Samuel Bankman–Fried (SBF), just a few months ago, seemed to be marching towards becoming the world’s first trillionaire. However, earlier this month, he lost his entire fortune in the space of three days when his crypto exchange FTX and related group companies met their ignominious end. SBF is an active supporter of the Effective Altruism movement and a generous donor to philanthropic causes; he was worth nearly USD 16 billion just a couple of weeks ago but is nearly bankrupt today. This story of the abrupt reversal of fortune prompted me, like a lot of others, to go searching for any clues to the downfall of FTX.
“Never in my career have I seen such a complete failure of corporate controls and such a complete absence of trustworthy financial information as occurred here. From compromised systems integrity and faulty regulatory oversight abroad to the concentration of control in the hands of a very small group of inexperienced, unsophisticated, and potentially compromised individuals, this situation is unprecedented.”
The words leapt out of the screen at me. The above quote is from a document filed by John J. Ray III, who took over as CEO of FTX after SBF resigned, with the Bankruptcy Courts of Delaware. The full import of John Ray’s statement hits home only when one realizes that he has handled many such cases before including Enron, the poster child for corporate scams.
Here is a summary of the damning observations that Ray made about FTX Group in his court filing:
- Lack of Systems and Processes
FTX Group did not have any systems and processes that one normally expects in a multi-billion-dollar company. There was no accurate accounting of investor funds. There was no complete list of bank accounts and authorized signatories. There was not even a complete list of employees.
- Lack of Governance
Most companies in the FTX Group did not even have Board meetings. There were no audited financial statements for most companies. The person in charge of regulatory and other compliance had a dubious past record. Alameda, a company almost completely privately owned by SBF and with no external investors, was run by his girl friend.
- Alleged Fraud
FTX, a crypto exchange, was run by Alameda Research, a crypto hedge fund. Alameda was also the sole market maker. It is like asking the Fox to guard the coop! Alameda had a software back door to FTX. This enabled Alameda to get funds from FTX without any oversight and collateral constraints. This was possibly the conduit used to divert investor funds for private use.
- Role of VC funds
FTX Group was funded by a bevy of marquee VC funds including BlackRock, Sequoia, and Softbank. While these VC funds invested hundreds of millions of dollars at lofty valuations in FTX, SBF and some of his group entities invested up to USD 500 million in funds controlled by these VCs. Sequoia, which proudly carried on its website a 14,000 word long, panegyrical piece on SBF (since been withdrawn), was his major backer.
- Alleged Misappropriation
FTX gave SBF USD 1 billion and Singh USD 533 million for acquiring personal property. These were not even documented as loans.
FTX is certainly not the first, and will probably be not the last, company to collapse so spectacularly. However, given the players involved, Ray’s court filing raises many troubling questions. The FTX saga is a good case study for due diligence, governance, and conflict of interest rules (more accurately, lack of them) in the VC ecosystem and some of the largest institutional investors in the world.
Dr. Ramasastry Ambarish
Dean & Chairman of the Board of Governors
MYRA School of Business