Article
Navigating the stormy seas of a crypto crisis – and reputation lessons learnt
28 April 2023 | 8 minute read
In the cryptoverse a week is a long time, and it only takes a minute to topple a crypto giant. Our story started way back in the comparative midst of time, in early November 2022. And it started with the doom-heralding-document of a leaked balance sheet concerning Alameda Research.
For those in the know, bear with us; for those not so much in the know, a quick dramatis personae. Sam Bankman-Fried, who also goes by SBF, was a crypto good guy, billionaire political donor, and CEO of the Bahama’s based cryptocurrency exchange, FTX. Alameda Research was SBF’s investment company which traded in digital currencies, including trading on the FTX exchange. The two SBF entities were considered to be independent from each other. However, the leaked balance sheet exposed otherwise. This revealed that the value of Alameda Research was in fact bolstered heavily by a token created by its sister company FTX, and not by independent assets such as fiat currency or other cryptocurrencies.1 The balance sheet leak led to concerns, which led to a surge in withdrawals from FTX and led to a liquidity crunch for the third-largest crypto exchange by trading volume - US$6 billion of withdrawals were made in just three days.2 The rest, as they say, is history. Save that it is a history that almost never was.
A potential lifeline had been thrown to FTX by none other than its fiercest rival, Binance. Binance’s CEO, Changpeng Zhao (CZ) initially revealed on Twitter that Binance had reached a non-binding deal with FTX “to fully acquire FTX and help cover the liquidity crunch.”3 Just one day later however, and seemingly some more due diligence later, Binance backed out of the deal, explosively revealing on Twitter the existence of reports of “mishandled customer funds and alleged US agency investigations” and added that “the issues are beyond our control or ability to help”.4
As SBF and FTX dealt with the immediate aftermath of this crisis, a real sense of contagion spread across the entire digital assets ecosystem, with many platforms finding themselves exposed. Binance had planted the seed of doubt in the minds of many, with its 10 November 2022 tweet, “we believe in time that outliers that misuse user funds will be weeded out by the free market.” Buyers were perhaps reminded of the Latin “caveat emptor”, and thus became more aware of the risks, and more apt to exercise greater scrutiny as to the sufficiency of a platform’s liquidity. The spectre of a “run on the bank” - akin to the “run on the Bankman-Fried” suffered by FTX - became more real, while questions were asked as to whether proper due diligence had been exercised prior to committing to exposures to FTX.
Cold, hard news such as that which chilled the crypto world can cause the otherwise hot-ticket of a reputation to burn in seconds. FTX carved like a mighty glacier, while its CEO felt the icy hatchet of media headlines strike at the heart of his erstwhile robust reputation. Others in the cryptosphere may fear a similar demise, but should not be fearful of learning lessons from the crisis faced by FTX.
According to Henry Ford, “the only real mistake is the one from which we learn nothing”. A crisis can have a devastating effect – but if we learn from our own mistakes, or from those of others, we are better prepared in the event that a crisis repeats itself in some fashion or other, and perhaps even able to avoid an incident becoming a crisis. With the hope of Spring not quite yet in sight, those hoping to survive the crypto winter may want to ask themselves, “What would I do if faced with a crisis like this?”
5 steps to managing a crisis
1. Preparation
We may be lucky enough never to face a crisis – but we should not leave our reputation to luck. Preparing for the worst will help you to achieve the best result. Consider undertaking an online audit or reputation health-check, while also monitoring social sentiment in real time to help you understand the Zeitgeist and the up to date issues at play in the industry, to anticipate a potential crisis before it has picked up steam, as well as to take advantage of any opportunities which may be presented.
2. People
John Paul Satre wrote that “Hell is other people”, but your people may be your saviors. Create and educate a small, nimble team of key advisers and stakeholders who have the authority and gravitas to make decisions and deliver messages if and when advised to do so. Think: your executive power holder, your attorney, your head of operations, your head of comms. And don’t forget to circulate the emergency contact list, so the parties can speak out of office hours – a crisis doesn’t work 9 to 5.
3. Plan
Direct your crisis team to prepare crisis management plans, which should be rehearsed and practised if possible, to deal with the likely eventualities anticipated from your due diligence work in the preparation stage. That should ensure that you don’t have to make all your decisions from scratch and under time pressure, if and when the crisis arrives.
4. Define
The first 72 hours of any crisis can be critical, and having a set of guidelines for eventualities which can be easily actioned in a timely fashion can be the difference between make and break. But so too can knowing your objectives. Some situations may be avoided, some problems solved, and some crisis contained. When the issue first arises, define your objectives so you can work towards achieving your key performance indicators – but don’t be overly rigid, and be prepared to be flexible as the situation unfolds.
5. Playbook
Your crisis communications playbook is a vital part of your plan to best advance your messaging accurately and to protect and defend your reputation. Prepare what you can in good times before any crisis occurs, and create a consistent narrative which highlights the corporation's core values, and which can serve as the cloth from which you also later cut your crisis-specific, reactive messaging. Obtain the requisite in-house, communication adviser and attorney approvals, and update your playbook with relevant research to avoid a rushed approach in the hothouse environment of a press deadline or third-party enquiry.
The mandarin word for crisis is 危机, an amalgamation of two words and concepts referring to risk and opportunity. The risk to FTX and SBF became only too obvious – once it became a reality. And there are similar risks to others swimming in the crypto sea. However, there are also opportunities as the tide ebbs and flows and parties sink or swim.
The FTX fail is perhaps a sign of the ecosystem cleaning itself out, as a natural consequence of the limits of – at least for now - self-regulation. Any consolidation while at first glance could be seen as contrary to the spirit of decentralization, could actually pave the way for greater mass adoption, and become the framework for more robust decentralization to take place.
Whatever ultimately happens to FTX or SBF, one thing is clear. This crisis will set a new market practice where major exchanges would publish proof of reserves to demonstrate that their customers’ assets are backed (such as a Merkle Tree proof where hash on the blockchain could not be reversed).
A major issue at play and arguably the underlying factor that triggered the collapse is the valuation of FTT. We have already seen tokens become worthless overnight, revealed to be the true naked kings of their own realm of blockchain protocols. In the same fashion, FTT fell by approximately 80% in a day. There are now too many lessons on the importance of understanding the fundamentals of a token instead of relying on the perceived trading value in the market.
Get in touch with us
We have a market-leading, global practice working with clients in the cryptoassets world, including advising on disputes arising out of the digital assets and blockchain space where Shaun Leong has considerable expertise. This team works frequently with our highly-regarded global media and reputation offering headed by Amber Melville-Brown. Please get in touch if you would like us to share our expertise or to discuss further any of the issues outlined.
Footnotes:
[2] https://www.bbc.com/news/business-63577783
[3] https://twitter.com/cz_binance/status/1590013613586411520
Get in touch
Related experience
As a full-service law firm, we are able to provide advice and information about a wide range of other issues. Here are some related areas.
