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3 accounting lessons we can learn from Sam Bankman-Fried and the FTX collapse
Posted by Grace Townsley
December 22, 2022
Samuel Bankman-Fried, born March 6, 1992, is an American entrepreneur, investor and former billionaire. He’s the founder and former CEO of the cryptocurrency exchange FTX.US, and the cryptocurrency trading firm Alameda Research.
In 2021, Bankman-Fried was listed on Forbes’ America’s Richest Entrepreneurs Under 40 list, with an estimated net worth of $26 billion. However, due to a crisis at FTX in late 2022, his net worth dropped by 94% in a matter of weeks.
On December 12, 2022, he was arrested in the Bahamas, pending a potential extradition to the United States. An indictment of him before the U.S. District Court for the Southern District of New York was unsealed on December 13, revealing a range of charges for offenses including multiple variants of wire fraud and conspiracy.
Bankman-Fried is currently out on bail, awaiting trial in 2023. His case is expected to have wide ranging implications for cryptocurrency regulation worldwide.
Why did Bankman-Fried collapse, bringing FTX down with him?
FTX’s sister company, Alameda Research, made a number of bad trades using FTX’s deposits — the money FTX clients were using to trade cryptocurrency on the platform. When news broke of the conflict of interest, clients began withdrawing their funds — draining the company of what little capital it had left.
Soon, FTX halted all withdrawals, angering investors and prompting a full-scale investigation that has since bankrupted the company. Bankman-Fried ran FTX with no organization, transparency, systems, or checks and balances in place.
Not only were his clients unaware of how their investments were truly performing, Bankman-Fried himself didn’t know how much FTX really had, and neither did his investment team.
Here are three lessons we can learn from watching the FTX story play out:
1. Follow regulatory best practices to the letter
When news broke that Bankman-Fried’s second company, Alameda Research, held $580 million in FTX tokens, (an amount that, if sold, would drastically impact the price of the token) traders and news outlets alike began scrutinizing the relationship between the two companies.
Alameda was allowed to use an unlimited amount of FTX funds for its own investments. With no limits in place, the company was permitted to trade away the majority of FTX’s funds — deposits from its own clients.
Alameda’s FTX investments weren’t illegal, because the crypto world is largely unregulated. But they did violate common best practices.
Business owners and accountants can take this as a lesson in acting with transparency and integrity, in order to avoid potential investigations in the future. Even if your business is found not guilty, any regulatory investigation can impact your sales and reputation in the short-term.
And more importantly, businesses should never allow so much of their own funding to be leveraged that they can’t meet their own obligations.
2. Always set accounting checks and balances
At FTX, leadership have been accused of commingling assets, not documenting as many as 500 transactions made using FTX funds and assets, not preparing reliable financial statements, and not bringing in any kind of independent financial governance.
These are just a few of the many charges and violations the company faces, but they point to one fact — a company without checks and balances is likely to misuse and abuse its capital. Even if you’re running a small business with limited capital and a lean team, operating within standard financial procedures, welcoming outside guidance and preparing proper financial statements are essential to the long-term development of your company.
3. Understand your product
Part of the reason FTX was able to get away with shady trading for so long was that few people really understood what the company was about, or what it aimed to do. Both clients and FTX employees became caught up in the excitement and growth of crypto, but failed to understand the critical details and risks involved.
And if you struggle to understand a product, plus the solution it provides, you’ll find it difficult to evaluate the risks clearly. Before launching any business venture, it’s important to have a well-defined strategy and plan of action.
This includes understanding the market, setting clear goals, assessing risks, having enough capital to fund the venture, understanding customer needs and creating an effective marketing strategy.
Sam Bankman-Fried is a cautionary tale for growing small businesses
Small businesses should strive for financial transparency and integrity because it can help them build trust with their customers, investors, employees and other stakeholders. It also helps to protect the business from fraud and other unethical practices such as falsifying records or misreporting revenue.
Additionally, having strong financial transparency can provide a competitive advantage as potential partners may be more willing to work with a business that is open and honest about its finances.
If Bankman-Fried and FTX had followed accounting practices throughout every step of their growth journey, they may still be the multibillion dollar company they once were — instead of a global lesson in how not to run a cryptocurrency exchange.
Want more? Escalon’s Essential Business Services include FinOps (accounting, bookkeeping, taxes and CFO services), PeopleOps (HR, benefits, recruiting and payroll) and Risk (business insurance). Talk to an expert today.
Sam Bankman-Fried image: Cointelegraph, CC BY 3.0 , via Wikimedia Commons