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New FTX chief tells lawmakers that embezzlement, bad management caused epic crypto collapse

The new CEO of failed cryptocurrency exchange FTX told Congress Tuesday the company collapsed from shoddy management and “old-fashioned embezzlement,” as lawmakers awash in the firm’s campaign donations pointed fingers at the Securities and Exchange Commission for lax oversight of the crypto industry.

John Ray III, a corporate restructuring specialist who took over FTX last month, called the collapse one of the worst business failures he has seen — a “paperless bankruptcy,” fueled by an “utter lack of record-keeping.” 

Comparing it with the failure of Enron and the Bernie Madoff investment scandal, he said a firm that once had a market valuation of about $32 billion lost nearly all of the money from more than 1 million investors.

“They use Quickbooks. A multi-billion dollar company using Quickbooks,” Mr. Ray told the House Financial Services Committee, referring to an online tool used by small and medium-sized companies to track expenses. “Never in my career have I seen such an utter failure of corporate controls at every level of an organization, from the lack of financial statements to a complete failure of any internal controls or governance whatsoever,” Mr. Ray said FTX went on a $5 billion “spending binge” in 2020-21, purchasing assets for far more than they were worth. But he concluded, “This is really old-fashioned embezzlement. This isn’t sophisticated.”

Missing from the hearing was FTX’s founder and former CEO Sam Bankman-Fried, 30, who was arrested in the Bahamas just hours before he was scheduled to testify. The arrest was made at the request of the U.S. government, which on Tuesday announced criminal charges against Mr. Bankman-Fried including wire fraud and money laundering.

Among the allegations is that Mr. Bankman-Fried and other conspirators committed campaign finance violations by arranging for illegal shadow contributions to unspecified political candidates. The indictment states that he and others “agreed to and did make corporate contributions to candidates and committees in the Southern District of New York that were reported in the name of another person.”

Mr. Bankman-Fried was the second-biggest campaign donor to Democrats in the 2022 election cycle, giving about $40 million to lawmakers and the Biden presidential campaign as he lobbied Congress and the White House on regulatory proposals for the crypto industry. He has said he also contributed tens of millions in unspecified “dark money” to Republican candidates.

More than $300,351 of his campaign donations went to nine members of the House Financial Services Committee, seven of them Democrats.
The SEC also filed civil charges against Mr. Bankman-Fried on Tuesday, including allegations that he used FTX customer assets for his own trading operations at his Alameda hedge fund and “for whatever other purposes Bankman Fried saw fit.”

“In essence, Bankman-Fried placed billions of dollars of FTX customer funds into Alameda,” the SEC complaint stated. “He then used Alameda as his personal piggy bank to buy luxury condominiums, support political campaigns, and make private investments, among other uses. None of this was disclosed to FTX equity investors or to the platform’s trading customers.”

Committee Chairwoman Maxine Waters, a California Democrat who has been accused of being too cozy with Mr. Bankman-Fried and other FTX executives, changed her tone on Tuesday, stating unequivocally that he committed fraud.

“I am hopeful that the arrest … means he will be held accountable for the fraud he has committed and the harm he has caused,” Ms. Waters said.
She said all FTX investors are locked out of their accounts, and most of them can hope to recover only “a fraction” of their losses at best.

“I’m so deeply troubled to learn how common it was for Bankman-Fried and FTX employees to steal from the cookie jar of customer funds to finance their lavish lifestyle,” Ms. Waters said.

While Democrats received nearly all of Mr. Bankman-Fried’s campaign donations, some committee Democrats blamed Republicans on Tuesday for discouraging the SEC from regulating the cryptocurrency industry.

“I don’t get the point of cryptocurrency to begin with, other than if you’re a terrorist or someone that wants to hide money,” said Rep. Juan Vargas, California Democrat. “But if we are going to have it, we have to regulate it. That’s where the government comes in. Somebody’s got to take charge of this. I’ve always thought it was the SEC. We had a lot of pushback from my [Republican] friends on the other side. I didn’t hear them today pushing back quite as they normally do.”

Rep. Brad Sherman, California Democrat, urged Mr. Ray to investigate an FTX loan of $55 million to co-CEO Ryan Salame, who gave millions in campaign contributions to Republican candidates. Mr. Sherman called for an investigation of possible violations of campaign finance laws, asking whether the loan to Mr. Salame “immediately proceeded disguised campaign contributions.”

Mr. Ray said such loans, including one of $1 billion to Mr. Bankman-Fried, were not explained in company records.

Rep. Patrick McHenry, North Carolina Republican, said the cryptocurrency industry holds promise and that Mr. Bankman-Fried’s alleged fraud “is nothing new.”

“It appears to be the same old-school fraud, just using new technology,” Mr. McHenry said. “We have to separate the bad actions of an individual from the good created by an industry and an innovation. I believe in the promise in digital assets and those around the world building blockchain technologies.”

Ms. Waters said she was “surprised” by the arrest of Mr. Bankman-Fried, and was disappointed that the public wouldn’t get to hear his testimony.

In a draft of his written testimony viewed by Reuters, Mr. Bankman-Fried planned to offer an apology at the hearing.

 “I would like to start by formally stating, under oath: I fucked up,” he was to say. Then he criticized his company’s lawyers and crypto rival Binance for actions that he blamed for worsening the collapse of FTX.

“Last year, my net worth was valued at $20b,” Mr. Bankman-Fried wrote. “Last I saw, I believe my bank account had about $100k in it.”

Rep. Alexandria Ocasio-Cortez, New York Democrat, questioned Mr. Ray why $100 million was withdrawn from FTX in the Bahamas during a 25-hour period just before he took over the company from Mr. Bankman-Fried. Mr. Ray didn’t answer directly but said he is investigating whether Mr. Bankman-Fried had sought to retain some control over FTX during bankruptcy proceedings.

FTX filed for bankruptcy protection on Nov. 11, when the firm ran out of money after the cryptocurrency equivalent of a bank run. The collapse of crypto’s second-largest exchange has garnered worldwide attention and prompted worries in the crypto industry that the pain could become widespread. Estimates are that FTX customers could wind up losing billions of dollars.

Despite the taint of FTX’s campaign donations, several lawmakers said Congress must take more action to regulate the crypto industry.

Thomas Gorman, a former SEC official and a partner at the international law firm Dorsey & Whitney, said crypto assets “exist at the intersection of regulation” where the Justice Department, the SEC and the Commodity Futures Trading Commission all have limited authority over the industry.

“No agency had the authority to govern the internal systems and controls of FTX except through fraud claims,” Mr. Gorman said. “That is not sufficient.
 
The total absence of regulation resulted in the predictable – a huge mess. While Congress is now conducting hearings to try and determine why FTX failed the answer is clear: It’s the absence of regulation.”

— This article is based in part on wire-service reports.

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