how did ftx successfully raise so much vc money recently? do these top vc firms do no due diligence?
Of course, given the depth of financial depravity on display here and the incredible thinness of the financial defense, one must also entertain the theory that they did do the due diligence, they were aware of how dangerous this was, and they invested anyhow for other reasons. And that those reasons are probably not good.
There have been many cases where companies go to great lengths to do accounting alchemy to fool even very smart auditors, but we are clearly not dealing with that here. Binance or whoever was offering to buy FTX out literally figured out within single-digit hours of looking at FTX's books that they were not interested. A person skilled in the art can literally glance at these books and figure out that they are worthless. I do not believe there is any credible theory that any investor could possibly have been unaware of these issues.
FTX's books don't so much have red flags as that they are printed on red flags, with ink derived from red flags, a custom-made red cover made out of more red flags, and each page, when opened, has pop-up red flags along with a little electronic speaker that plays Red Flag by Antigoni while you get sprayed with Red Flag perfume [1].
Lol. This should be a framed quote.
what would those be?
We are learning more and more about all of this each day. There was massive fraud going on within FTX, and I don't think it's terribly far-fetched to believe that it wasn't contained within the company.
Simple greed explains it -- whatever.
To be clear: I'm just letting my mind wander in response to your question, not saying that's what happened.
I mean - who doesn’t love pop up books?
OMG - I'm dying here. You really shouldn't have buried that at the bottom of your reply because many will miss it. Perfectly written. I love it.
A Westerner arrives in the USSR. Walks absentmindedly along the street, boom, open manhole, falls down, climbs up all covered in sewage, shouts, furious: “What the hell? Couldn’t they have put up a red flag or something like normal people?” A passerby replies: “You’re from the airport?” “Yeah.” “You’ve seen the huge red flag on the roof, right?”
Crypto was filled with sleazy car-salesman "investor" types at the time Alameda Research was looking for funding. So when in came someone with a Jane Street background and not a single flashy Ferrari in their driveway, the dam broke on VCs finally being able to pour money into the crypto space on a decent looking founder.
They're not going to lose their shirts, not as long as insanely wealthy people like to gamble.
There was a lot of money involved. There was a huge network of shell companies to hide it.
VCs, who are supposed to know what due diligence is, looked at some hilariously unprofessional books and said "We like the look of this."
Is it unreasonable to wonder what was going on?
> and not a single flashy Ferrari
the article mentions his $30 million dollar penthouse ... It seems the only place the flashy assets didn't exist was in the press coverage put out by organizations SBF gave money to...
the $30M penthouse in the Bahamas that was purchased using investor money and customer funds... he didn't own it at the time he received funding from these big name VCs, did he?
There's a huge gap between that and the majority of crypto founders at the time.
I'm not convinced that the issues that caused Binance to back out even existed the last time FTX raised outside capital (March 2022 according to Crunchbase). My understanding is that in March, FTX had a basically normal balance sheet for a crypto exchange, with roughly enough non-FTT assets to balance against its liabilities.
Alameda was an over-leveraged crypto hedge fund, which in hindsight wasn't great news for Alameda's investors or creditors. But there's a world where Alameda goes to zero but FTX is mostly fine. After all, FTX would automatically recalculate margin levels and liquidate assets as needed every 30 seconds. If they did that with Alameda like they would have for an arms length counterparty....I'm not going to say that FTX would have been unscathed - a lot of those loans seem to have been secured by FTT, plus Alameda seems to have made up a lot of FTX's trading volume - but the end result of incinerating billions of dollars' worth of customer deposits wasn't inevitable. IMO, FTX's fate wasn't sealed until its management team built a backdoor into its systems to siphon customers' assets to Alameda. And that probably didn't happen til summer, months after its last funding round.
Employees were stealing from the company, there were no internal controls...the rules for VC are...different. If you were on a Board and this happened on your watch, you would never work on another Board again. If you did this in PE, fired. If you invested in such a public company, very likely fired or irreparable damage to your reputation.
Sequoia are a huge fund, they are one of the doyens of the industry...it isn't even that they failed, they didn't even put in place the mechanism to try to protect their investor's money. It is unbelivable.
>Sequoia are a huge fund, they are one of the doyens of the industry...it isn't even that they failed, they didn't even put in place the mechanism to try to protect their investor's money. It is unbelivable.
Don't VCs typically expect 9 of 10 investments to fail, but for the one which succeeds to more than make up for the rest? From the VCs point of view, as long as the allocation to each company is balanced, does it even matter whether an investment resulted in 100% loss due to a scandalous fraud instead of "normal" company failure?
Again, if you work at an equity fund and you invest in a company that was obviously fraudulent, your investors don't go: "Oh well, better luck next time...shit happens, amirite?". If this happens in a PE fund, where there is direct oversight, then I would suspect that the investors would remove you as a manager.
The only responsibility you have is to protect your shareholder's interests. Not only was this disregarded but Sequoia gave them the structure that allowed them to steal from their own investors.
I have never seen a situation like this that didn't end up in charges against the fund managers because it is such an egregious failure (this, of course, won't happen here...everyone here has donated far too much money...but I have seen this professionally).
Despite the notional legal structure, I think the key thing is that FTX, FTX.US, Alameda Research, and the other 130 or so entities involved were mostly not, in any meaningful sense, distinct businesses, it was all just three grifters in a trenchcoat.
This is an extraordinary number of high-profile companies which either failed to do due diligence, or were knowingly, deliberately doing shady dealings.
Not great to have to choose between incompetence and shadiness at any of those, but those are the two options, and each should be investigated for throwing their [customers'] money into an obvious scam.
And there's no question it's much easier for founders to raise capital, after they've raised capital. But this is because of how our financial system works; it's much easier to loan (exchange for equity) money to someone who doesn't need it, than someone who desperately needs it. It's the same reason a billionaire can take out a loan 100x the size that you could ask for, at under 1/10th the rate.
But you're making a leap here by suggesting that VCs will make an investment and bypass due diligence simply because another VC invested. What I've seen in the startup world is confident founders are more likely to raise money, having received funding makes founders more confident thereby making investors confident, but for any significant sum of money due diligence might be expedited, but not skipped.
“Sam Bankman-Fried’s pitch to investors was not much of a pitch: It was a take-it-or-leave-it offer.
“In meetings to raise money for his cryptocurrency exchange FTX over the last year, the entrepreneur left little room for negotiation, two investors said. FTX was his company, Mr. Bankman-Fried told them, and he planned to run it with little oversight. Interested investors should ‘support him and observe,’ one investor who heard the pitch said.”
A meta reply to several of the commentors here is that we're not talking about JoeBob's Angel Investing who got lucky with his bait shack and has a few hundred thousand more than he knows what to do with to throw around. These are nominally the top tech investors in the world, along with lots of other people who should know what they are doing. Investing in a business in a KNOWN risky and volatile area calls for MORE due diligence, not less. If they didn't do it, we are certainly in the position of trying to figure out the exact distribution between stupid and evil. "Oh, poor us, we asked him to show us the books and he said 'no' and we just couldn't help but throw tens of millions of dollars at him" is bullshit. This isn't hopskotch at the local elementary school. The only even remotely sane conclusion to come to in that circumstance is not only "no", but a NO! yelled back over your shoulder as you flee as fast as your feet will take you.
This is failure so profound that your brain is having trouble wrapping itself around it and you are thinking to yourself, surely they knew what they were doing and I'm just not seeing it? No. Have more confidence in yourself and less in others of supposed authority.
That said, my own opinion is that anybody who invests in the crypto space is either a scammer or a rube.
If they did, they would know there'd be a 100% chance that it would blow up.
This is some serious balance sheet depravity. This is not like the CEO buying up companies with a conflict of interest, or billing the company for their private jet. All of that is plausibly legit.
When there are no financial controls at all, money is being looted, it will go down.
VC funds normally don't do due diligence so long as some other entity did it in the round, there is legit oversight on the board etc.. in this case, their own controls failed.
All of the funds who invested in FTX need a serious audit of policy.
This is a dereliction of responsibility, not just a 'bad bet' and so heads should roll. They probably won't though.
My best guess is that these VCs need to deploy so much capital that they don't really do due diligence, instead they go by "founder vibes" and "vision", a watered down version of "invest in the team, not the product". Sequoia, SoftBank, a16z all seem to be guilty of this.
Anecdotally, Chamath Palihapitiya, in the recent All-in Podcast [0], said that they met with SBF and as a condition to invest they wanted to get rid of dual class voting shares (or something like that) and a board. FTX leadership (not necessarily SBF) replied with "fuck you".
So I guess you have some VCs trying to do the right thing, but if founders can get capital with no strings attach elsewhere, then your ability to deploy that capital is hampered. Essentially, until recently there were was more capital than founders, so founders could just do whatever (and SBF did).
I would expect that this changes a bit with raising interest rates and a tech downturn, but a16z's $350M investment in Adam Neumann's newest Thing makes me think that we are still flush with money ready to be thrown at anyone that has the connections to get a coffee chat in Sand Hill Road.
[0] https://open.spotify.com/episode/3CKYt4mKxndPkEfAvc7SM0?si=e...
They have loose morals.
Kevin O'Leary, of Dragon's Den fame, who is now a creditor in the FTX bankruptcy (ie wiped out) recently said in an interview that he would invest with SBF again.
The guy literally had money stolen from him. How do you even explain that?
I don't know how. Maybe he's just fucking stupid, or too prideful to admit he was wrong.
That may also be why the above figures are like that too.
FTX defrauded average people, many of whom were lured by the big name ads, the friendships with Tom Brady, the marquee investors list.
Supporting that is deeply immoral.
This end of the era of easy money is going to reveal that many of the "geniuses of our time" are nothing of the like.
Originally the story was korean exchanges; he changed to saying Japanese, presumably after too many people pointed out the korean story was impossible. (The Japanese story was also more or less impossible, they could have made a bit of money maybe even millions but not the $10+bn he claimed)
Both of these arbs were glaringly obvious and talked about constantly, but difficult to pull off due to banking hurdles in both countries.
So you don't go in saying "hey look we can make a trillion dollars doing arbitrage between American, Japanese and Korean exchanges." You go in showing that your work doing the former proved the existence of a massive market for crypto securities and derivatives, and how you're uniquely positioned to capitalize on that market.
And if they believe in the existence of that market and the founders are able to execute they'll invest.
That's what they mean about investing in founders and teams.
Then Alameda comes along showing actual profits from their early trading operations. Someone who as actually figured out how to make money in the crypto world without selling their own tokens (yet). Compared to all of the other dead-end projects these investors get pitched every day, this seems like the golden child. Someone who is actually turning a profit. Investors want to put their money into the golden child's profit machine and get a piece of that action.
SBF was also very successful in turning his early successes into a lot of momentum and social proof. He played investors and influencers against each other by bringing them all on within a short span of time. When this happens, investors go into FOMO / "me too" mode and just throw their money into the momentum, assuming some other investors have probably done the due diligence already.
Which is essentially all fundraising in a crowded market, but you would expect investors to be more sophisticated. Even accounting for selection bias (we're opining on the ones who invested).
Current theory is there's some sort of investment U shape curve. Either people look the part and talk the part and get the part, or they look like they care so little that they must be the real deal. Wish I'd known this, because I am also able to play video games badly while wearing a T-shirt.
Turns out this was hitting very close to the truth. That show was great to show how much a clown world SV can be.
VC's aren't stupid, even if they thought it was 80% likely he was an outright fraud, it's still worth the bet for a 20% chance at 50-100x returns.
When a confidence man and thief loudly and proudly shouts out a religious affiliation as his guiding star, we generally don't go ahead and condemn the religion for his behavior. (Doing so is a great way to get canceled. At most, we blame him for not being religious enough.)
If you were poor or otherwise suffering would you not want help from someone richer than you?
The due diligence is about the founder's connections and the ability to use them to skirt regulatory oversight. This checked out - both Sam and his girlfriend came from well-connected families and so far acted the part (including the massive political donations). Whether it's going to save them remains to be seen. I hope we won't sink to a new low of bailing out Ponzi schemes with taxpayer money, but I wouldn't be surprised too much.
Their term sheets gave them a big chunk of the "limited supply" tokens. So even if the business model was trash, they could cash out well before the market for that coin collapsed.
It is similar to when investment banks underwrite stock issues; they purchase a chunk of the stock directly from the company at an agreed-upon price. The company gets guaranteed funds, and the bank is free to sell the shares on a secondary market and potentially pick up a profit.
What's missing in crypto are the safeguards that ensure that banks + companies do not collude on pump and dumps in the securities markets. These include quarterly financial audits and oversight from a watchdog agency like the SEC. Obviously they are far from perfect, but considering the anti-regulation nature of US business (even after the Great Depression), the fact they even exist is a small triumph.
“Of the exchanges that we had met and looked at, some of them had regulatory issues, some of them were already public,” Bailhe wrote. “And then there was Sam.” FTX, Sequoia felt, was “Goldilocks-perfect.”
In colorful language, Sequoia partners reveled in their appreciation for his pitch for FTX.com as the center of all monetary transactions. In their own words:
“I LOVE THIS FOUNDER,” typed one partner.
“I am a 10 out of 10,” pinged another.
“YES!!!” exclaimed a third.
The firm has since deleted the article.
https://www.commonsense.news/p/the-32-billion-crypto-scammer
The basics of due diligence is: * How is their record keeping of board decisions & financials? * What board decisions and indemnities exist in those records that may have conflicts of interest or claims from other third parties? (FTX didn't even have a board) * etc..
Furthermore, probably should raise every red flag ever for a reasonably intelligent person if some 20-somethings with a few years of experience claim they have the secret sauce to trade successfully under every possible market regime. It falls on its own implausibility and only reeks of hubris.
To understand most market regimes likely to occur, you likely need people in their late 50'ies onboard, or even older (there's a reason Buffett, Soros et al come out relatively unscathed out of most crises, while everyone else bleeds out).
This is a result of stupidity meeting easy money.
if a crypto journalist was able to find these tweets and blogs, it would indicate the VCs didn't do their due diligence on the CEO, at the least.
You can only conclude that there is a lot of dimb money out there. Some people made big money despite being idiots. Which means I have a chance as well!
the audits done in july 2021 were by armanino and prager metis, both of which are trying to expand into the digital asset space and would stand to benefit from continued growth and success by ftx. the implication i am making is that there was no way for the audits to be unbiased.
if the audits weren't junk, the company probably wouldn't have been big enough to cause such a mess
That, or fraud, of course.
Connected family? Check
QuIrKY AF? Check
Maybe they got to join the FTX polycule if they invested enough. Who wouldn't want to get in on that.
There’s got to be a No-nut November joke in there.
You make it sound like SBF was the prophet/leader of effective altruism, but I don't think that's the case. The wikipedia article certainly doesn't paint him as some sort of leader, and only gives a passing mention to SBF.
There’s a middle ground. He wasn’t a prophet but he wasn’t nobody either. He was a leading non-academic figure/celeb of EA that didn’t get too much pushback.
That's the non-controversial opinion, but where does this leave OP's comment? Should we push back more on billionaires in movements? Should we assume that everyone who's in movements is in it for cynical reasons? Or maybe only billionaires? A new yorker article on effective altruism suggests that SBF got in before his crypto riches. How does that work? Did SBF suddenly turn cynical once his wealth crossed the $1B mark?
[1] https://www.newyorker.com/magazine/2022/08/15/the-reluctant-...
This is an all-or-nothing fallacy.
Perhaps we should view facially "altruistic" movements much more skeptically. Indeed in hindsight it seems like membership is much more advantageous for virtue signaling than for being more "effective" with your altruism (is it really so hard to figure out who will do the most good with your money?)
And you refusing to quote the rest of my comment (which contains proposals that aren't "all-or-nothing") is... some sort of fallacy that I'm too lazy to look up.
>Perhaps we should view facially "altruistic" movements much more skeptically.
And how would being more skeptical have helped in this case? The New Yorker article described Bankman-Fried as being involved with EA since his MIT days. He was donating half his salary while working at Jane Street. His charitable activities when he was running FTX is a logical continuation of this. By all reasonable measures at the time, he wasn't doing it for "virtue signaling".
>Indeed in hindsight it seems like membership is much more advantageous for virtue signaling than for being more "effective" with your altruism (is it really so hard to figure out who will do the most good with your money?)
Is there a reason why effective altruists are being singled out here? Everything you said could be applied to all charitable giving.
Is it? I didn't object to the rest of your comment but I don't see how it was relevant either.
> He was donating half his salary while working at Jane Street.
So do we actually know that he was doing that, or is that just another example of everyone taking him at his word?
> Everything you said could be applied to all charitable giving.
Most people don't congregate to discuss how charitable they are, so not really.
I'm a believer that altruism should be as effective as possible, but there's little crossover between that and what most Effective Altruists are saying and doing. They seem to largely be either using money for direct world poverty alleviation (usually a very good thing, unless it has second-order effects) which is what gets mentioned (you know, goats or wells, nothing new), or using it as an excuse to waste money on their own idiosyncratic libertarian sci-fi fantasies but disguised as charity i.e. secular Scientologists.
I do think it's unfortunate that the long termism get all the publicity, but I can't say I'm surprised. WHo wants to hear about boring old philanthropy? Saving humanity from the ai apocalypse much more interesting.