A recent opinion issued by Northern District of California Judge Vince Chhabria, Samuels v. Lido DAO, et al., addresses several new and important questions about the extent of liability of decentralized autonomous organizations (DAOs) and their members. This class action lawsuit was brought by an investor who lost money purchasing crypto tokens on a secondary market and sued to recover his losses from institutional investors in the underlying DAO.
Lido is a proof-of-stake model run off the Ethereum blockchain, where validators receive rewards in the form of Ether for validating transactions on the blockchain. The Lido DAO is comprised of significant institutional investors, and as a DAO, Lido has no formal corporate structure or centralized leadership. As stated in the court's decision, "Rather, holders of a cryptocurrency token issued by Lido, 'LDO,' have voting power in proportion to their token holdings and can make governance decisions by proposing and voting on governance actions to be taken by Lido." The Lido DAO has been successful according to the complaint; it stakes the equivalent of more than $30 billion at once, meaning that it would be making approximately $50 million a year in staking fees. Lido was first established in 2020, and over time, venture capital firms invested and LDO was listed on various public exchanges. The named plaintiff bought LDO in 2023 and sold it shortly thereafter. He then filed a class action lawsuit contending the LDO constituted a security within the meaning of Section 12(a)(1) of the Securities Act, and Lido DAO was liable as a general partnership under California law. The Lido DAO filed to dismiss the lawsuit, including claims that it was a general partnership. In analyzing the motion to dismiss, the court assumed the crypto token LDO was a security, a point that the parties did not dispute, and asked two critical questions: (1) is the Lido DAO, which purports to be an independent body comprised of institutional investors in far-flung locations, subject to suit, and (2) is the Lido DAO a general partnership within the meaning of California law?
The court denied the motion, holding that DAOs can be treated as general partnerships under California law, which in turn would allow for general partners to be held liable for the activities of the partnership. In particular, a DAO and its general partners can be liable under Section 12(a)(1) of the Securities Act for failing to register the crypto tokens as securities. Further, even though the Lido DAO did not actually "sell" the tokens to the named plaintiff directly, the court treated the Lido DAO as a statutory seller under Section 12(a)(1) because they effectively "solicit" the purchase of the security and, at this stage, the plaintiff adequately alleged that the Lido DAO solicited the purchase of these tokens on crypto exchanges. According to the court, Section 12(a)(1) is not, by its terms, limited to sales made in public offerings, so even an exchange sale on a secondary market used by DAOs would render it a "sale" under the statute.
The decision is consistent with the SEC's position that DAO status does not exempt entities from securities registration requirements. The ruling may have far-reaching implications for DAOs, as it disregards their decentralized nature, including a lack of formal corporate structure or centralized leadership. In other words, courts are not buying into DAOs' legal arrangements, arguing that DAOs merely displace the default rules of partnership law and construe themselves in a way to inoculate themselves from liability. DAO members are warned that even minimal involvement could be treated as "partnership involvement" and lead to liability. Finally, the decision broadens the interpretation of "offer or sale" under securities law to include solicitation through exchanges.
While this ruling may represent a blow to the many proponents of decentralized governance (i.e., those who argue that these networks should not be subject to the same legal obligations or frameworks as conventional entities), it is important to keep in mind that clarity may come with the crypto-friendly presidential administration taking office in January. Until then, however, DAO participants will be looking for ways to shield themselves from personal liability, or "legal wrappers," akin to LLC protections.
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