FTX and Alameda have settled their disputes with BlockFi, agreeing to pay the firm up to $874 million, subject to court approval.
Bankrupt crypto companies FTX and BlockFi have reportedly settled their disputes arising from their collapses in 2022 after the crypto exchange left many companies in a death spiral that has billions of dollars left in limbo. According to the agreement details, FTX will pay BlockFi up to $874.5 million, pending approval by U.S. Bankruptcy Judge John Dorsey in Wilmington, Delaware, Reuters reports.
The litigation between the two entities started in 2023, with both seeking to recoup funds lent before their joint bankruptcies in November 2022. Under the newly reached settlement, FTX will a $250 million payment to BlockFi, while the remaining sum is contingent on FTX’s efforts to reimburse its customers amidst bankruptcy proceedings.
Additionally, FTX has also committed to pay an extra $185.3 million to BlockFi, representing the amount held by BlockFi in its FTX trading accounts when the exchange collapsed. The distribution percentage for BlockFi’s customers holding interest-bearing accounts varies considerably, with potential recoveries ranging between 39.4% and 100% of their account balances.
As part of the settlement, BlockFi has agreed to drop its lawsuit concerning 56 million Robinhood shares, allegedly pledged as collateral for loans to Alameda Research, FTX’s main market maker. These equity shares were seized by the U.S. Department of Justice following the arrest of FTX founder Sam Bankman-Fried, who’s now facing over 100 years in prison after being convicted on multiple charges related to the collapse of his exchange.
BlockFi has announced its emergence from bankruptcy and is initiating plans to repay creditors, marking a significant turnaround after last year’s challenging halt of withdrawals following the FTX exchange collapse.
The Oct. 24 announcement by BlockFi, a crypto lending firm, about its emergence from bankruptcy and the commencement of creditor repayments signifies a pivotal moment in the company’s history.
BlockFi is pleased to announce that its bankruptcy plan (the “Plan”) is effective and the company has emerged from bankruptcy as of October 24, 2023 (the “Effective Date”).
Last year, the collapse of the FTX exchange compelled BlockFi to halt withdrawals, leading to a tumultuous period for the company and its stakeholders. In its blog post, the company’s management and advisors take pride in achieving this critical milestone swiftly and efficiently compared to other retail crypto companies.
The company’s ability to navigate through bankruptcy and plan for a strategic wind-down does bring a sigh of relief to creditors and customers. Yet, the turbulent nature of the crypto industry, coupled with the aftermath of the FTX collapse, raises questions about the stability and long-term viability of BlockFi’s operations.
The company assures users that digital assets will be distributed back to clients, with withdrawals available to nearly all wallet customers. Additionally, users with interest-yielding accounts are being prompted to withdraw available funds.
This marks the commencement of what the company describes as the first wave of distributions, with subsequent distributions being subject to various factors, primarily BlockFi’s treatment in the FTX bankruptcy cases.
The statement introduces an element of uncertainty, as the amount and frequency of subsequent distributions are not guaranteed. The dependency on the outcomes of the FTX bankruptcy cases further complicates the scenario, given the unpredictable nature of legal proceedings and the volatile crypto market.
“Contagion” is the most popular word in crypto after the disastrous fallout of the past year. And dominos keep falling as investors painfully realize how closely intertwined the entire cryptocurrency industry is. Hundreds of billions of dollars were incinerated.
And bitcoin mining companies have not completely avoided this. In fact, a unique type of mining business failed catastrophically, which could provide valuable lessons for future entrepreneurs. The combination of crypto lending and crypto mining was showcased in two high-profile companies: BlockFi and Celsius. Both of these companies are now bankrupt. What happened?
This article explores the histories, downfalls and lessons of both organizations.
The Crypto Lending Businesses’ Mining Interests
Even the most casual crypto observer would be familiar with the two industry-leading crypto lending businesses that went bust in 2022. What may be less widely known is that both of these companies also maintained significant bitcoin mining units. BlockFi and Celsius were not only the go-to names for centralized crypto lending, they also heavily invested in bitcoin mining. And when both companies sank, so did their mining teams.
BlockFi announced its new mining operations in May 2021 in the form of a partnership with Blockstream and its long-standing mining unit. Exactly how much hash rate BlockFi is managing through Blockstream has not been disclosed, and the current status of BlockFi’s hash rate at Blockstream facilities is also not fully known. But the lending company said it viewed mining as a complement to its financial service offerings.
Celsius also invested heavily in bitcoin mining, with $500 million spent on its mining efforts as of November 2021. In an older interview, former Celsius CEO Alex Mashinsky said the company operated 22,000 mining machines, most of which were Antminer S19 models. Like BlockFi, Mashinsky described his company’s mining efforts as a strategic complement to its lending business.
To be clear, BlockFi and Celsius were not the only companies operating at the intersection of mining and lending. Mining companies lending their coins to other institutional market participants (e.g., trading firms) is not uncommon. And it’s not unreasonable to assume other, smaller lending firms also had exposure to the mining industry. But BlockFi and Celsius were unparalleled in the combined scale of both their lending and mining operations. Both companies were also bankrupted as a direct result of the fallout from the stunning collapse of FTX.
Tale Of Two Bankruptcies
Both companies — Celsius and BlockFi — have now filed for bankruptcy.
In June 2022, Celsius announced it was pausing all withdrawals. The next month, the company filed for Chapter 11 bankruptcy. Machinsky abruptly resigned in the middle of the bankruptcy proceedings but not before reportedly withdrawing $10 million.
The bankruptcy of Celsius Mining came just months after it announced its plans to go public. But the company planned to continue mining throughout its bankruptcy proceedings, and defended these plans vigorously. Celsius said its mining operations were key to the company’s restructuring efforts. But mining isn’t cheap. In the first two weeks of mining through bankruptcy, Celsius Mining burned $40 million, according to reporting by The Wall Street Journal. At the time, Celsius Mining told the court it expected the mining operations to become profitable by January 2023.
Shortly after Thanksgiving, BlockFi also filed for bankruptcy. Its bitcoin mining operations have not played as prominent a role in the proceedings as Celsius’ has. No reports found for this article indicate that Blockstream’s agreement with BlockFi has been terminated or otherwise interrupted.
But the BlockFi-hosted mining operations were not its only mining-related concerns. In addition to hashing for itself, the company also originated loans to other mining entities. BlockFi’s corporate account addressed this matter on Twitter one month before filing for bankruptcy. Some reports indicate that BlockFi could have suffered up to $80 million in losses from its exposure to Core Scientific, for example.
Why Mine And Lend?
Why a lending company wants to mine bitcoin at all is a question worth answering. The precise answers to this vary, but here’s a simple explanation of one potential motivation: By essentially acting as “crypto savings banks” and lending bitcoin (and other cryptocurrencies) to various retail and institutional counterparties, institutions like BlockFi, for example, had minimal exposure at best to bitcoin’s parabolic upside. Its borrower clients, on the other hand, had full exposure to the market’s volatility. In theory, spinning up a mining operation could give lenders more material risk exposure with larger potential profits.
But the lending business — especially given how some of the crypto financial institutions manage their books — carries enough counterparty risk and operational complexity by itself, one would think. The mining business is notoriously ruthless and complicated, which places new entrants at massive disadvantages even in the best market conditions. Managing a mining unit in addition to a core lending service is beyond doubly tough compared to running only one or the other business, since business complexity scales exponentially, not linearly. Although successfully running a joint lending/mining business is not impossible, it certainly is not for an inexperienced or risk averse founder.
In short, after a decade of institutionalized mining growth, there are good reasons why most mining companies are only mining companies — not hybrid businesses with other core offerings outside of mining. Sure, some miners play the role of lender in limited cases, as previously mentioned. But their core business is mining. Doing anything else is often too much to manage.
Don’t Rinse And Repeat
2022 was a brutal year for all of “crypto,” but especially for miners and lenders. Both high-profile companies that combined the two businesses ended in bankruptcy. Unfortunately, the “crypto” industry has a goldfish-like memory and is more likely to repeat rather than avoid these mistakes. But, hopefully, the future includes severe adjustments in accepted practices for lenders and also strong recovery from well-managed, bear-market-hardened mining companies. If not, the pain and suffering of the 2022 bear market was for nothing.
This is a guest post by Zack Voell. Opinions expressed are entirely their own and do not necessarily reflect those of BTC Inc or Bitcoin Magazine.
Sen. Sherrod Brown (D-Ohio) made a plea to the Treasury Department on Wednesday to draft legislation that would set up surveillance and regulatory measures over the crypto industry following the collapse of FTX.
According to the filing, BlockFi has over 100,000 estimated creditors and an estimated $1-10 billion in liabilities. The filing confirms that the firm has $256.9 million cash in hand.
A released statement on BlockFi’s Twitter explained: “As part of our restructuring efforts, we will focus on recovering all obligations owed to BlockFi by counterparties, including FTX.
Acting in the best interest of our clients is our top focus and continues to guide our path forward. Chapter 11 is a transparent process and we will continue to communicate with our clients to ensure they hear directly from us.”
This filing is yet another example of lenders facing insolvency in recent months in the wake of industry-wide collapse. In July of this year, Celsius filed for bankruptcy, and just recently, Genesis halted withdrawals, forcing Gemini Earn to as well.
According to a source that spoke with Decrypt, alongside the bankruptcy proceedings, BlockFi will also be laying off a “large portion” of its staff.
With the recent implosion of FTX and the connected Alameda Research hedge fund, questions about BlockFi’s ability to cover customer assets began to surface. These only increased after BlockFi confirmed they did not have further clarity on the situation surrounding FTX and began limiting customers on their platform, including halting withdrawals.
In a blog post, BlockFi included additional resources for customers with questions about the proceedings.
Earlier this month, crypto lender Celsius Network filed for Chapter 11 bankruptcy protection in federal court the Southern District of New York. The filing was not a surprise to many familiar with the company’s recent news, as it had been more than a month since Celsius halted customer withdrawals due to self-reported and self-described “extreme market conditions.” What alarmed many in the industry, especially Celsius users, is the way the company will likely treat the frozen funds.
In the court filing, Celsius’ Chief Executive Officer Alex Mashinsky disclosed a roughly $1.2 billion hole in the company’s balance sheet. As of July 13, 2022, the company had $5.5 billion in total liabilities and $4.3 billion in assets. Celsius said it owes consumer users (as opposed to institutional partners) more than $4.7 billion.
A financially distressed company can choose between a few different types of bankruptcy proceedings. Celsius chose Chapter 11, which generally prioritizes repayments to secured creditors first, then unsecured creditors, and finally equity holders. Unsecured creditors are most likely to be individuals or institutions that lent money without obtaining specified assets as collateral, or “security”, to protect their loan.
While it is unclear how Celsius and the bankruptcy court will classify Celsius users that have been prevented from accessing their funds, Celsius’ terms of service and court papers seem to indicate users will be treated as unsecured creditors. This begs the question of when and if Celsius’ customers will be able to recoup some or any of their losses. This may well be the subject of heated litigation in the bankruptcy court.
Key Actors
● Celsius Network
● CEO Alex Mashinsky
Context
Celsius Claimed To Be As Safe As A Bank
Celsius held itself out as a safe alternative to traditional banks and promised users high interest rates. Customers could use their credit cards or bank accounts to buy crypto assets. To entice customers to stake their cryptocurrency with Celsius, the company promised returns of up to 20% on deposits, including 8.8% on stablecoins like Tether’s USDT.
Mr. Mashinsky consistently downplayed risks entailed by these strategies and called initial allegations that the company was having issues as “Fud” (“fear, uncertainty and doubt”).
Many Celsius customers have written to the Bankruptcy Court, arguing to get access to their funds and saying they felt lied to by the company and Alex Mashinsky.
“I watched every single AMA (Ask me Anything) each Friday since sign-up, and week in and week out Alex would talk about how Celsius is safer than banks because they supposedly don’t rehypothecate and use fractional reserve lending like the banks do,” says Stephen Richardson.
Another Celsius user, Brian Kasper, said “Celsius continued to tell people they were better than a bank. Safer, with better returns. As well as tell us they had billions in liquid cash.”
Despite Celsius only recently filing for bankruptcy, questions about its risk management procedures had been circulating for years. For instance, in June 2021, Crypto Custodian Prime Trust cut ties with Celsius after its risk team expressed concern about Celsius’ strategy of “endlessly re-hypothecating assets.” Since March 2020, Celsius had been using Prime Trust to store assets for some of its customers.
As Scott Purcell, founder of Prime Trust and Fortress.xyz, told me, “In 2020 I took a long look at Celsius and other lending/staking platforms out of professional curiosity. The more I learned about their business models, the more concerned I became. I researched how they were paying such high interest rates. I can certainly understand getting a premium for doing something that banks were shying away from. I also understand lending (hypothecating) assets to enable people to borrow (margin). That’s a terrific business. But that didn’t explain the huge range of interest rates Celsius (and others like them) were paying people for lending BTC, ETH and other crypto assets. I read that they weren’t just lending once (hypothecating) but that their model was one of rehypothecation; lending the same assets over and over and over again to juice yields. If true, that was stunning, it might or might not be legal (I’m not an attorney, so not my call) but, without question, this would be destined for failure as any sharp market movement in either direction would be catastrophic to such a ridiculously leveraged business model. And yet people were lining up to send cash or crypto to them on this model…insane.”
Celsius initially claimed it could generate such large yields by simply lending customer funds to institutions but Celsius shifted strategy and began using more decentralized finance (DeFi) platforms. This ultimately led to the recently disclosed $1.2 billion shortfall in Celsius’ balance sheet.
Not All Bankruptcies Are Created Equal
Because Celsius was not a registered broker dealer, it was able to file for Chapter 11 bankruptcy protection, rather than under Chapter 7.
Chapter 11 bankruptcy allows businesses to operate while they restructure their finances to pay creditors. Had Celsius been regulated as a securities or commodities brokers or filed for Chapter 7 bankruptcy, its only option would be to liquidate, allowing the court to sell off what assets remain to pay off debts.
Celsius has been making efforts to free up as much operational capital as possible. Recently Celsius freed up more than a billion dollars in crypto assets, mostly in wBTC and a type of ether (ETH) derivative token called stETH by paying off its remaining debt to a variety of decentralized finance (DeFi) protocols such as AAVE and Compound.
In its bankruptcy filings, Celsius requested permission to pay up to $3.76 million in liens and vendor claims, and said it has $167 million in cash to support business operations.
Celsius Slipped Through Crypto’s Regulatory Cracks
Celsius’s terms of service – if enforceable – may present problems for customers seeking full recovery of their deposits. The terms states that users transfer “all right and title” of their crypto assets to Celsius including “ownership rights” and the right to “pledge, re-pledge, hypothecate, rehypothecate, sell, lend, or otherwise transfer or use” any amount of such crypto, whether “separately or together with other property”, “for any period of time,” and “without retaining in Celsius’ possession and/or control a like amount of [crypto] or any other monies or assets, and to use or invest such [crypto] in Celsius’ full discretion.” Celsius has written in court filings that customers transferred ownership of crypto assets to the company, making those customers unsecured creditors.
Had Celsius been a bank, deposits of up to $250,000 would be insured by a federal body. Users of a broker-dealer would be insured for up to $500,000 in securities and cash by a separate body, the SPIC.
In September 2021, regulators in Kentucky, New Jersey and Texas hit Celsius with a cease and desist order, arguing its interest-bearing products should be registered as securities. State securities boards in Alabama, Kentucky, New Jersey, Texas and Washington have also launched probes into Celsius, Reutersreports. The SEC is also reportedly looking into Celsius.
This May Not Just Be a Celsius Problem
Other pseudo-banks like Voyager (also bankrupt) and BlockFi (fortified by FTX) have similar language in their terms of service.
Blockfi’s terms states that “BlockFi has the right, without further notice to you, to pledge, repledge, hypothecate, rehypothecate, sell, lend, or otherwise transfer, invest or use any amount of such cryptocurrency provided by you under a Loan, separately or together with other property, with all attendant rights of ownership.” BlockFi warns, “[a]ny bond or trust account maintained by BlockFi for the benefit of its clients may not be sufficient to cover all losses incurred by clients. In light of these risks, you should carefully consider whether holding cryptocurrency in a BlockFi account is suitable.”
Voyager’s terms point out that it is unclear how customer’s cryptocurrency would be treated in case of an insolvency proceeding and explicitly warns that customers could be “treated as an unsecured creditor” and experience “the total loss of all Customer Cryptocurrency.”
Voyager filed for bankruptcy protection earlier this month. Then last week, the Federal Reserve and Federal Deposit Insurance Corporation (FDIC) ordered Voyager to cease any representations that its customers’ funds would be protected in case of the company’s failure. The statement said, “Voyager has made various representations online, including its website, mobile app, and social media accounts, stating or suggesting that: (1) Voyager itself is FDIC-insured; (2) customers who invested with the Voyager cryptocurrency platform would receive FDIC insurance coverage for all funds provided to, held by, on, or with Voyager; and (3) the FDIC would insure customers against the failure of Voyager itself. These representations are false and misleading and, based on the information we have to date, it appears that the representations likely misled and were relied upon by customers who placed their funds with Voyager and do not have immediate access to their funds.”
Key Numbers
Celsius has said it owes users more than $4.7 billion.
Celsius was valued at about $3 billion after raising $690 million in a Series B financing round in May 2022, according to the bankruptcy filing.
Celsius said in court that the value of its assets have fallen by about $17.8 billion since March 30, 2022, to $4.3 billion from roughly $22.1 billion.
Key Quote
“We’ve seen again that lending platforms are operating a little like banks. They’re saying to investors ‘Give us your crypto. We’ll give you a big return 7% or 4.5% return.’ How does somebody offer (such large percentage of returns) in the market today and not give a lot of disclosure? . . . If it seems too good to be true, it just may well be too good to be true.” – Gary Gensler
Outlook
In general, Chapter 11 bankruptcies prioritize repayments to secured creditors, then unsecured creditors, and finally equity holders. Celsius listed over 100,000 creditors around the world in its filing, including Pharos USD Fund ($81 million owed) and Alameda Research (owed almost $13 million).
Celsius noted in its bankruptcy filing that its customers transferred ownership of their crypto to the company, which likely indicates Celsius’ intention of treating users as unsecured creditors. While users may litigate their status as secured or unsecured creditors, this will take years and could still result in users never seeing their assets again.
Adding further complications, in traditional bankruptcy proceedings, creditors have claims denominated in dollars and those claims are measured as of the date of the bankruptcy filing. Many wonder how the price volatility of bitcoin will play out in this instance.
Celsius is scheduled to appear in bankruptcy court again later this month.
Decision Points
These recent bankruptcy proceedings in the cryptocurrency space serve as a reminder that the lack of regulatory clarity often results in a lack of clear consumer protections and rights.
Terms of Service often indicate how customers will be treated when things go wrong. Investors should carefully review terms of service and reach out to the company or their own legal representation before trusting funds with platforms. Users should also understand that if something sounds too good to be true, it likely is and usually big rewards (like high interest offerings) also pose big risk to users.
The premise of bitcoin was always self-custody, which means users don’t earn returns but also means they act as their own bank.
