Confusing Customer Settlement Plan put in after FTX collapse

FTX and its affiliated debtors announced a proposal to settle customer property disputes in its ongoing bankruptcy proceedings this week. This would be fantastic news for all of the customers of FTX US and FTX.com who have lost assets… if only it were that simple.

(2/4) After extensive discussions with the Ad Hoc Committee of Non-US Customers, the Unsecured Creditors Committee and class action plaintiffs, the FTX Debtors have reached a proposed settlement of the customer property disputes.
— FTX (@FTX_Official) October 17, 2023

The press release accompanying the announcement was (perhaps willfully) worded in a rather confusing manner. So much so, that many media outlets wrongly reported several of the facts, including that customers would be receiving over 90% of their missing funds back once the plan was approved.

💡

In fact, the ‘over 90%’ figure refers to the proportion of ‘Distributable Value Worldwide’ that will be returned to customers, without giving a figure for what that distributable value (the assets and cash that have been salvaged from the collapse) actually is. Investors will be left fighting over the remaining 10% or less, one assumes.

Observers has cut through the proposal’s excessive jargon to bring you a breakdown that even fellow crypto journalists can understand:

The proposal is referred to as the “Customer Shortfall Settlement” and is based on the assertion that customers of the two exchanges had specific interests in the assets they had deposited, rather than an unsecured claim like general creditors and investors in the company.

The press release then gives everyone involved in putting the proposal together a big pat(ronizing) on the back for the brilliant work they have done. According to CEO and Chief Restructuring Officer of the FTX Debtors, John J Ray III:

“Together, starting in the most challenging financial disaster I have seen, the debtors and their creditors have created enormous value from a situation that easily could have been a near-total loss for customers.”

The Meat

All recovered assets will be split into three pools based on where they were held when FTX collapsed: those for the benefit of FTX.com customers, those for the benefit of FTX US customers, and a “General Pool” of other assets.

Customers of the two exchanges will be able to claim against their exchange-specific pool and also benefit from a “Shortfall Claim” against the General Pool based on the assets missing from their exchange.

The Shortfall Claim is estimated at $8.9 billion for FTX.com and $166 million for FTX US. This represents the amount of assets missing from each exchange, and does not mean that this amount will be distributed to customers, as some have claimed.

However, 66% of the General Pool will be reserved exclusively for payment of Shortfall Claims, while the remaining 34% will be split between any outstanding shortfall claims and claims from general creditors.

This distribution is expected to see over 90% of all recovered funds going to customers. This would seem fair, as all the customers did was deposit their assets for safekeeping, whereas investors inherently take on the risk of a company failing when they invest.

There is no mention of the value of funds and assets recovered from the exchanges to date, and no figures suggested for the amount that customers (or investors) may see returned. The FTX Debtors anticipate that nobody will be paid in full, with FTX.com customers losing a greater percentage of funds than FTX US customers.

The Vegetables

The proposal also contains an offer for affected customers to resolve uncertainty about any applicable preference exposure.

💡

Preference exposure refers to the risk that a transfer of assets received from a debtor within a certain period prior to their bankruptcy filing could be considered a “preferential transfer”. The beneficiaries of these may be legally obliged to return those assets to ensure fair distribution among all creditors.

This would mean that customers whose net withdrawal amount in the nine days prior to bankruptcy was over $250,000 will be able to reduce their claims by 15% of the withdrawn amount to resolve any preference liability.

The proposal also states that any insiders, affiliates, or customers with prior knowledge of the commingling and misuse of customer deposits could be excluded from the settlement This also applies to those who changed KYC information to enable withdrawals after such transactions had been suspended.

💡

To find out more about the background of this story read about the FTX collapse and the ongoing Sam Bankman-Fried trial

The Customer Shortfall Settlement proposal was presented to a Delaware-based U.S. bankruptcy court on October 16. The Amended Plan of Reorganization will be filed at the same court by December 16. The Amended Plan (including Customer Shortfall Settlement) is still subject to approval by the court, which is anticipated by the end of Q2 2024.

Even though billions of dollars in customer and investor money are tied up in the ongoing bankruptcy process, the victims are apparently still optimistic about crypto. In a new CNBC documentary, “The Collapse of FTX: Insiders Tell All,” the exchange's customers, insiders and investors explain that despite the hefty losses, they still believe in the industry:

“I do want everybody to understand that the mistake here was not bitcoin, the mistake was not crypto, the mistake was one bad actor... The fundamental reason why we buy bitcoin, why we use bitcoin has not changed,” - one of the interviewed said. "I want to get the cash from the bankruptcy claim primarily to invest in crypto again," - added another.