By Megan McDermott (University of Wisconsin-Madison School of Law)
Note: This post is the first post in a series of posts on bankruptcies of cryptocurrency companies and the emerging issues they pose. This series is being managed by the Bankruptcy Roundtable and Xiao Ma, SJD at Harvard Law School, xma [at] sjd [dot] law [dot] harvard [dot] edu.
Check the HLS Bankruptcy Roundtable periodically for additional contributing posts by academics and practitioners from institutions across the country.
The FTX bankruptcy isn’t just significant for its size and scope, but also for some extraordinary procedural wrinkles. Here are a few notable developments from the first six weeks of the FTX bankruptcy:
- Unusual delays. Most Chapter 11 bankruptcies are the products of weeks, if not months, of behind the scenes planning. As a result, the typical debtor is able to file a flurry of first day motions that ensure a high degree of debtor control – at least during the early stages of bankruptcy, while creditors are scrambling to find representation and determine strategy. Not so with FTX, due to the fact that current CEO John Ray took over from Sam Bankman-Fried immediately before the Chapter 11 filing. Ray has testified that FTX’s abysmal record-keeping and absence of corporate controls have made it extremely difficult to get an accurate picture of FTX’s assets and liabilities. As a result, the traditional first day motions were heard a week into proceedings, and second day motions were postponed to January 11. The delay makes it easier for individual creditors to organize push back to the debtors’ plans, which could in turn impact overall creditor recovery.
- Jurisdictional squabbling. Bahamian regulators are mounting a spirited fight to retain control over the liquidation of FTX Digital Markets, one of the many entities in FTX’s global web of related businesses. The Bahamian regulators backed off their initial strategy of asking the Southern District of New York to open a parallel Chapter 15 proceeding. Nonetheless, they are currently arguing that the Delaware Bankruptcy Court lacks authority to halt liquidation under Bahamanian law. Given the rumors that Bahamanian authorities encouraged (or possibly compelled) Bankman-Fried to give Bahamanian customers preferential treatment in withdrawing frozen funds, there is a lot at stake in this jurisdictional skirmish. In his testimony to Congress, Ray mentioned this “extraordinary pushback” but expressed confidence that these efforts would be rejected in favor of the transparency and clarity that Chapter 11 promises to all stakeholders.
- Sealed submissions. Despite this commitment to transparency, FTX has asked to file a variety of court submissions under seal, including creditor lists. FTX’s lawyers argue that revealing creditor names would make them a target for hacking or, at the very least, poaching by competitors of FTX. The U.S. Trustee has objected strenuously to sealing these records, on the grounds that these risks are the trade-offs of a public and transparent proceeding. In addition, Dow Jones, Bloomberg, and other media interests have moved to intervene in order to oppose the debtor’s efforts to avoid disclosing creditor identities. In the Celsius bankruptcy, the Southern District of New York decisively rejected efforts to keep parts of the docket under seal. Judge Dorsey hasn’t taken a clear position yet but has agreed to keep creditor lists under seal – for now.
- Preferential transfers. During Congressional questioning, Ray was asked about rumors of looting in the months preceding the Chapter 11 filing, as well as some dubious post-petition maneuvers. There are also likely to be a number of insider transfers, especially since at least one of Bankman’s Fried’s parents (Stanford Law Professor Joseph Bankman) has reportedly received payments from FTX. Transfers between FTX and Bankman-Fried and his family may be in the billions. Expect some bombshells as FTX seeks to use Chapter 11 to avoid these transfers.
- Property of the estate. Major stakeholders are already wrangling to have their assets returned on the ground that these assets should not be considered property of the estate. Of particular note are two motions filed by committees representing U.S. and non-U.S. exchange customers. The customers are arguing that they are entitled to have their crypto assets returned rather than having to wait in line for a pro rata recovery alongside other unsecured creditors. Although some commentators have suggested that FTX’s terms of service may support these arguments, the legal authority for how to treat these assets is far from clear. Another early mover is crypto lender BlockFi, which is staking its claim to 56 million Robinhood shares that Alameda Research had pledged as collateral shortly before FTX’s Chapter 11 filing. These shares have lost around 40% of their value since early November, which is part of the reason BlockFi has filed its own Chapter 11 bankruptcy in the District of New Jersey. Bankruptcy courts across the country will likely see many similar ripple effects before FTX’s creditors see any recovery.
- Executory contracts. Given FTX’s lavish public relations spending and celebrity co-branding, many FTX partners are undoubtedly eager to extricate themselves from the now-disgraced company. For example, the publisher of the League of Legends video game filed an early motion for relief from the automatic stay, asking the court’s permission to halt their contractual obligation to promote FTX at various events. Right before the new year, FTX granted their wishes, moving to reject that cobranding deal alongside a long list of other executory contracts. FTX’s motion details almost two dozen sponsorship deals, ranging from the Golden State Warriors to Berkeley Athletics to an international cricket competition. FTX also hopes to cast aside paid celebrity endorsements from the likes of Gisele Bundchen and Shohei Otani. In the motion, FTX explained that “the Contracts are not integral to the Debtors’ Chapter 11 efforts, are not otherwise beneficial to the Debtors’ estates and present burdensome liabilities.” Accordingly, FTX requested that the contracts be deemed terminated immediately. That means the Miami Heat Arena may soon be in the market for a new naming rights partner. (See photo.) [Editor’s Note: On January 11, 2023, the bankruptcy court approved the termination of FTX’s naming rights: https://www.nba.com/news/miami-dade-county-wins-right-to-strip-ftx-name-off-heat-arena]