Is Avalanche safe from SEC regulatory actions? How does it compare to Ripple?

Ava Labs is a US-based company, founded by cryptography experts from Cornell University in NY and funded by several investors in the US.

Ripple is a US-based company, founded by economists and cryptography experts from Canada and Kansas and funded by investors in the US.

Notice any parallels?

If you do, then you’re not alone.

With Ripple getting sued by US regulators, investors began to question whether authorities could go after other cryptos with similar compliance profiles. Could Avalanche be at risk of facing a SEC lawsuit as well? What are the issues? By the way, why did Ripple get sued?

What could be more of a lightning rod for regulators than a state of the art 4th generation cryptocurrency developed in the USA?

In this article we take a closer look at this pressing issue, since many investors may be asking themselves the same question: is AVAX at risk of a SEC intervention like Ripple was?

Disclaimer

Nothing in this article constitutes legal advice.
If you’re an investor in Avalanche AVAX, please consult with a certified accountant or attorney for legal advice. This article offered as an opinion piece only.

So, let’s start from the beginning.

Where does Avalanche come from? Who runs Avalanche AVAX?

Ava Labs

Avalanche AVAX is developed by Ava Labs Inc, a company launched by Cornell University researchers in New York.

Although Ava Labs is formally registered in the state of Delaware, its offices are located in NY. Specifically, New York City and Ithaca.

The Ripple lawsuit explicitly mentions having offices in New York City as a factor for the regulatory action:

As we’ll see later in this text, Ava Labs was well aware of the fact that being located in the US would require them to take additional legal steps. So, let’s take a look at how the project was funded.

Ava Labs Funding

According to Crunchbase, Ava Labs obtained initial funding from Fundamental Labs, NGC Ventures, Lemniscap, Galaxy Digital LLP, Bitmain, Initialized Capital, Dragonfly Capital Partners, Hashkey Capital, Balaji Srinivasan and Ramtin Naimi.

With the notable exceptions of Bitmain, NGC and Fundamental Labs and a couple of others, most initial Avalanche AVAX funding came from accredited US-based investors.

From what we’ve seen so far, it’s pretty clear that Avalanche lies within US jurisdiction for every regulatory requirement.

But is it vulnerable to a Ripple-like lawsuit?

To answer that, first, we need to decide whether AVAX is a security.

Is AVAX a Security?

How do we decide whether Avalanche AVAX is a security? Does Avalanche pass the Howey test?

An asset is considered a security if “a person invests their money in a common enterprise and is led to expect profits solely from the efforts of the promoter or a third party”.

We are not lawyers, so we’ll leave the definitive answer open to experts’ interpretations.

In our opinion, it would seem that, at least in these early stages of the project, Avalanche AVAX does fit the description of a security.

After all, Ava Labs is the sole developer and promoter of Avalanche and investors do, obviously, expect profits from the enterprise. Again: in these initial stages of platform development.

While crypto enthusiasts would probably like to hear otherwise, Avalanche is different from Bitcoin in this respect.

There is, indeed, a US-based entity responsible for developing and promoting AVAX and its related technologies. A simple logic exercize proves this point: if Ava Labs did not exist, neither would AVAX.

Bitcoin, in contrast, has no such organization behind it – it’s an ad-hoc group of developers gathered via a source code management system.

For all practical purposes, it’s safe to assume a US judge would consider Avalanche a security, if provoked to do so.

But would US courts get involved? Unlikely, as we’ll see next.

Public Sale

Ava Labs concluded its public sale in September 2020.

First, and most importantly, as far as the Ripple lawsuit goes, AVAX was not offered to US residents:

This makes all the difference, since the main driving factor behind the Ripple lawsuit is the fact that US-based individuals’ funds were involved in the initial sale.

Another factor was that these individuals’ assets price was subject to trading by early investors, something Avalanche avoided by having a ….

Vesting Period

The Ripple lawsuit explicitly mentions sales in public markets by the issuers of the securities:

This is clearly designed so that early investors don’t dump their primary market, and thus usually heavily discounted, shares on individuals once trading begins on the public/secondary markets.

Avalanche is also exempt from this issue, because all early investors had their coins locked:

During 4 years, early Avalanche investors will have their AVAX coins locked. As mentioned in the above answer by Ava Labs, this is quite a substantial period. (As a matter of fact, this is unprecedented in cryptocurrency offerings.)

This was obviously done to avoid regulatory risk similar to what’s being claimed against Ripple in the SEC lawsuit.

Avalanche seems to be safe from this angle as well.

Avalanche SEC Filing

Another factor mentioned in the Ripple lawsuit is that XRP did not register their sale with the SEC, as stated on the lawsuit’s introductory summary:

Fortunately, Avalanche did register for Federal Exemptions under rule 506(b):

Under this safe harbor rule, Avalanche was allowed to raise an unlimited amount of money from accredited investors as long as a Form D was filed – which was successfully done by Ava Labs.

Decentralization

Ripple centralization has always been raised as one of its main weaknesses.

The crypto community feared that XRP was too heavily controlled by a central institution.

As we can now see, this was indeed the case.

After the SEC filed the lawsuit against XRP Inc, the cryptocurrency dropped over 50% in a matter of days.

Avalanche, on the other hand, has gone into decentralized operation mode from day 1. Anyone can run an AVAX node and verify transactions themselves – there is no central operational unit in Avalanche. This was never the case with Ripple.

Although, like we said, Ava Labs is the formal issuer of the AVAX coin as far as regulators are concerned, the technical operation of the Avalanche network does not depend on a given legal entity, unlike Ripple.

As we stated earlier, AVAX would not exist without Ava Labs, but here’s where it differs: AVAX can now exist and function without Ava Labs. It’s been bootstrapped and released into decentralized mode. Ripple, on the other hand, continued to be operated by XRP Inc to this day.

Early Ripples

(This section AKA we simply couldn’t avoid the pun.)

As expected, Bitcoin aside, none of the top 10 cryptocurrencies made any gains in the days following the SEC intervention in Ripple. In fact, Avalanche hasn’t made any price gains either.

Ripple capital flow isn’t necessarily heading for Bitcoin, so where is it going?

Monero made decent gains in recent days, as did THETA and Synthetix. The former is a privacy-centric cryptocurrency, which could indicate that crypto traders are seeking anonymity and safety from government regulators?

What happened to Avalanche market cap though?!

It seems like Avalanche AVAX began to quickly gain market cap in early December, a couple of weeks before the SEC-Ripple lawsuit, therefore no correlation implied here.

The market cap growth seen above is due to the gradual unlocking of the vested early investor AVAX coins, which began to be released on December 9.

As investors continue to dump XRP, where will the capital flow next? We believe Avalanche AVAX is a priority destination for the next wave.

Conclusion

So, does the Ripple Lawsuit present a threat to Avalanche?

Although we’re not legal experts, and nothing in this article constitutes legal advice: NO, we don’t think the Ripple legal problems could spill over. The way Avalanche was launched and is being managed wouldn’t attract US regulators’ ire in any conceivable way, in our opinion.

Quite the contrary, in fact.

It seems like AVAX is historically at the right place, at the right time.

As the flaws in other crypto projects begin to creep up, Avalanche shows its strengths by having complied with every regulatory hurdle from the start.

(Also, AVAX is a much more exciting platform than Ripple in every angle you look at it.)

Links

Ava Labs SEC CIK entry, via SEC.report

Ava Labs Crunchbase Entry

SEC Lawsuit against Ripple

Why Avalanche (AVAX) has the potential to be an incredible store of value

Ripple (XRP) is centralized and terribly flawed, researchers say

Base Layer Wars Heat Up With Another $12M Committed to AVA Labs’ Avalanche Blockchain

Securitize Integrates with Avalanche, a High Performance Blockchain Ecosystem

Blockchain project Avalanche raises $42 million in a public token sale