Late in 2017, the SEC’s Division of Enforcement (DOE) and its Office of Compliance Inspections and Examinations (OCIE) issued a joint statement warning would-be investors of initial token offerings (ICOs) (also known as digital assets or cryptographic tokens). Stating that, although celebrity endorsements “may appear unbiased,” they could involve undisclosed paid promotions. Receiving compensation for promotion of a security, without disclosing the facts and the amount of that compensation, is a violation of U.S. securities laws, and in particular provisions of those laws known as “anti-touting” provisions.
In the Statement, DOE and OCIE encouraged investors “to research potential investments rather than rely on paid endorsements from artists, sports figures, or other icons” for decision making. The statement further warned:
Investment decisions should not be based solely on an endorsement by a promoter or other individual. Celebrities who endorse an investment often do not have sufficient expertise to ensure that the investment is appropriate and in compliance with federal securities laws.
Conduct research before making investments, including in ICOs. If you are relying on a particular endorsement or recommendation, learn more regarding the relationship between the promoter and the company and consider whether the recommendation is truly independent or a paid promotion.”
– SEC Statement Urging Caution Around Celebrity Backed ICOs; Guidance from SEC’s Division of Enforcement
The warning was not just to issuers, however, as the SEC also cautioned would-be promoters of the offerings, i.e. celebrities as well as others, that their endorsements may be unlawful “if they do not disclose the nature, source, and amount of any compensation paid, directly or indirectly, by the company in exchange for the endorsement…Any celebrity or other individual who promotes a virtual token or coin that is a security must disclose the nature, scope, and amount of compensation received in exchange for the promotion.” The issuance went on to say:
A failure to disclose this information is a violation of the anti-touting provisions of the federal securities laws. Persons making these endorsements may also be liable for potential violations of the anti-fraud provisions of the federal securities laws, for participating in an unregistered offer and sale of securities, and for acting as unregistered brokers.”
SEC Statement on ICOs
By referencing the the “anti-touting” provisions, the SEC was referring to provisions that prohibit endorsements that give off the impression that the promotion or endorsement of a given company security is independent and unbiased, when in fact the promoters are compensated and are not necessarily unbiased. Oftentimes these violations occur in the context of communications that are disguised as research reports. In the context of these celebrity endorsements, the SEC noted that “[c]elebrities who endorse an investment often do not have sufficient expertise to ensure that the investment is appropriate and in compliance with federal securities laws.”
The SEC’s release spelled out the requirements: “Any celebrity or other individual who promotes a virtual token or coin that is a security must disclose the nature, scope, and amount of compensation received in exchange for the promotion.”
For issuers and investors, this statement should be taken as a warning that the SEC is carefully scrutinizing celebrity endorsements of financial products. This is all the more true for issuers who may be thinking about or relying on celebrity or influencer endorsements to generate buzz about their offering.