GM frens,

It’s been a very interesting week in the Web3 world with the SEC announcing their investigation into Yuga Labs, the creators of Bored Ape Yacht Club.

This follows the SEC's recently issued fine to billionaire Kim Kardashian for promoting a crypto currency, suggesting the organization is slowly turning up the heat on crypto.

Bad News For Bored Apes

Breaking down the SEC's investigation into Yuga Labs issuing unregistered securities…

Why do we purchase NFTs?

Some of the motivations that come to mind are:

• Joining a community (BFF, Chimpers)

• Sending a social signal (BAYC, Doodles)

• Playing a blockchain based game (Axie Infinity)

• Supporting artists we like (Amber Victoria, Beeple)

• Gaining access to software products (Floor, PREMINT)

Looking at this short list that doesn't include use cases such as NFTs being used as tickets for events, NFTs being used to represent the ownership of physical goods — it's crystal clear that there's a wide array of use cases for NFTs.

Nonetheless, one such use case the United States Securities and Exchange Commission is seeking to put a stop to is projects using NFTs as unregistered securities.

Following this, the SEC announced this week they are investigating Yuga Labs, arguably the most successful NFT company for the potential issuance of unregistered securities.

Going Back In Time

To understand how this could potentially impact the Web3 world, it's critical to understand the criteria the SEC will be using when evaluating whether Yuba Labs have broken the rules.

To do so, we need to rewind the clocks 75+ years...

In 1946 the SEC brought a case against Howey Co. for selling plots of land from its orange grove to fund the grove's future development.

Under Howey's scheme, Howey Co. offered 

• A land sales contract to purchase land via a warranty deed (similar to otherside deeds)

• A service contract empowering Howey Co. to have "full and complete possession" to manage the land (similar to Yuga Labs developing the Otherside)

Under this arrangement, buyers were dependent on Howey to cultivate the land, with the expectation that Howey would turn the land into a profitable orange business.

This arrangement put the buyers in a position whereby albeit they owned the land, the value of this land was dependent on Howey developing this land, successfully cultivating the oranges, harvesting them, selling them and sharing the profits with the land owners.

The SEC was not a fan of this arrangement, and to protect investors they sued Howey on the grounds that the sale of land to fund the development of the orange grove functioned like a security so much so that it needed to be registered with the SEC.

The Ruling

The U.S. Supreme Court agreed with the SEC's assessment, and in its decision provided the following four part test to help businesses avoid breaking the rules in the future.

Per the U.S Supreme Court ruling, the following criteria should be used to evaluate the potential issuance of unregistered securities:

1) An investment of money by a person:

2) In a common enterprise (defined as an enterprise in which the fortunes of the investor are interwoven with and dependent upon the efforts and success of those offering or selling the investment or of third parties):

3) Where the person is led to expect profits:

4) To be derived from the entrepreneurial or managerial efforts of the promoters of the project you have a security.

Big & Small Projects

As the creators of the most successful NFT project to date, Yuga Labs have been fortunate enough to raise $450 from Andreessen Horowitz, one of the top tech investors in the world. 

Raising this war chest of capital allows Yuga Labs to access the very best experts money can buy to avoid breaking any of the SEC's rules.

Should the SEC conclude that Yuga Labs have in fact broken the rules, it would set a very interesting precedent that suggests no amount of money can purchase the clarity needed to navigate the opaque process that is applying these 75+ year old rules to NFT projects.

Looking Ahead 

Consumers deserve proper protections, and all too many rug pules have occurred in Web3.

Additionally, it's certainly possible that NFTs can be used as unregistered securities, and should bad actors intentionally break these rules and do wrong by consumers, we would all do well to adopt the regulations that work to reduce this.

That said, The Howey test was created 75+ years ago, 27 years before the internet was created & 68 years before the very first NFT was minted.

While The Howey test has stood the test of time in protecting consumers who purchase securities such as stocks, bonds and options, it’s important to consider the possibility that these aren’t the right rules to protect consumers who purchase NFTs.

3 Things You Need to Know

1) Zero Royalties Are Gaining Ground

This week, yet another marketplace announced they were moving away from a mandatory royalties model in favor of allowing consumers to choose what royalty to pay creators.

Magic Eden, one of the fastest growing marketplaces that commands over 90% market share of Solana NFTs announced yesterday morning they will be joining the growing group of marketplaces that are favoring an optional creator royalty model.

Naturally, this will significantly impact creators ability to generate revenue using NFTs, however, Beeple remains optimistic that new revenue models will follow in response.

2) A Creative Communication Strategy

When we purchase physical goods on marketplaces, more often than not consumers are able to communicate with buyers to ask clarifying questions & to negotiate the price.

When purchasing NFTs — buyers are unable to communicate with sellers, which removes buyers' ability to negotiate with the sellers.

This breakdown in communication hasn't prevented one buyer from having his voice heard, courtesy of employing a very creative communication strategy.

3) All Eyes On NFTs

Uniswap Labs has raised an additional $135 million USD at a $1.66 billion valuation.

The decentralized exchange commands 64% of all DEX (decentralized exchange) volumes, and with this new raise the company has their eyes set on expanding into NFTs

Food For Thought 💭

The fastest rug pull in history?

Less than 1 hour after the project successfully minted out, a team member announced that "one of the founders died during the mint" and that they would be selling the project.

This is perhaps the perfect example of why consumers purchasing NFTs need better protections to ensure such bad actors cannot succeed.

While this case is clearly one of the fastest rug pulls that has occured in Web3, it's by no means the first, and it's certainly not going to be the last.

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See you next time! — OB1 & Pet & Corwin