A US Judge has rejected DraftKings’ motion to dismiss the class action lawsuit filed by the company’s Non-Fungible Token (NFT) buyers. The lawsuit accuses DraftKings, its CEO, CFO, and president of allegedly violating federal securities laws with its NFTs.
DraftKings Accused Of Selling Unregistered Securities
On March 2023, Justin Dufoe filed a putative class action against sports betting and fantasy sports company DraftKings. In the complaint, the Plaintiff asserts that the company’s non-fungible tokens should be considered “investment contracts” under the Howey Test.
DraftKings launched the ‘DraftKings Marketplace’ in 2021 using the Polygon Blockchain. The marketplace offered “digital collectibles across sports, entertainment, and culture.” Its first NFT featured football player Tom Brady and sold for $12 to $1,500 each.
Dufoe asserts that the sports betting company’s NFTs are a security under federal law. Moreover, the complaint alleges that the defendants knowingly sold unregistered securities and profited from their sales:
Defendants had actual knowledge of facts indicating that the NFTs they promoted and sold were ‘securities’ under federal and state securities laws and further that they had failed to register their NFTs as securities. Defendants reaped, or will reap, hundreds of millions of dollars in profits from their unregistered securities sales.
In October, DraftKings filed a motion to dismiss the lawsuit, arguing that their NFTs are not securities “and thus are not subject to the registration requirements of the Securities Act of 1933, or the Securities and Exchange Act of 1934.”
US Judge Rejects Motion To Dismiss NFTs Securities Trial
On July 2, the US District Court District of Massachusetts denied the motion as the Plaintiff “plausibly alleged that the DraftKings NFTs are investment contracts, and therefore securities, under the Howey test.”
The Court document states that Judge Denise J. Casper would not debate whether the NFTs involved the “investment of money.” Instead, the Court focused on the remaining elements of the Howey test:
Namely, whether Dufoe and other purchasers were investing in a common enterprise with the expectation of profits derived solely from the efforts of others.
The plaintiff sufficiently alleged the pooling of assets requirement, where the pooling of assets from multiple investors is done “in such a manner that all share in the profits and risks of the enterprise.”
Per the document, “the revenue generated by the sale of NFTs was reinvested into DraftKings’s business, including through the promotion of the Marketplace.” This satisfied the “horizontal commonality” quality of the common enterprise requirement.
Dufoe also plausibly alleged a reasonable expectation of profits from purchasing DraftKings NFTs. As explained by Lawyer Rob Freund, the expectation was “based on capital appreciation driven by DraftKings’s efforts to maintain investor interest and demand in the Marketplace.”
The company’s promotional activities and marketing campaign encouraged customers to view the digital collectibles as “investments that could appreciate in value.”
Lastly, the Plaintiff plausibly alleged that the expected profits would come from significant efforts of others, instead of investors. As such, the price of the NFTs was reliant on the company’s efforts and promotion.
The Court ultimately considered “the primary forces behind the market price of the NFTs a factual question that is not suited for resolution on a motion to dismiss.” As a result, the upcoming legal battle could have further implications for the legal status of NFTs and the industry.
