What the Media is Getting Wrong About the Collapse of FTX

What can we say about FTX and Sam Bankman-Fried–who was arrested in the Bahamas December 13 and charged with eight counts of criminal fraud–that hasn’t already been said? Actually, plenty.

There’s a lot of confusion and flat-out misinformation in the reporting we’ve seen from media outlets. Perhaps some reporters were thrown onto this fast-moving story who lacked experience in the world of web3 and cryptocurrency. And it shows.

The FTX bankruptcy wasn’t caused by poor risk management, honest investments going bad, or bad accounting practices. This isn’t a situation you could compare to, say, a bank that made too many high-risk loans and then had mass defaults. FTX’s situation is nothing like that.

Here’s what you need to know to understand why FTX really imploded:

Throwing up a smokescreen

‍Anyone who’s watched a magic show knows that illusions rely on misdirection–the art of making the audience look elsewhere while the trick is being executed.

Over the years, SBF engaged in elaborate misdirection, U.S. regulators charge. The company, and SBF individually, spent big in a way that seemed to telegraph that FTX was a huge success. The startup attracted ample media coverage when it invested in other crypto startups, bought a pricey stadium sponsorship to promote FTX’s brand, and pledged large donations to both major U.S. political parties.

Then there was the $190 million donated by SBF and other FTX execs to philanthropic causes, making SBF one of the best-known faces of the “effective altruism” movement. He even spoke out in favor of increased regulation of the crypto sector. All the media buzz helped convince investors to pony up $1.8 billion in venture capital at a sky-high valuation for the startup platform of $32 billion.

In sum, the young, famously scruffy head of FTX built a public picture of himself as the kind of CEO people wanted to see in crypto: young, smart, high-minded, successful, trustworthy.

That was all a carefully constructed illusion. And, with its gushingly positive, unquestioning reporting on SBF and FTX’s rise, the media helped create that illusion.

Years of ‘garden-variety lies’

Behind all the displays of wealth and seeming success, the U.S. alleges, SBF was operating a far-reaching con as far back as 2019. Funds that came in were allegedly diverted to SBF’s personal accounts and to pay for FTX’s lavish spending, including $256 million in Bahamian real estate.

In fact, as newly appointed FTX chief executive John J. Ray testified before Congress, it’s coming to light that FTX’s spending moves were likely not made with FTX’s profits, but instead with investors’ and depositors’ money.

Ray, who previously cleaned up the Enron bankruptcy mess, described what he found at FTX to Congress in sworn testimony as simply “old-fashioned embezzlement.”

“This is just taking money from customers and using it for your own purpose,” he said at the hearing. “Not sophisticated at all.”

While telling FTX depositors their money was safe, Ray said, the company was diverting their money to other uses–until the platform’s users finally got nervous, requesting $8 billion in withdrawals all at once. FTX didn’t have their assets on hand anymore and so couldn’t fulfill the withdrawal requests, causing the whole scheme to collapse. Within days, the company filed for bankruptcy.

It’s worth noting that FTX’s fall didn’t involve manipulating the price of or demand for its FTT currency or any other maneuver particular to the creation or exchange of crypto. This is a case of simple, straightforward thievery.

Self-dealing between two linked entities

‍Prior to starting FTX, in 2017, SBF founded the stock-trading firm Alameda Research. Alameda and FTX were portrayed as separate entities, but Ray’s early findings are that execs had “free rein” across FTX, Alameda, and other related entities. FTX may have been founded to generate funds for Alameda to invest, Ray has said.

Then Alameda reportedly suffered huge losses during the implosion of Terra’s LUNA coin in Spring 2022. Looking to cover those losses, the U.S. alleges, FTX users’ money was funneled into Alameda. While other organizations with high exposure to LUNA soon went bust, such as Three Arrows Capital, Alameda was propped up by FTX–to the tune of $10 billion, some reports say.

SBF is far from the first unscrupulous founder of multiple companies who allegedly used money from one entity to cover losses at the other (see Martin Shkreli, who was 32 when he used funds from his pharma startup to cover losses at his hedge fund, over a decade ago.)

There should have been corporate controls in place at each company to keep them discrete entities that could not share funds, but Ray reports there were none.‍

Accounting: the ‘worst mess ever seen’

Where was FTX’s money coming from, and where did it go? Here’s where the story takes a surprise twist: Instead of keeping two sets of books, falsifying numbers, or using any of the classic accounting dodges that often accompany corporate fraud, it appears FTX had no credible paperwork at all. Ray called it a “paperless bankruptcy” in his congressional testimony.

In essence, users trusted FTX without any meaningful financial disclosures on the platform's financial health, even as those users parked collective billions on the platform. And reporters covering FTX didn’t push for documentation of the startup’s success.

To put a cherry on the whole accounting mess, hours before FTX filed for bankruptcy, someone drained over $600 million from FTX accounts. The CSO of rival exchange Kraken later said it had evidence the thief is an FTX insider, but as we write this, the culprit has yet to be identified. SBF has said it’s not him–but at this point, his proclamations don’t carry much weight.

There are con men (and women) in every industry

From newspaper editorials to speeches by members of Congress, there have been calls for closer scrutiny of cryptocurrency. Some critics even say crypto is a flat-out scam, as a result of what’s happened with FTX. Let’s pull back and get a little perspective here.

As we’ve delineated above, this isn’t a story about crypto at all, really. It’s a story about fraud. White-collar criminals, like SBF is alleged to be, have been around since the start of the Industrial Revolution. And in no past case did revelations of one corrupt company head in any other industry lead to calls to abolish that industry.

After Elizabeth Holmes of Theranos, now convicted of fraud, lied to biotech investors, people didn't say, “Well, we should shut down the biotech industry, because it’s obviously corrupt.” Similarly, there weren’t calls to ban investment advisors after the Bernie Madoff scandal, or calls to shut down the energy trading sector after Enron.

In the same way, FTX’s implosion is not a sign that web3 or cryptocurrency is itself a scam or inherently flawed. This is literally a bad actor looting the company treasury, as we’ve seen in these other past instances of corporate greed by a chief executive.

With FTX, extrapolating its failure to an industry-wide problem is even less apt than the other examples above. That’s because FTX wasn’t structured as a web3 company.

FTX was not decentralized

Yes, FTX was a platform for buying and selling crypto. But one of the biggest ‘misses’ in the media is that many reporters don’t seem to understand that FTX was not a web3 organization.

It’s not a DAO controlled by those who work on the project. It’s a traditionally constituted corporate entity, with concentrated ownership and headquarters in the Bahamas–that happened to be in the business of helping users buy and sell crypto.

Some media reports have pointed the finger of blame at the decentralized nature of web3 organizations and their lack of traditional ownership structure. In reality, the structure of web3 organizations is irrelevant here, since FTX wasn’t one of them.

Some informed observers have said that the lesson of FTX is the exact opposite of what the media has claimed: FTX’s collapse proves the need for decentralized web3 company structures. If FTX had thousands of owners who all had access to the organization’s data–instead of having power concentrated in very few hands–it would have been much harder to cover up a fraud of this magnitude for so long.‍

Where a company is headquartered matters

Not enough focus has been brought by major media to the fact that FTX was not a U.S.-based company. That meant FTX wasn’t at the top of American regulators’ watch list. It also didn’t hurt that SBF spoke frequently in favor of increased regulation of the crypto industry, a move that seemed to cast him as a law-and-order proponent.

Nonetheless, somewhere along the line–as FTX’s fortunes soared and it became a famed unicorn startup–at least one reporter working in the financial press should have wondered if it was all too good to be true. Newsroom editors should be grilling reporters now about why nobody asked hard questions about this exotic, overseas upstart and its amazing success. There’s clearly a need for more education about crypto for reporters covering the ecosystem.‍

Bad reporting leads to bad legislation

‍The after-effects of misleading reporting on FTX will likely be felt for years to come, as Congress is crafting potential new regulations for the crypto space based on its misperceptions of the problems.

In mid-December 2022, Senators Elizabeth Warren and Roger Marshall introduced a proposed bill that would end anonymity in crypto, requiring KYC (Know Your Customer) protocols in an effort to shut down money laundering in the industry. Of course, the anonymity of customers on FTX’s platform wasn’t a factor in the company’s implosion. It simply appears that SBF, and possibly other FTX execs, stole users’ funds.

How to avoid being the victim of a scam crypto exchange

The collapse of FTX has put the spotlight on crypto exchanges. They will likely continue to be a vital part of the crypto ecosystem, providing a convenient place to buy and sell assets.

How can you use these exchanges while keeping your assets safe? Here are some guidelines:

• Don’t park money on an exchange. Some crypto users leave assets parked on an exchange for convenience’s sake–and as we now see with FTX, that creates possible exposure to theft. Go on an exchange to transact, then withdraw your assets to your own wallet and leave.
• Become a responsible cold-wallet owner. You can safeguard your assets by learning how to store them off-chain in a hardware wallet. Users can and should take responsibility for safeguarding their own assets. Make sure you keep any physical wallet in a secure location, unplugged and offline, except when you are buying, exchanging, or selling assets. Security keys for your personal wallet must be stored safely–not jotted on a piece of paper–and not shared with others.
• Consider doing business with US-based companies. American companies tend to be subject to greater scrutiny, even ones in the crypto space. For instance, rival exchange Coinbase is regulated by the SEC, because it’s a public company. That means it must make quarterly disclosures of its financials. Trading where a majority of customers are Americans, rather than an extreme rarity, also means there’s likely to be closer scrutiny.
• DYOR. Know that the media isn’t always super-savvy about doings in the world of web3 and cryptocurrency. Don’t rely on media accounts–instead, read charters, founding white papers for projects, terms of service, and anything else you can. Understand if an organization or project is decentralized or just a traditional corporation that happens to be involved in crypto. If you can’t get information you’d expect to be able to obtain from an organization, that’s a red flag. Always do your own research before putting your money into any project or company involved in crypto.
• Choose your media outlets wisely. Amongst the mainstream outlets, New York Magazine has produced some of the most well-informed coverage–they have an archive of FTX coverage here.

Always remember the biggest lesson of FTX: no business in the crypto world is too big to fail. Stay on guard, don’t believe the hype, and make smart choices about where and how you acquire digital assets.