On February 18, 2016, the Federal Trade Commission (FTC) announced a settlement in its case against Butterfly Labs and two of its officers relating to computers that allegedly could be used to “mine” the cryptocurrency known as Bitcoins. In an earlier stage of the case in 2014, a federal trial court in Missouri granted the FTC’s ex parte motion for a temporary restraining order, asset freeze, and appointment of a receiver for Butterfly Labs. Butterfly Labs had made claims on its web site and on social media that its computers enabled consumers to “mine” a type of cryptocurrency known as Bitcoins. According to the 2014 court order, Butterfly Labs charged consumers between $149 and $29,899—payable upfront via PayPal, wire transfer and, yes, Bitcoins—to purchase these computers but never delivered them, or else delayed delivery so substantially as to render the computers obsolete for the purposes of “mining” Bitcoins.

Cryptocurrencies, sometimes called digital currencies or virtual currencies, do not exist in tangible form, but rather are purely digital. Users transfer them from an encrypted computer file known as a “wallet” either directly to merchants and other third parties, or by way of third party exchanges. Virtual currencies are not issued or backed by any government. Their value is determined from online exchanges and can fluctuate significantly. The best known example of a cryptocurrency is called a Bitcoin, which was created in 2009. Bitcoins are “mined” by individuals solving computational puzzles and, once verified, the Bitcoin network awards a specific number of Bitcoins to the successful “miners.”

The 2014 court order pointed out that, with respect to Bitcoins, time is of the essence because fewer Bitcoins are available (the reward for solving the puzzle has dropped from 50 Bitcoins in 2008 to 12.5 Bitcoins in 2016) and the puzzles to “mine” Bitcoins are becoming increasingly difficult so that “obtaining the most cutting edge technology in a timely manner is paramount for any consumer to successfully make a profit by mining for Bitcoin.” As a result, the FTC alleged that Butterfly Labs violated Section 5 of the Federal Trade Commission Act not only by falsely stating that consumers would be able to use the computers to ”mine” Bitcoins, but also that the machines would be delivered in a timely fashion.

In 2015, the FTC amended its complaint to add a claim that the defendants were using the computers to “mine” Bitcoins for themselves. The FTC claims that this conduct violated the Federal Trade Commission Act not only because it contradicted the defendants’ express claims that they would not “mine” Bitcoins, but that the “mining” also depleted the finite number of Bitcoins available. In other words, because the computations increase in difficulty as the number of available Bitcoins decreases, the FTC claimed that the defendants were making it harder for their customers to use the computers as advertised.

On February 16, 2016, the parties signed and submitted to the trial court for approval a proposed 10-year settlement, in which the defendants neither admit nor deny the allegations. In addition to monetary penalties and consumer redress funds for the FTC to administer, the proposed order would permanently enjoin the defendants from, among other things:

  • making deceptive claims relating to Bitcoin mining products and services;
  • collecting up-front payments from consumers unless the Bitcoin product will ship within 30 days or the Bitcoin service will start within 30 days; and
  • “disclosing, using, or benefitting from consumer information, without the express written consent of the consumer that enables a charge to or withdrawal from a customer’s account (including a credit card, bank account, or other financial account) that any Defendant obtained prior to entry of this Order in connection with the marketing and sale of Bitcoin mining products and services.”

Norton Rose Fulbright is publishing a global legal and regulatory guide to cryptocurrencies. The guide is being published in a series of chapters covering a range of legal and regulatory issues relating to cryptocurrencies. You can download the first chapter and register to receive subsequent chapters here.