC's findings, Kardashian agreed to pay $1.26 million, $260,000 of which is disgorgement of the promotional payment plus prejudgment interest, and a $1,000,000 penalty. Kardashian also agreed to cooperate with the SEC's investigation and to not promote any crypto asset securities for three years.
The Kardashian enforcement action serves to remind participants in the digital assets community of two things. First, the promotion of digital assets on social media for pecuniary gain—even with a seemingly innocuous tweet or post—could expose the promoter to the risk of violating the SEC's anti-touting rules (and perhaps broker registration rules depending on the level of the promoter's activities), to the extent the underlying asset is a security for U.S. federal securities law purposes. And second, the case reminds us that the SEC remains highly focused in its efforts to classify a number of virtual currencies as securities.
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