Second Circuit Sets the Stage for Standing in Crypto Class Action

By: Christian A. Zazzali

Earlier this month, Judge George B. Daniels, sitting in the Southern District of New York, adopted the recommendation of Magistrate Judge Robert W. Lehrburger in certifying a limited class in a suit against online digital asset exchange, KuCoin.

KuCoin is an online exchange that allows customers to buy and sell digital assets, ten of which were the subject of named Plaintiff Chase Williams’ original complaint: EOS, SNT, QSP, KNC, OMG, LEND, ELF, EVC, and TOMO.  Plaintiff filed his claim against KuCoin, its co-founders, CEO and president, alleging they failed to make the disclosures required of securities and misled investors to conclude that the tokens were not securities. When some token prices, like TOMO, crashed, Williams’ and other investors’ portfolios value plummeted. By originally filing suit on behalf of all 10 of the aforementioned token-holders, Plaintiff sought to encompass over 1600 allegedly-injured users of the exchange.  Despite the Second Circuit’s historically liberal approach in certifying groups pursuant to Federal Rule Civil Procedure 23, which governs class actions, Judge Lehrburger was dissuaded from certifying this large class of diverse investors because of standing requirements.  Because the success of Williams’ claims turns on whether each token is determined to be a security, the Second Circuit must evaluate his standing through the lens of the Supreme Court’s Howey test. 

The Howey test determines whether certain investment instruments are securities, and its analysis requires an intense factual inquiry.  Since the factual inquiries into whether each of these tokens are so dissimilar, Judge Lehrburger suggested the class be limited to TOMO token purchasers. Specifically, Judge Lehrburger recommended that a class limited to purchasers of TOMO tokens be certified because Plaintiff lacked standing to represent purchasers of other types of tokens that Williams himself did not purchase.  The court reasoned that while Williams had a sufficient stake in the asserted claims pertaining to the TOMO tokens he purchased, he did not have sufficient stake with respect to the tokens he did not purchase. 

Williams contended he was a proper representative of the class because each of the ten tokens are built on the same blockchain, Ethereum, using the same token standard, ERC-20.  Without diving into a technical analysis, the court spotted the weakness in Williams’ argument, noting each token was developed differently, using different code, for different purposes, and advertised separately, thus requiring separate inquiries into whether each constitutes a security.

On February 9, 2022, Judge Daniels adopted the recommendation of Magistrate Judge Lehrburger, deciding that Williams’ interests did not align with the purchasers of non-TOMO tokens.  Further to the recommendation, Judge Daniels appointed Williams to serve as class representative for the TOMO token holders, certifying the class as “[a]ll persons who purchased on the KuCoin exchange any TOMO-based tokens listed for sale on a domestic U.S. exchange, or who otherwise purchased on the KuCoin exchange TOMO-brand tokens in a domestic U.S. transaction, between September 15, 2017 and July 2, 2021.” This is a logical step in case law aimed at ascertaining who has legal standing to file claims pertaining to a specific token.  As Judge Lehrburger noted, “the fact analysis required for each token is an intensive one,” and the claimant only has a genuine interest in the token they purchased.  To satisfy class standing, the class representative’s interests must be aligned with the rest of the class. This burden will not be satisfied when the class representative did not purchase or hold the same tokens as the other allegedly harmed users.

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