- Templum Markets filed a letter with the Securities and Exchange Commission that has led to confusion about the legality of blockchain miners
- Some wonder whether they can be deemed unregistered broker-dealers under federal securities laws, but doing so would have serious implications for the industry
Brian Farber is the General Counsel at Securitize, which delivers trusted global solutions for creating compliant digital securities. The Securitize compliance platform and protocol provide a proven, full-stack solution for issuing and managing digital securities (security tokens). Prior to joining Securitize, Brian was in-house counsel at ConsenSys and practiced law at Sullivan & Cromwell LLP.
In early April, Templum Markets filed a letter with the Securities and Exchange Commission requesting guidance on whether blockchain miners could be deemed unregistered broker-dealers under federal securities laws.
The filing has added a layer of confusion to the digital securities ecosystem and has caused some to jump to conclusions about the legality of issuing and trading digital securities on public blockchains.
It’s quite possible that the timing of Templum’s request was no coincidence. Around the same time, Templum publicly announced a significant pivot in its business model from facilitating digital securities offerings on public blockchains, to using a private blockchain it was building with Symbiont.
Regardless, it is critical that thoughtful analysis be given to new innovations without jumping to an immediate conclusion that they create issues under federal securities laws. A decision to classify miners as broker-dealers would have grave implications for innovation and growth in the industry.
An entity effects transactions in securities if it participates in such transactions “at key points in the chain of distribution,” (BondGlobe, Inc., SEC No-Action Letter [pub. avail. Feb. 6, 2001]).
In assessing whether an entity performs activities at key points in the chain of distribution, the SEC and courts have considered, among other things, whether the entity is assisting an issuer to structure a securities transaction, helping an issuer identify prospective investors, soliciting transactions, and participating in the order-taking or order-routing process for transactions.
These factors are typically considered in tandem with the receipt of any transaction-based compensation (as discussed below). While miners do not perform the aforementioned functions, it is difficult to argue that they are not involved at a key point in a chain of distribution when they are required for issuances and trades of digital securities to be recorded on the blockchain.
However, the SEC has previously granted no-action relief to entities whose services are limited to clerical and ministerial activities within a chain of distribution (Universal Pensions, Inc., SEC Staff No-Action Letter [Jan. 30, 1998]).
The confirmatory activities of miners should fit within this exception, since they are “mechanical task[s]” akin to “bookkeeping and record keeping.” The confirmation by a miner merely begets an on-chain record of the underlying transaction, but the miner is not otherwise involved in the transaction.
In the digital securities ecosystem, investor sourcing and deal structuring are still performed by traditional broker-dealers, just as other non-broker-dealers perform transfer agent and custodial services for digital securities.
It is more appropriate to view the blockchain as a decentralized clearinghouse (i.e., a decentralized version of DTCC and Euroclear/Clearstream), and miners as its participants, that, in conjunction with blockchain-based transfer agents, are tasked with recordkeeping responsibilities for the digital securities ecosystem.
Like miners, clearing agencies confirm and process trades but do not undertake any other activities at “key points in the chain of distribution” that might classify them as broker-dealers.
Is the miner’s block reward considered transaction-based compensation?
The SEC has also noted that “the receipt of transaction-based compensation often indicates that such a person is engaged in the business of effecting transactions in securities.” In certain situations, receipt of transaction-based compensation alone can be sufficient to trigger broker-dealer registration.
Typical transaction-based compensation includes commissions, mark-ups, mark-downs, sales loads or similar fees on specific transactions. However, courts and the SEC have routinely focused on entities having a “salesman’s stake”, where compensation is based on the size, value or completion of a securities transaction.
The Ether paid to Ethereum miners neither fluctuates with the size or value of the transactions in the block nor correlates to the categories of the transactions within the block.
The miner’s block might contain confirmation of a $400 million bond issuance, but that block might also include the on-chain issuance of a Cryptokitty (a popular Ethereum-based game where users breed digital cats) and an encrypted record of the ingredients in a Taco Bell burrito. The miner is oblivious to the block’s contents when it confirms the transactions within, and it remains so when it receives payment in Ether upon completion of the block.
Furthermore, the amount of Ether paid to miners is fixed per block. It does not, as an underwriting commission might, fluctuate in accordance with the size or value of an underlying transaction.
Miners have far more in common with administrative service providers than they do with those connecting buyers and sellers and having a “salesman’s stake” in transactions.