The Breakdown - A Complete Breakdown of the Charges Against Celsius' Alex Mashinsky

Episode Date: July 15, 2023

Former Celsius CEO Alex Mashinsky was arrested this week. NLW explores the complete list of charges against him. Enjoying this content? SUBSCRIBE to the Podcast: https://pod.link/1438693620 Watch on YouTube: https://www.youtube.com/nathanielwhittemorecrypto Subscribeto the newsletter: https://breakdown.beehiiv.com/ Join the discussion: https://discord.gg/VrKRrfKCz8 Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW

Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. What's going on, guys? It is Saturday, July 15th, and that means it's time for the weekly recap. Before we get into that one quick note, I say it every day, but you really should come join us on the Breakers Discord. That link is bit.ly.ly slash breakdown pod, but man, there is a lot to discuss right now. and especially after the last couple days, if you're not there yet, this is the time to jump in. Now, getting to today's show, somehow, it's been so busy that it's been two or three days, I don't even know, I've lost track of time, since Celsius's CEO Alex Machinsky was arrested,

and somehow we're only just now getting to it. But oh boy, are we getting to it? So let's dive in on Thursday morning, former Celsius CEO Alex Machinsky was arrested. Machinsky has been charged with seven counts relating to securities and commodities fraud, wire fraud and market manipulation. The SEC and CFTC also piled on filing lawsuits alleging fraud, unregistered dealings, and market manipulation. Mishinsky was granted bail on a $40 million bond secured by his New York City home after entering a plea of not guilty. He will be restricted from traveling and opening new bank and crypto accounts as he awaits his trial. SELC's chief revenue officer Ronnie Cohen-Payvon has also been charged with four counts of fraud and market manipulation.

Lastly, in addition to traditional financial regulators, the FTC, Federal Trade Commission, has also taken part in this joint prosecution, using their authority to regulate Celsius to enter into a $4.7 billion settlement with the company, which will cover in more detail in just a moment. Now, all of these charges relate to the dramatic collapse of Celsius in July of last year. The crypto lending platform has since filed for bankruptcy, with 600,000 creditors claiming to be owed in excess of $4.7 billion. The bankruptcy process has been tumultuous, with claims that Machinsky and his family had withdrawn $44 million from the company shortly before customer withdrawals were halted. Machinsky initially remained in control of the company in bankruptcy

and put forward a number of hairbrained schemes to reinvent the platform as a crypto-custodian, despite the complete loss of trust in Celsius and his leadership. In late September, over two months after the Chapter 11 process had begun, Mishinsky finally resigned, stating that his presence at the company had, quote, become an increasing distraction. The bankruptcy is now reaching its conclusion with a successful bid from a consortium of crypto firms to take over the remaining assets in June, and a restructuring plan has been put forward by the consortium but is yet to be put to a vote. So, let's dig into the charges. The DOJ summarized Machinsky's conduct as, quote, deliberately misrepresenting the company's business model and criminally manipulating

the value of Celsius's proprietary crypto token CEL. They say that despite the company's sales pitch as the quote, safest place for your crypto, it was anything but. The indictment alleges that, quote, Mishinsky portrayed Celsius as a modern day bank, where customers could safely deposit crypto assets and earn interest. In truth, however, Machinsky operated Celsius as a risky investment fund, taking in customer money under false and misleading pretenses. End quote. Machinsky then is accused of taking a cavalier attitude to customer assets, offering them out on an uncilateralized basis, backing sub-investors in early defy markets, and often taking directional bets on the price direction of crypto markets, all without informing customers. The SEC allegations are on a similar

line, although they add that Machinsky sold Celsius tokens and offered the Celsius Earned program as securities without registration. The SEC enforcement director alleged that Celsius had misled investors to such an extreme degree that the company were, quote, often completely fabricating their financials. Director Gerbera Grual said, today, along with our federal partners, were holding Mishinsky and Celsius responsible for their lies and for their deceit. Now, one small thing that many people in the industry picked up on, in this particular case, the SEC held back from naming any tokens other than Celsius's native tokens as securities. Now, when it comes to the CFTC, they accused Mishinsky and Celsius of engaging in a,

quote, scheme to defraud hundreds of thousands of customers by misrepresenting the safety and profitability of their digital asset-based finance platform. The CFTC said that despite the collapsing crypto markets causing substantial impairment to customer assets, which were invested in a dubious and undeclared manner, the company continued to, quote, promote the safety and viability of Celsius and failed to disclose these losses to customers. Finally, the FTC's complaint deals exclusively with Celsius in relation to the marketing and sale of their crypto lending and custody services. Now, we haven't seen the FTC wade into other cases, so their presence in this matter adds an interesting new dimension. The FTC claims that Celsius, quote, assured customers that Celsius

maintain sufficient reserves to meet customer obligations, which obviously was ultimately not true. Now, as per the FTC, a prearranged settlement has been reached with Celsius. The firm agreed to terms that will, quote, permanently ban it from handling consumer assets, and block it from, quote, offering, marketing, or promoting any product or service which could be used to deposit, exchange, invest, or withdraw any assets. It's not clear yet how this will impact the operations of any reconstructed business that emerges from the bankruptcy. In addition, Celsius agreed to pay a $4.7 billion fine, which will be, quote, suspended to permit Celsius to return its remaining assets to consumers in bankruptcy proceedings. Now, many speculate that this could actually

explain the FTC's involvement. They wonder if the intention here is to force Celsius to distribute the remaining assets to customers, rather than using them to spin off a new venture. Notably, the FTC did not reach a settlement with Mishinsky or fellow SELCSELC executive Shlomi Daniel Leon and Hannock New Goldstein, so lawsuits against them will proceed in federal court. Now, taking a step back a bit, the complaints paint a picture of Mishinsky as a compulsive liar. Although SELC advertised a massive 18% yield, the FTC claims that most users receive far less

than that. According to the complaints, Mishinsky lied about the existence of an insurance policy which would cover each customer for $750 million worth of losses, customers were told that their assets were stored in individual accounts and that they retained legal ownership. When, of course, again, according to the allegations, customer assets were instead pooled in an omnibus account, which was treated like a slush fund for Mishinsky and other executives.

Customers were told they could withdraw at any time, when in reality they often waited days for their funds to be returned. Indeed, the DOJ indictment described Celsius as fraudulent from the beginning. The platform was funded by an ICO, which Mishinsky claimed raised $50 million by selling Celsius. Celsius tokens. What wasn't revealed to the public at the time is that one-third of the token supply went unsold, with only $32 million raised. The remaining supply was sold to another entity controlled by Machinsky, but this sale was never settled. Under the ICO agreement, these tokens

should have been burned. But instead, after two years had passed, Celsius documented the sales as a loan agreement. Employees complained this was just a free option for Michinsky to purchase Celsius options if the price increased, and one executive even resigned over this dispute. These tokens were never really dealt with properly. In 2020, they were simply placed on the company balance sheet for their own discretionary use. Now, Machinsky always claimed that the platform was highly profitable and that the price of Celsius tokens was a proxy for that success. Customers were induced to purchase and use Celsius tokens as collateral for loans within the platform. The DOJ alleges that Machinsky knew the company's investment strategy was not successful enough

to pay out the rewards promised to customers, and that the company was generally unprofitable for its entire existence. Mishinsky marketed Celsius's yields as being representative of 80% of profits being returned to customers who committed their assets, when in reality the company never even performed this calculation, instead simply calculating range is designed to beat the offerings of competitors. The promised yields ended up being far in excess of 80% of profits. Celsius's board showed that in 2021, reward payments represented approximately 120% of its revenue. In June 2021, Ronnie Cohen-Pavon, the CRO at Celsius, stated that the claims that yields represented

80% of profits was simply a, quote, marketing statement, and that customers had, quote, zero exposure to any of the investments made by Celsius. Now, one really important point is that none of this appeared to be a mistake or even negligence on Mishinsky's behalf. As CEO, he was frequently warned by employees that the business model was unsustainable. Machinsky internally portrayed the money-losing approach as a long-term plan, quote, where we tried to build our community and effectively take the loss. Throughout the company's life, Mishinsky attended weekly Ask Me Anything or AMA session.

with customers to continue the charade. Often, Mishinsky's public spin was shrouded by anti-banking sentiment, which of course played well for this customer base. In 2022, after Mishinsky was presented with financial data showing that SELC was not profitable, he simply shrugged it off, stating, quote, remember, we get institutions to pay us so we can pay you. When in history have institutions paid the average person anything? They don't like it, believe me. They hate paying us that yield. And then we take most of it and deliver it to you. Now, in early 2021, executives confront Mishinsky about a sizable hole in the company's balance sheet. Celsius had developed a shortfall of hundreds of billions of dollars worth of Bitcoin. This hole had been caused by Celsius selling Bitcoin

deposit by customers and using it to purchase Celsius tokens. Celsius ended up repurchasing this Bitcoin to cover the hole, but took a substantial loss in the efforts due to the massive rise in Bitcoin's price. By early 2022, the writing was on the wall. In April of that year, Celsius's CFO presented Mishinsky with the grim news that, quote, we are hemorrhaging 7.5 million pre-tax losses each week, and that Celsius ran, quote, a real risk of not returning to profitability quickly enough. During 2022, Mishinsky repeatedly spoke to employees about the need to return to profitability or, quote, break even.

In early May, an internal presentation to the company's board disclosed that Celsius had incurred a pre-tax loss of $800 million in the previous year. Despite knowing the company was deep in the red, Mishinsky continued his public spin. In March during an AMA session, he told customers, who were becoming increasingly suspicious, that, quote, Celsius is trying to do something very simple, okay? How about we charge borrowers 9% and pay users 7%. That statement was removed when the recording was posted to the company's website. And despite taking directional bets on the market and seeding complex third-party defy-positions, Mishinsky always maintained publicly that customer assets were involved in

safe market-neutral strategies. Often, Mishinsky himself was leading these directional calls. In the spring of 2019, Mishinsky made a significant loss going short on Bitcoin based on his personal belief on market outcomes. These directional bets were so prolific, Celsius even had specific subaccounts on an exchange labeled directional 1 and directional 2 specifically for this purpose. In July 21, Machinsky asked a Celsius trader to try and trade market momentum while reducing a position, instructing the trader that, quote, if markets are crashing or running up, and you can sell the security and then use the price gaps to buy cheaper, then go ahead and do it. In 2022, Mashinsky simply commandeared the trading desk to take a large directional bet on Bitcoin,

overruling concerns raised by other employees, including the Celsius Risk Department. In internal chats, one employee said, Seems like Alex is unilaterally trading large positions of our book, so at what point do we seek outside intervention to get things under control? For what it's worth, this trading by Mishinsky ended up causing the loss of tens of millions of dollars. Now, at the same time, that was all happening. Mishinsky was on CNBC in April of that year, saying, We are what you call a delta-neutral strategy.

Celsius doesn't bet on the market going up or down. Throughout the entire process, Mishinsky represented. presented that Celsius did not make uncollateralized loans to other crypto entities. However, in November 2021, the Celsius Risk Committee made a presentation, which showed that Celsius had made 1.8 billion in unsecured loans across 21 separate clients, representing around 39% of the firm's institutional loan book. And at all times, Michinsky was made aware of the company's loan portfolio. In November 2021, Mishinsky sat down for an interview with a magazine. A draft of the article included the quote that, one way the company protects funds is by always requiring its borrowers to put up

more than 100% of the value of their loan in collateral in another asset. A Celsius executive emailed Mishinsky and said, in bold font, this is not true and we cannot say that. Now, on top of all this, and we're getting long at this point, throughout the entire history of the company, Mishinsky, is accused of manipulating the price of Celsius's native token, CEL. CEL was, as we've heard, marketed as a proxy for the health of the platform, but also used to pay rewards out to customers. Market buys of CEL, which I'll call sell from here on out, began in a relatively modest manner throughout 2018 and 2019, but then escalated dramatically. In November 2019, Celsius executives began discussing internally how to maximize the price impact on sell using market buys. In May 2020,

Mishinsky wrote an email to staff, quote, our job is to protect sell. It's a win-win scenario. The only way we lose is if sell price drops a lot and people get nervous and keep selling. We can protect against this scenario. While initially the public purpose of market buying sell was to fund rewards to customers, behind the scene, Celsius was buying well in excess of that amount. Throughout 2020, Celsius traders were instructed to aggressively buy the token when negative news about the company was published to protect the price. Unsurprisingly, the price of sell dramatically ramped in 2020, increasing from 40 cents in late July to 550 by the end of the year.

Mishinsky told AMA audiences in 2020 that, quote, Cell token is just rocketing and it's all organic demand. There's no market making or manipulation or wash trading or anything. Finally, in the lead up to closing withdrawals in June 2022, Two, Mishinsky reassured customers of the solvency of the platform by focusing on his personal investment with Celsius. In May, he said, we all have our money in the same platform. I have millions of dollars of my money on the platform as well, and obviously we're in it together. In the previous weeks, however, Mishinsky had withdrawn all of his assets from Celsius, approximately

$2.9 million worth. Mishinsky continued to withdraw throughout May, removing another $5.1 million, leaving him with only $1 million invested on the platform. Internally, it was clear that Celsius was doomed. In internal communications, one employee referred to the company as a sinking ship, while another wrote, there is no hope, there is no plan. As the company teetered on the brink, employees gave repeated warnings to Mishinsky. In early July, a slide deck updating the business outlook said, quote, Celsius has been consistently losing money and is facing an erosion in the capital position as well as liquidity constraints. The business model is not financially sustainable. Finally, on June 10th, Mishinsky told investors that Celsius had, quote, billions in liquidity. Two days

later, withdrawals were closed, and the following month, the company filed for bankruptcy. Now, everything that I just repeated is based on the allegations of the Justice Department, the SEC and the CFTC, so at this stage remain only allegations. Following his arrest, Mishinsky said he vehemently denies the allegations brought, and that he, quote, looks forward to vigorously defending himself in court against these baseless charges. Rather than read a million tweets, which all kind of say the same thing, let me just try to sum up what I think the community is feeling about this one. One is just disgust. And I will actually quote Travis Kling here when he tweeted,

The levels of gaslighting by the most influential people in crypto is so egregious it's difficult to comprehend. Machinsky incessantly lying to the public while knowing Celsius was toast and fraudulent. Travis is far from the only person who felt something like that. The second sentiment is almost disbelief. Not disbelief in the general information coming out, because everyone kind of had a sense at this point that some of these types of things were going on. But disbelief at just how brazen, how extensive, how permanent, how omnipresent, how from the beginning it was. A third piece, however, is something close to relief. Relief because this was one of the major hanging chads holding over the industry from the last cycle and something that really

needed to be cleaned up. Ultimately, as with all of these situations and all of these arrests and all of these charges, the real question ultimately won't be what punishment is met it out, but about if and how the industry can evolve and change and grow into something that doesn't reward this type of behavior going forward. For that, we're all just going to have to participate and try to make it so. I hope you guys are having a great summer weekend. Until next time, be safe and take care of each other. Peace.