Federal Judge Greenlights NFT-Related Lawsuit Against DraftKings

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In a significant setback for leading digital sports entertainment and gaming company DraftKings, a federal judge has ruled that class action litigation may proceed against the firm. The lawsuit is premised on allegations that the non-fungible tokens (NFTs) made available on the company’s DraftKings Marketplace can be classified as securities.

Looking at the crux of the dispute, it revolves around digital trading cards traded on the DraftKings’ Marketplace by participants playing the company’s Reignmakers fantasy games. The argument was made and accepted that these trading cards fulfill the criteria for securities as established by the historic 1946 Supreme Court case SEC v. W.J. Howey Co., known as the Howey Test.

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The Howey Test established a set of benchmarks for determining whether an asset is deemed a security. These parameters include the investment of money, the anticipation of profits, an enterprise in common, and reliance on the efforts of a third party for the expected return. US District Judge Denise Casper determined that the plaintiff successfully met these thresholds with regard to their complaint against DraftKings.

However, the interpretation of the Howey Test has evolved over time, varying based on location, particular case details, and adaptations in financial product offerings. In such a fast-paced context, NFTs, as units of data housed on blockchain technology, have stirred up much legal debate. Their classification as securities remains a point of contention despite them clearly having investment and revenue potential.

The plaintiff in this specific case with DraftKings is Justin Dufoe, an Illinois resident, who lodged his lawsuit in March 2023 after incurring significant losses on NFTs purchased via the DraftKings Marketplace.

The backdrop to this legal conflict was the DraftKings’ ambitious foray into the NFT market in mid-2021, through the unveiling of the DraftKings Marketplace. Complementing this platform was the introduction of Reignmakers, the company’s fantasy sports feature leveraging NFTs on the Polygon blockchain.

Participants in the DraftKings digital ecosystem utilized Reignmakers to amass collections of gamified NFL, PGA Tour, and UFC NFT cards through auctions, pack drops, and secondary market transactions. The aim was to use these digital assets in virtual sports competitions. However, the timing proved unfortunate as NFT prices plummeted soon after, leading many participants, like Dufoe, to nurse substantial losses.

The litigation brings further charges against DraftKings, alleging the company’s failure to register its NFTs as securities with the Securities and Exchange Commission (SEC). This could thrust the company under the SEC’s microscope, given past enforcement actions to classify NFTs as securities.

Judge Casper’s ruling perceives the DraftKing’s Marketplace as functioning more as a securities exchange than a mere digital trading card platform. This insinuation puts DraftKings in a potentially precarious position of being accused of illicitly trading securities.

NFTs, despite being a relatively new asset class, have already set certain legal precedents that could potentially affect the case involving DraftKings Marketplace. Notably, in 2023, US District Judge Victor Marrero ruled NBA trading cards offered by NBA Top Shot to be securities, ordering the company to pay plaintiffs $4 million. Likewise, the SEC garnered a combined $1.5 million in fines from two NFT issuers for selling unregistered securities. These rulings could possibly color the outcome of the DraftKings case.