1) What has happened in the case under consideration?
FTX Trading Ltd., commonly known as FTX (short for "Futures Exchange"), is a bankrupt company
that formerly operated a cryptocurrency exchange and crypto hedge fund. The exchange was
founded in 2019 by Sam Bankman-Fried and Gary Wang and, at its peak in July 2021, had over
one million users and was the third-largest cryptocurrency exchange by volume.
According to a complaint filed by the Securities and Exchanges Commission (SEC), Bankman-Fried
used customer funds as a “personal piggy bank” to make private investments including real estate
and political campaign donations.
In August 2020, FTX acquired Blockfolio, a cryptocurrency portfolio tracking app, for $150
million.[27] In July 2021, the venture raised $900 million at an $18 billion valuation from over 60
investors, including Softbank, Sequoia Capital, and other firms.[28][29] Bankman-Fried bought
out Zhao's stake for approximately $2 billion.[26] In September of that year, FTX moved its
headquarters from Hong Kong to The Bahamas.[30]
On January 14, 2022, FTX announced a $2 billion venture fund named FTX Ventures,[31] raising
$400 million in Series C funding at a $32 billion valuation that month.[32] The FTX Ventures
website went offline in November 2022.[33] On February 11, 2022, FTX.US announced that the
company would soon begin offering stock trading to its US customers.[34]
In February 2022, it was reported that FTX was creating a gaming division that would help
developers add cryptocurrency, NFTs, and other blockchain-related assets into video games.[35]
FTX, a major cryptocurrency exchange, and FTX.US, its U.S. branch, filed for Chapter 11
bankruptcy on Nov. 11, 2022. Former founder and CEO Sam Bankman-Fried was arrested on Dec.
12 in the Bahamas and was extradited to the U.S., where he later pleaded not guilty to eight
criminal charges including wire fraud and conspiracy to defraud investors.
According to a complaint filed by the Securities and Exchanges Commission (SEC), Bankman-Fried
used customer funds as a “personal piggy bank” to make private investments including real estate
and political campaign donations.
On November 2, everything changed. The publication about
cryptocurrencies CoinDesk published revealing material that the FTX
exchange is provided only with tokens issued by its subsidiary.
An FTX-affiliated company called Alameda Research had assets of
$14.6 billion as of June 30. The problem was that most of these assets
are FTT's own token, and not independent assets, as everyone
thought.
In simple terms, this means that the management attracted real
money from large investors and creditors, including well-known and
reputable funds Sino Global Capital, Tiger Global Management,
Third Point Ventures, providing virtual obligations that have no real
value as collateral.
The CEO of rival exchange Binance, Changpeng Zhao, also known as
CZ, tweeted on Nov. 6 that he was planning to sell off Binance’s
stockpile of FTT because of “recent revelations that have came to light,”
referring to the Nov. 2 CoinDesk report of FTX and Alameda’s blurred
funds.
2) What wrong solutions and wrong activity did result in these exceptional losses?
FTX and FTX.US crashed due to a lack of liquidity and mismanagement of funds, followed by a
large volume of withdrawals from rattled investors. The value of FTT plummeted, taking other
coins down with it including Ethereum and Bitcoin, which reached a two-year low as of Nov. 9.
Other exchanges have been affected by the FTX collapse including BlockFi, which filed for
bankruptcy on Nov. 28.
The report emphasizes that these three people, who recently graduated from college and had
no experience in risk management or business management, controlled almost all significant
aspects of the FTX group of companies.
In addition, the FTX group of companies stored almost all crypto assets in "hot" wallets, which
exposed the funds to an increased risk of compromise, since the "hot" wallets are connected to
the Internet, which makes their keys vulnerable to hacking, malware and other cybersecurity
threats. The document notes that Bankman-Fried repeatedly falsely claimed that the exchange
uses "cold" wallets (offline storage).
3) What should be done to prevent these losses?
4) Strong Financial Management: Ensuring that the company has competent and
experienced financial executives and management that can manage its finances
appropriately and avoid financial mismanagement.
5) Adequate Capitalization: A company must ensure that it has enough capital to
support its operations and growth. A well-funded company is less likely to
encounter financial difficulties.
6) Risk Management: Implementing effective risk management policies and
procedures, such as diversifying investments and hedging against potential
losses, can help minimize risk exposure.
7) Timely Financial Reporting: Regularly reviewing and analyzing financial
statements can provide insight into the company's financial health, allowing
management to make informed decisions based on accurate financial data.
8) Business Continuity Plan: Having a plan in place to manage unexpected events
such as a pandemic, natural disaster, or economic downturn can mitigate the
impact of such events on the company's financial health.
9) Vigilance Against Fraud: Enforcing strong internal controls and avoiding
fraudulent activities can help prevent financial loss and maintain the company's
financial stability.
10) What strategy could you recommend for avoiding such potentials in future?