Two natural persons who voted governance tokens issued by a decentralized finance (DeFi) protocol were charged with being “personally liable” for alleged violations of the Commodity Exchange Act (CEA) and regulations of the Commodity Futures Trading Commission (CFTC) by an autonomous organization that administered the protocol, in an enforcement action brought by the CFTC on September 22, 2022.
The CFTC charged bZeroX, LLC (bZeroX) – a Delaware company founded, co-owned and run by Tom Bean and Kyle Kistner from approximately June 1, 2019 to August 23, 2021 -- with various violations of the CEA and CFTC regulations for creating and operating the bZx Protocol. The bZx Protocol constituted a number of smart (i.e., programmable) contracts operating without intermediaries on the Ethereum blockchain. The CFTC alleged that the bZx Protocol illegally offered trading in paired virtual currencies on a margined or leveraged basis to US-based retail persons (non-“Eligible Contract Participants”) that did not result in actual delivery within 28 days – so called “leveraged or margined retail commodity transactions.”
Specifically, the CFTC claimed that bZeroX could only have engaged in leveraged or margined retail commodity transactions on a CFTC-licensed exchanged (i.e., designated contract market) and did not; acted as a broker (i.e., futures commission merchant (FCM)) when it solicited transactions and held funds or extended credit to customers while not registered as an FCM; and did not perform certain anti-money laundering activity (i.e., know your customer activity) required of all FCMs.
Mr. Bean and Mr. Kistner were charged with the same violations as bZeroX for being “controlling persons” of bZeroX.
bZeroX gave control of the bZx Protocol to bZxDAO on approximately August 23, 2021. The bZxDAO (later renamed Ooki DAO) was an autonomous organization that was not a legal entity or owned or operated by natural persons. Instead Ooki DAO was run through the exercise of governance tokens (e.g., voting) that were issued to persons that deposited certain virtual currencies into the bZx Protocol to facilitate trading on the platform. From August 23, 2021 to the present, Mr. Bean and Mr. Kistner held and exercised governance tokens on Ooki DAO. The CFTC claimed that Ooki DAO was liable for the same violations of the CEA and CFTC regulations as was bZeroX.
The CFTC also alleged that Ooki DAO operated as an unincorporated association through its members and its members were persons who received and exercised voting rights in the form of governance tokens. Because under some states laws, each individual member of an unincorporated association is jointly liable with other members for all debts of an unincorporated association, the CFTC charged that, by analogy, Mr. Bean and Mr. Kistner were personally liable for all of Ooki DAO's violations of the CEA and CFTC regulations. The CFTC cited no authority within the CEA or CFTC regulations for this extension of liability to Mr. Bean and Mr. Kistner.
bZeroX, Mr. Bean and Mr. Kistner settled all the CFTC's charges against them by agreeing pay a fine of $250,000, among other sanctions. In doing so, they did not admit or deny any of the findings or conclusions in the CFTC's order memorializing the settlement. The CFTC commenced a separate enforcement action against Ooki DAO which is pending in a federal court in California.
Summer Mersinger, a CFTC commissioner, vociferously dissented from the CFTC's order. She noted that while she could not “…condone individuals or entities blatantly violating the CEA or our rules, we cannot arbitrarily decide who is accountable for these violations based on an unsupported legal theory amounting to regulation by enforcement while federal and state policy is developing.” Ms. Mersinger objected to the charging of Mr. Bean and Mr. Kistner based on law theories outside the CEA or CFTC regulations, particularly since she believed there was a provision under the CEA – prohibiting aiding and abetting of a violation – that could have been used to hold the two individuals accountable for the alleged violations of Ooki DAO.
Order of Settlement: https://www.cftc.gov/media/7676/enfbzeroxorder092222/download
Pending Action: https://www.cftc.gov/media/7681/enfookicomplaint092222/download
Dissent of Commissioner Mersinger: https://www.cftc.gov/PressRoom/SpeechesTestimony/mersingerstatement092222
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