WEBVTT - Secrets Revealed in FTX Freefall Into Bankruptcy 0:00:03.160 --> 0:00:07.960 This is Bloomberg Law with June Bresso from Bloomberg Radio. 0:00:09.440 --> 0:00:12.200 We have, you know, a few billion honor balance sheet 0:00:12.320 --> 0:00:14.680 right now. We are profitable and we're in a relatively 0:00:14.720 --> 0:00:18.919 strong place from a financial perspective. That was Sam Bankman Freed, 0:00:19.000 --> 0:00:22.520 the one time crypto king, in July, talking about f 0:00:22.680 --> 0:00:26.319 t X being a profitable business. Now we're watching the 0:00:26.440 --> 0:00:31.440 epic unraveling of the cryptocurrency exchange free falling into bankruptcy 0:00:31.560 --> 0:00:35.839 and exposing shocking secrets. So far, the bankruptcy has revealed 0:00:35.880 --> 0:00:40.479 a chaotically run web of intertwined companies, nine billion dollars 0:00:40.479 --> 0:00:44.839 in liabilities it couldn't pay, the apparent misuse of customer funds, 0:00:45.280 --> 0:00:48.280 and billions of dollars in loans to Bankman Freed and 0:00:48.360 --> 0:00:51.360 his top executives. And those are just a few of 0:00:51.400 --> 0:00:55.360 the revelations. Joining me is bankruptcy attorney Jonathan Janson, a 0:00:55.440 --> 0:00:58.800 partner at Greenberg Gloucesgow. John Ray, who was appointed to 0:00:58.920 --> 0:01:03.680 oversee ft X as its CEO during the bankruptcy proceedings, 0:01:04.200 --> 0:01:07.920 has worked on major bankruptcy cases, including and Ron, and 0:01:08.000 --> 0:01:11.000 he said, never in my career have I seen such 0:01:11.040 --> 0:01:15.000 a complete failure of corporate controls and such a complete 0:01:15.040 --> 0:01:19.319 absence of trustworthy financial information as occurred here. What does 0:01:19.360 --> 0:01:24.560 that tell you? It sounds unbelievably dire for the many 0:01:24.680 --> 0:01:29.120 customers and users out there. None of the financial information 0:01:29.480 --> 0:01:33.600 is reliable. It's not even clear which of the hundred 0:01:33.640 --> 0:01:38.959 plus entities are responsible for what and who owns what assets, 0:01:39.080 --> 0:01:41.679 if any. And you know the fact that John Ray 0:01:42.000 --> 0:01:44.880 was involved with then Ron, and he's making this type 0:01:44.880 --> 0:01:49.360 of statement, it's pre alarming, pre alarming. Ray said that 0:01:49.680 --> 0:01:54.680 a disparate group of supervisors approved disbursements by responding with 0:01:54.800 --> 0:01:59.920 personalized emojis, and that corporate funds were used to purchase 0:02:00.080 --> 0:02:05.880 homes and items for advisors and employees. Is that mismanagement 0:02:06.040 --> 0:02:09.920 or is that something beyond mismanagement? Is that fraud? Oh, 0:02:10.000 --> 0:02:16.160 it's mismanagement. It is a clear breach of their fiduciary 0:02:16.160 --> 0:02:20.120 obligations and duties to the company. And it's hard to 0:02:20.160 --> 0:02:24.880 say it was unknowing despite the inexperience of these individuals. 0:02:24.919 --> 0:02:29.360 I mean, they were heading up a multibillion dollar enterprise 0:02:29.760 --> 0:02:34.639 and certainly had the wherewithal to have proper advisors in place. 0:02:34.720 --> 0:02:37.440 I assume they did. And this seems to me to 0:02:37.520 --> 0:02:41.799 be blatant fraud and misconduct, and it's actionable. There was 0:02:41.840 --> 0:02:45.440 a billion dollar loan to bank Man Freed, two point 0:02:45.520 --> 0:02:49.760 three billion to paper Bird and entity majority owned by 0:02:49.800 --> 0:02:52.960 Bankman Freed, about half a billion to the head of 0:02:53.040 --> 0:02:57.160 engineering at f t X, among other loans bank Man Freed. 0:02:57.960 --> 0:03:01.160 Is that a form of embezzlement? I mean, we don't 0:03:01.160 --> 0:03:06.880 know exactly the circumstances under which these transfers occurred, but 0:03:07.200 --> 0:03:11.400 it's hard to conclude anything other than that it's set 0:03:11.440 --> 0:03:13.840 at the end of the day. However, you may dress 0:03:13.919 --> 0:03:17.519 it up. You know, sometimes transactions may be papered in 0:03:17.600 --> 0:03:20.160 a certain way to give an appearance that it's not 0:03:20.280 --> 0:03:24.919 as improper as otherwise would be regarded. But yes, I 0:03:25.000 --> 0:03:28.400 think the clear answer is there was an embezzlement at 0:03:28.440 --> 0:03:31.640 a large scale. It appears there was some sort of 0:03:31.639 --> 0:03:36.400 backdoor relationship between f t X and Alameda and bank Man. 0:03:36.440 --> 0:03:40.839 Freed reportedly transferred ten billion dollars of customer funds from 0:03:41.040 --> 0:03:44.880 f t X to Alameda in early November. Does that 0:03:44.960 --> 0:03:49.200 transfer now seems suspicious? It looks incredibly suspicious. It looks 0:03:49.360 --> 0:03:52.000 and it appears to be pretty clear that he was 0:03:52.120 --> 0:03:56.520 using customer and user assets to prop up what was, 0:03:56.720 --> 0:04:01.400 you know, his quant hedge fund, which was experiencing severe 0:04:01.520 --> 0:04:04.200 loss as many of need is essentially, you know, using 0:04:04.280 --> 0:04:07.320 other people's money to prop up a hedge fund that 0:04:07.760 --> 0:04:13.120 was clearly troubled and insolvent and cascading into the disaster 0:04:13.320 --> 0:04:18.479 we now see. This seems sudden. Do companies normally go 0:04:18.640 --> 0:04:23.840 bankrupt on such short notice? Well, and short notice, I 0:04:23.880 --> 0:04:28.000 guess it depends short notice to whom um But in 0:04:28.080 --> 0:04:31.960 this particular case, as it relates to fp X, everything 0:04:32.160 --> 0:04:34.919 happened very quickly, you know, in the course of a 0:04:34.960 --> 0:04:38.680 week or two, and it is a little bit unusual 0:04:38.800 --> 0:04:42.560 that there wasn't some sort of sense that there was 0:04:42.720 --> 0:04:45.479 this decline happening and that there would be a need 0:04:45.600 --> 0:04:48.880 for a bankruptcy filing it It did happen rather quickly. 0:04:49.240 --> 0:04:53.440 It's not as uncommon in the crypto space, just given 0:04:53.480 --> 0:04:58.240 the volatility of the market and frankly the pace in 0:04:58.320 --> 0:05:01.560 which things seem to happen. So I think in general 0:05:01.640 --> 0:05:04.800 the answer is no. You know, things aren't usually happened 0:05:04.880 --> 0:05:07.800 this quickly without any sort of notice on the one hand. 0:05:07.839 --> 0:05:10.159 On the other hand, in this industry, I think it 0:05:10.240 --> 0:05:15.599 is less uncommon. I understand this is what's known in 0:05:15.640 --> 0:05:20.400 the industry as a free fall bankruptcy. Yes, and so 0:05:21.279 --> 0:05:25.440 what the free fall bankruptcy is getting at is typically 0:05:25.480 --> 0:05:29.880 a company, particularly accompany the size of ft X, would 0:05:30.000 --> 0:05:36.040 want to file a bankruptcy in an organized and methodical 0:05:36.160 --> 0:05:39.560 fashion where they thought about what they're going to need 0:05:39.839 --> 0:05:44.720 immediately upon the bankruptcy filing to facilitate a smooth transition 0:05:44.760 --> 0:05:48.960 into bankruptcy. And so often in a bankruptcy that is 0:05:49.000 --> 0:05:52.800 not a free fall, there will be you know, six seven, ten, 0:05:53.000 --> 0:05:54.960 and in this case, perhaps it could have been even 0:05:55.000 --> 0:05:58.600 more what are called first day motions. And these are 0:05:58.720 --> 0:06:02.320 motions that are since we filed on the first day, 0:06:02.400 --> 0:06:05.440 they're referred to as first day motions. And the idea 0:06:05.680 --> 0:06:09.920 is that giving some of the limitations into the bankruptcy code, 0:06:10.200 --> 0:06:15.400 extraordinary relief is needed immediately to sort of smooth to 0:06:15.560 --> 0:06:19.560 allow for a smooth transition into bankruptcy. For instance, upon 0:06:19.560 --> 0:06:23.919 a bankruptcy filing, a company can't pay any debt that 0:06:24.120 --> 0:06:27.480 is a pre bankruptcy debt. There's exceptions that can be 0:06:27.560 --> 0:06:30.720 made into context of a first day motion. Let's say, 0:06:30.800 --> 0:06:33.000 for instance, the company is in the middle of a 0:06:33.000 --> 0:06:36.640 payroll cycle. Well, the last thing you want is for 0:06:36.680 --> 0:06:39.400 a company to file bankruptcy and therefore to be no 0:06:39.640 --> 0:06:44.520 provision immediately for assuring that employees that may have accrued 0:06:44.960 --> 0:06:47.480 wages prior to the filing in the middle of the 0:06:47.520 --> 0:06:51.560 payroll period aren't going to have their payroll honored in 0:06:51.600 --> 0:06:55.080 the ordinary course. So a first day motion might provide 0:06:55.160 --> 0:06:59.360 for a request of the bankruptcy court to allow for 0:06:59.520 --> 0:07:03.000 the we need to continue in the ordinary course to 0:07:03.080 --> 0:07:07.000 make payroll. So in this case, in the case of 0:07:07.120 --> 0:07:10.360 f t X, the free fall bankruptcy is associated with 0:07:10.440 --> 0:07:14.840 the fact that this is a rather large company and 0:07:15.000 --> 0:07:18.200 on the day they filed, they simply filed a petition 0:07:19.400 --> 0:07:23.640 with no other pleatings or other paperwork for any sort 0:07:23.680 --> 0:07:28.440 of relief, and for that matter, no pleatings or any 0:07:28.520 --> 0:07:32.080 filings that would tell anybody what's going on with the 0:07:32.080 --> 0:07:37.000 company's financials and what problems led to the company's bankruptcy filing, 0:07:37.920 --> 0:07:41.280 and what issues are the front and center, at least 0:07:41.280 --> 0:07:44.960 immediately now that the company is in bankruptcy. So the 0:07:45.000 --> 0:07:49.480 free fall concept suggests that this was done at the 0:07:49.560 --> 0:07:54.880 last minute without much planning, and it's very unusual for 0:07:54.920 --> 0:07:57.760 a large company to find itself in a free fall 0:07:57.800 --> 0:08:03.080 bankruptcy because usually there's enough time and planning that takes 0:08:03.080 --> 0:08:06.120 place to prevent that from happening. Do we know what 0:08:06.280 --> 0:08:09.040 caused the bankruptcy? There was an effort on the part 0:08:09.040 --> 0:08:15.120 of I guess we'll call them SPS to support Alameter Research, 0:08:15.240 --> 0:08:19.000 which was a hedge fund but sister company of the 0:08:19.160 --> 0:08:23.320 exchange f t X, and the transfer of that ten 0:08:23.400 --> 0:08:29.960 billion dollars clearly left a hole in the liquid assets 0:08:30.000 --> 0:08:35.680 of f t X that customers presumably you know, would 0:08:35.800 --> 0:08:38.960 want to withdraw or have a basis to withdraw, and 0:08:39.040 --> 0:08:42.800 it wasn't going to be there anymore. The bankruptcy and 0:08:42.880 --> 0:08:48.079 the issues surrounding the liquidity enlargements had to do with 0:08:48.240 --> 0:08:53.080 reporting initially by coin death, suggesting that the companies in 0:08:53.160 --> 0:08:58.079 this case Alameter Research, most of its assets were in 0:08:58.240 --> 0:09:02.360 f t X generated or an f t X coin. 0:09:03.080 --> 0:09:07.040 The f t t and that token, if you will, 0:09:07.720 --> 0:09:13.080 really is a token which value is tied to providing 0:09:13.280 --> 0:09:17.240 customers of f t X with discounts on trade. So 0:09:17.320 --> 0:09:21.120 there isn't a lot of intrinsic value associated with that token, 0:09:21.760 --> 0:09:26.040 and there was a lot of the token in Alameter Research, 0:09:26.520 --> 0:09:29.320 which called into question the value of the hedge fund, 0:09:29.679 --> 0:09:34.080 which led to the need for it to be supported 0:09:34.160 --> 0:09:38.280 by customer assets, which were transferred by sbs in part 0:09:38.360 --> 0:09:41.800 to bolster the strength of the fund. And the reason 0:09:41.880 --> 0:09:47.480 why the fund was under pressure was due in part 0:09:47.559 --> 0:09:51.400 to the coin death revelation that that's where Alometer Research 0:09:51.520 --> 0:09:55.160 was largely holding. And then you begin to peel the 0:09:55.200 --> 0:09:57.840 onion back a little bit and realize that there's no 0:09:57.920 --> 0:10:01.760 liquidity because this stuff doesn't really have an intrinsic value, 0:10:02.080 --> 0:10:05.559 and so it sort of created a run on the bank, 0:10:06.080 --> 0:10:10.400 particularly when Finance, which had made an investment in f 0:10:10.559 --> 0:10:14.959 t X, was basically liquidating its position as fd X 0:10:15.200 --> 0:10:19.840 and Finance were parting ways. So it created pressure on 0:10:20.320 --> 0:10:24.040 f t X and it's token, and that news hit 0:10:24.280 --> 0:10:28.319 and customers became concerned, and there was increasing efforts on 0:10:28.440 --> 0:10:30.719 the part of the customer based in f t X 0:10:31.080 --> 0:10:34.480 to withdraw their assets from ft X, which is sort 0:10:34.520 --> 0:10:37.319 of the classic run on the bank, if you will, 0:10:37.679 --> 0:10:41.240 And knowing that f t X didn't have the wherewithal 0:10:41.600 --> 0:10:45.800 withwid assets to honor those customer withdrawals, it had to 0:10:45.840 --> 0:10:49.160 stop that process, which inevitably led to the need to 0:10:49.240 --> 0:10:52.960 file for a bankruptcy. Does that transfer now seems suspicious? 0:10:53.120 --> 0:10:56.760 It looks incredibly suspicious. It looks and it appears to 0:10:56.840 --> 0:11:00.240 be pretty clear that he was using customer and user 0:11:00.520 --> 0:11:04.120 assets to prop up what was, you know, his quant 0:11:04.440 --> 0:11:08.680 hedge fund, which was experiencing severe loss as many of 0:11:08.720 --> 0:11:12.000 these essentially, you know, using other people's money to prop 0:11:12.120 --> 0:11:16.640 up a hedge fund that was clearly troubled and insolvent 0:11:16.920 --> 0:11:21.679 and cascading into the disaster we now see. The crypto 0:11:21.720 --> 0:11:25.600 exchange was as a privately held company, which means it 0:11:25.600 --> 0:11:28.640 doesn't have to share its financial statements with the public. 0:11:28.800 --> 0:11:31.760 Do you think that led to the problems that we're 0:11:31.760 --> 0:11:36.840 seeing today, Well, there's no question that the fact that 0:11:37.080 --> 0:11:44.200 these exchanges are not subject to clear regulations and rules 0:11:44.520 --> 0:11:48.720 is a big problem and is certainly a contributing factor 0:11:48.800 --> 0:11:52.439 to what was able to be accomplished by ft X 0:11:52.720 --> 0:11:57.680 in terms of transfer and funds undetected by auditors. Frankly 0:11:57.960 --> 0:12:01.959 to Alameda, if there was a more robust regulatory environment 0:12:02.240 --> 0:12:07.640 and rules in place, with the regulatory oversight, we wouldn't 0:12:07.640 --> 0:12:11.000 necessarily have as big of a problem as we have today. 0:12:11.080 --> 0:12:15.679 So yes, does Ray have a grasp of the balance sheet. 0:12:16.080 --> 0:12:18.680 John Ray made it pretty clear in the paper work 0:12:18.760 --> 0:12:21.920 that was filed that that none of the accounting is 0:12:22.040 --> 0:12:27.079 really reliable at this point, and even accounting for assets 0:12:27.320 --> 0:12:29.600 games such as bank accounts, he doesn't even have a 0:12:29.679 --> 0:12:33.640 proper list of the bank accounts where the money is, 0:12:33.800 --> 0:12:37.160 so we really don't have any sense of the asset 0:12:37.320 --> 0:12:41.720 values that maybe there went alone the liabilities. This is 0:12:41.760 --> 0:12:46.440 a Chapter eleven bankruptcy reorganization. What does it look as 0:12:46.480 --> 0:12:48.760 if ft X can be or is this going to 0:12:48.800 --> 0:12:52.120 turn out more likely to be a liquidation? And its core, 0:12:52.280 --> 0:12:55.439 this is going to be a liquidation just given the 0:12:55.640 --> 0:12:59.079 damage to the brand and the fact that there doesn't 0:12:59.080 --> 0:13:03.480 appear to be a real asset value beyond other people's money. 0:13:03.760 --> 0:13:06.280 At its core, it's going to be a liquidation. There's 0:13:06.320 --> 0:13:09.560 a number of entities, many of which are not actually 0:13:09.600 --> 0:13:13.160 in bankruptcy right now, subsidiaries of some of these debtors 0:13:13.200 --> 0:13:18.080 that may ultimately be businesses that can be sold. And 0:13:18.160 --> 0:13:21.480 how likely is it that customers will get any of 0:13:21.520 --> 0:13:24.960 their money back? I think there is hope that customers 0:13:25.000 --> 0:13:28.640 will get some money back, It will be not for 0:13:28.720 --> 0:13:32.760 quite some time, and customers will be likely to get 0:13:32.920 --> 0:13:35.800 pennies on the dollar, and maybe pennies is a little 0:13:35.880 --> 0:13:40.760 too bleak, but customers will not get most of their 0:13:40.800 --> 0:13:45.000 deposits and assets back from this exchange. And the question 0:13:45.040 --> 0:13:48.520 really is how successful Mr Ray and the other newly 0:13:48.520 --> 0:13:52.840 appointed directors are in terms of bringing value and asset 0:13:53.000 --> 0:13:58.120 transfers back into the bankruptcy estates to enhance recoveries for 0:13:58.280 --> 0:14:02.960 customers and creditors. Thanks Jonathan. That's Jonathan Jansen, a partner 0:14:03.000 --> 0:14:05.640 at Greenberg Gloucesker. And that's it for this edition of 0:14:05.679 --> 0:14:08.360 the Bloomberg Law Show. Remember you can always get the 0:14:08.440 --> 0:14:11.640 latest legal news on our Bloomberg Law Podcast. You can 0:14:11.679 --> 0:14:15.920 find them on Apple Podcasts, Spotify and at www dot 0:14:15.920 --> 0:14:20.040 Bloomberg dot com, slash podcast, slash Law, and remember to 0:14:20.120 --> 0:14:22.960 tune into The Bloomberg Law Show every week night at 0:14:23.000 --> 0:14:26.480 ten pm Wall Street Time. I'm June Grosso, and you're 0:14:26.560 --> 0:14:27.800 listening to Bloomberg