As the dust settles on one of the most shocking Financial implosions in historyis one of the key unknowns of how much clients who don’t have access to their funds expect to expect a payback from FTX, the crypto exchange that filed for bankruptcy last week.
According to legal experts, the answer could be zero.
Before its dissolution, FTX.com marketed itself as a safe place for beginners to buy and sell cryptocurrencies. But a liquidity crunch last week forced FTX to halt withdrawals, leaving customers and investors in limbo. FTX Reportedly used customer funds according to the Wall Street Journal without permission to support its sister hedge fund’s high-risk trades.
On Friday, FTX and hedge fund Alameda Research filed for bankruptcy.
Federal prosecutors in New York are now investigating the stock market collapse, a person familiar with the matter told CNN. And authorities in the Bahamas, where FTX is based, started a criminal investigation at the company at the weekend.
The legal ramifications for FTX and its founder Sam Bankman-Fried remain unclear. But as the stock market, once valued at more than $30 billion, collapses, it’s looking increasingly likely that customers who have deposited their funds into FTX could hold the bag.
“We just don’t know the extent of the contagion,” said Howard Fischer, a partner at the law firm Moses Singer and a former attorney for the Securities and Exchange Commission. “The first ring of victims are the people who have held assets in FTX… They probably won’t be made complete or even close.”
There are a few reasons for this.
In a traditional US bank failure, the government insures customer deposits and boosts them up to $250,000. But there is easy no deposit insurance mechanism in the largely unregulated world of cryptocurrencies.
In theory, FTX’s clients should receive a share of the company’s assets at the end of the bankruptcy proceedings. But at least it’s not yet clear how much remains to be paid out.
“As far as I know, they have two assets – the goodwill value of the exchange and the value of their FTT coins,” said Eric Snyder, head of the bankruptcy practice at law firm Wilk Auslander. (Goodwill value refers to intangible assets like a brand’s reputation and intellectual property. And FTT coins, the crypto tokens issued by FTX, have lost more than 90% of their value over the past week.)
In bankruptcies, Snyder explains, there’s a pretty simple formula to figure out how much creditors — in this case, FTX depositors — will get.
“The numerator is wealth, the denominator is liability. They divide one into the other, and the [result] everyone gets it,” he said. “But if people subtract all the assets, there won’t be a big meter.”
He added, “It’s very conceivable that the return will be minimal at best.”
Of course, the suddenness of FTX’s demise makes it difficult to judge early on, lawyers say.
Typically, companies would have weeks to prepare bankruptcy filings, which include, among other things, an explanation of why the company sought Chapter 11 protection and what it hopes to achieve in the bankruptcy court.
Dan Besikof, a bankruptcy partner at Loeb & Loeb, says it’s too early to tell if customers will get any money back.
“All you can really do is guess where things are from tweets,” he said. “And how customers get their money back can depend on a lot of different things, including the facility they’re holding the money through, how many coins are left.”
The FTX fallout has rocked the entire crypto industry, raising serious questions about the future of digital assets and the lack of global regulation.
On Monday, Changpeng Zhao, the CEO of FTX competitor Binance, tried to convince his audience of the legitimacy of the sector.
“It’s obvious that people are nervous,” Zhao, commonly known as CZ, said in a question-and-answer session on twitter. “I’d like to say, in the short term, it’s painful. But I think this is good for the industry in the long run.”
The giant crypto exchange appeared briefly as a lifeline for FTX ahead of last week’s reversal.
Zhao, whose tweet announcing Binance’s divestment into FTX helped fuel the smaller company’s liquidity crisis, has denied having a “master plan” to uncover FTX. Still, critics note that the biggest, and perhaps only, winner of FTX’s demise is none other than Zhao, who is undoubtedly the richest and most influential player in digital asset trading today.
“As much as some people blame me for whistleblowing or poking the bladder, I apologize for that… I apologize for any turmoil I’ve caused. But I think if there’s a problem, it’s always better to uncover it earlier.”
Matt Egan and Kara Scannell of CNN Business contributed to this article.
Correction: In a previous version of this article, the name of the law firm Loeb & Loeb was incorrect.