The collapse of FTX is doing further damage to the now very fragile crypto proposition. But I have no doubt that once the dust settles, blockchain and cryptocurrencies will survive – as will Coinbase.
That said, however, FTX is almost certainly worthless in yet another example of Softbank leading the VC lambs to the slaughter.
FTX is a crypto exchange where investors can trade and hold crypto assets, but it appears that its finances were so fragile that a sentiment shift caused by a series of tweets may have been its undoing.
It seems that a fall in the price of FTX’s issued FTT coin has triggered a loss of confidence in FTX. That has led to a run on its assets, which in turn has triggered an urgent call for vast amounts of new money to pay back depositors.
FTX crash raises many questions
This is where the questions begin because as an exchange, FTX should not have meaningful exposure to cryptocurrency assets. Instead, it takes customer deposits, facilitates trading and then provides custody services for the crypto assets that its customers choose to invest in.
Consequently, when investors ask for their money back, it should be able to provide all of that cash in very short order to its customers. It does not have a bank’s classic duration mismatch, where short-term deposits are lent out on a long-term basis, meaning that it is unable to pay back all of the deposits in one go.
Hence, a “run on the bank” should not cause this kind of distress in exactly the same way that Coinbase was able to pay back $3.5 billion to its depositors over the last six months with barely a murmur.
The fact that Sam Bankman-Fried (SBF) is desperately seeking between $4 billion to $8 billion to meet its withdrawal demands and prevent collapse raises all of the wrong sorts of questions.
FTX’s investors have egg on their faces
FTX is a privately held company, so there is no way of telling exactly what is on its balance sheet. But I am pretty sure that it is nothing like as clean as Coinbase’s.
My guess would be that somehow its customers’ fiat currency deposits have ended up being exposed to the FTT coin and/or other cryptocurrencies. That would mean that FTX has no way to meet the demands for deposit returns.
Furthermore, the company was already under investigation by the SEC aimed at looking at how FTX manages customer deposits. FTX’s investors now have some serious egg on their faces – including Sequoia, which claims it ran a “rigorous” due diligence process late in 2021. Despite this due diligence, Sequoia somehow concluded that the company was worth $25 billion, despite earning just $1 billion in revenues and $250 million in operating income in 2021.
This sounds to me like more Softbank-like FOMO (fear of missing out), which is rapidly becoming a reliable contrarian indicator.
Crypto use cases still exist
Meanwhile, Bitcoin has now broken the all-important $20,000 support level, with the next stop being somewhere around $10,000.
There is no end in sight to the continuing rout in crypto. But at some point, all of the hype, speculation and nonsense will have been flushed out, leaving the bare bones of the proposition.
These barebones do have a use case, such as fractional ownership of indivisible and intangible assets as well as running the economy of the metaverse (once cryptocurrencies become very boring). It is on this basis that I would look at this space.
And on this basis, I think Coinbase survives. As long as the company is not defrauding its auditors, the balance sheet is clean, it has only a small exposure to crypto itself, and it can quickly pay back all of its depositors should it need to.
This makes it a bank, in my opinion. But on that basis, it is still too expensive – especially if its deposit base is going to decline heavily during the ongoing crash. The best US banks trade at 1.0x – 1.5x price to book value and Coinbase is still on around 2.0x. Hence, while I think it has much further to fall, Coinbase will be one of the survivors of this death spiral.