In new guidance released in December, the US Securities and Exchange Commission (SEC) advises firms to disclose their involvement with digital commodity companies. This is the latest sign that regulators are on high alert and fear further negative consequences, following the collapse of major crypto giants, such as FTX, BlockFi, and 3AC. Earlier this month, SEC Chairman Gary Gensler fended off accusations that the government agency has failed to prevent crypto enterprises from misusing customer funds. He also said the SEC would take more enforcement actions if organizations won’t comply with existing regulations.
This article looks at the events that led to the release of this new set of rules and what it means for businesses and the industry as a whole.
Industry Overview in 2022: A Rough Year for Crypto
2022 has been a tumultuous year for the crypto market. Bitcoin has dropped 65% from its all-time high, the cryptocurrency Luna suffered a total collapse in what is considered the largest crypto crash to date, and several companies filed for bankruptcy. Here is a brief summary of the main events that have affected crypto giants—and subsequently, the industry—this year:
FTX
The Bahamas-based exchange FTX began the year with a $32 billion valuation. It’s no wonder that its crash was the most dramatic demise of a crypto company so far. Although FTX positioned itself as a “white knight” that could save other businesses amid market turmoil earlier in 2022, it went bankrupt in November, soon after a potential merger with rival crypto exchange Binance fell through.
Its founder, Sam Bankman-Fried, faced allegations that he had funneled customer deposits to FTX’s affiliated trading firm Alameda Research, which caused FTX to suffer withdrawals of about $6 billion in just 72 hours. It was a remarkable fall from grace for Bankman-Fried, whose wealth — tied up in the ownership of about half of FTX and a share of its FTT tokens — was once estimated by Forbes to be as high as $26.5 billion. In December, FTX’s founder was arrested after prosecutors in the US filed criminal charges. The process is expected to be a long and complicated one, and its consequences can already be felt in the industry.
BlockFi
BlockFi was the first crypto company to follow FTX into bankruptcy, filing for Chapter 11 less than two weeks after FTX’s collapse. The crypto lender had several ties to FTX and relied on a $400 million credit facility from it to stay afloat after rival crypto lenders Voyager Digital Ltd and Celsius Network went bankrupt in the wake of market turmoil in early 2022.
BlockFi representatives have stated that they intend to ask a bankruptcy judge to allow some of their alleged 450,000 users to withdraw funds from their accounts. The users who would be able to withdraw funds have non-interest-bearing BlockFi Wallet accounts that BlockFi established earlier this year as part of a $100 million settlement with the US SEC.
3AC
Singapore-based Three Arrows Capital (3AC) was the first major crypto firm to go bankrupt in 2022. Although the crypto hedge fund reportedly had $10 billion in cryptocurrency earlier in 2022, it was brought down by the collapse of cryptocurrencies Luna and TerraUSD, which has massively disrupted crypto markets around the world.
Experts overseeing the liquidation of 3AC have said that the founders have fled abroad and are not cooperating with efforts to recover assets for creditors.
What Does the New SEC Guidance Entail for Companies?
In a guide for listed companies, the SEC outlined the information businesses must share with their investors. This includes whether they have any financially significant exposures to enterprises that have filed for bankruptcy or become insolvent.
The set of rules applies to all publicly traded organizations affected by the recent disruptions in the crypto industry. Listed businesses are already legally required to disclose financial material information to investors. Yet, the SEC often issues more specific guidance on how they should manage risks from crucial events. According to the agency, public companies should be prepared to inform investors of any risks arising from turmoil in crypto-asset markets, such as price declines, loss of customer demand, and the risk of litigation.
The SEC’s Division of Corporation Finance developed a sample letter after a selective review of findings made under the Securities Act of 1933 and the Securities Exchange Act of 1934. It directs organizations to disclose other “material information if any, as may be necessary to make the required statements, in light of the circumstances under which they are made, not misleading.” One proposed item in the letter asks the issuer to describe how corporate insolvencies and their effects “have impacted or may impact [their] business, financial condition, customers, and counterparties, either directly or indirectly.” Another asks for a description of “any material risk […], either direct or indirect, due to excessive redemptions, withdrawals, or a suspension of redemptions or withdrawals, of crypto assets.”
The SEC Division of Corporation Finance encouraged companies to follow these recommendations when preparing documents that don’t normally have to be reviewed by the Division before their use.
The Bottom Line
The future of crypto still looks nebulous, with many hoping the industry will bounce back in 2023. The recent bankruptcies and financial hardship among crypto-asset market stakeholders have caused widespread disruptions. Organizations are now legally required to disclose information related to the direct or indirect impact that these events and surrounding circumstances have had or may have on their business.
