Market Notes

Crypto’s Largest Lender Bankrupt?

Updated: Aug 31, 2024

Published: Nov 23, 2022

The collapse of FTX has had a significant impact on several crypto companies. Genesis, a crypto brokerage, stands out among them. Let’s dive into the situation and its possible outcomes.

To understand the problem, we first have to understand DCG's structure. DCG stands for Digital Currency Group FYI.

Everyone speculates that Genesis' insolvency would affect DCG. Grayscale is one of the companies owned by DCG, this one holds 643,500 BTC and 3,045,000 ETH. You can imagine how bad of an effect this can have on the market..

In the report, we will investigate the likelihood of this happening.

What is Genesis?

Genesis is the largest institutional crypto lender. It gave out over $130B in loans in 2021 alone. Many institutions, family offices, and whales used to lend their assets to Genesis. Dozens of companies like Gemini & Circle Yield use Genesis.

Because Genesis has halted their withdrawals, these people cannot access their funds. This could lead to more contagion & strains in liquidity.

So, what went wrong with Genesis?

This year, centralized lenders have been at the core of many issues in the crypto industry. Consider Celsius and BlockFi. The current situation is no exception to this rule.

According to reports, Genesis’ lending arm had outstanding loans to Alameda Research. These loans had FTX’s native token, FTT, serving as collateral.

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Looking at the FTT chart and Alameda Research’s position, it’s easy to understand why this is a concern. On top of that, the company also has $175 million worth of funds locked away in an FTX trading account.

It is important to note that this is not the first time that Genesis has gotten in trouble. In July, it also received a $1.2B loan from its owner, Digital Currency Group (DCG). This was a bailout for the unsecured loans given to the now bankrupt hedge fund 3AC. While this must have been a significant hit for the company, it did not learn from its mistake.

Reportedly Genesis has at least a $1B hole in its balance sheet. Rumour is that they'd have to file for bankruptcy, unless they fill that hole by end of week.

Who will save the day?

In the last few days, the firm has been looking to raise at least $1 billion in new capital to plug its hole. It discussed potential investments from Binance and private equity giant Apollo Global Management. For the time being, it has failed to gain interest from investors.

Grayscale

Grayscale is an investment manager owned by Digital Currency Group. The Grayscale Bitcoin Investment Trust is their most well-known product (GBTC). GBTC is the largest bitcoin investment entity. It has around $10.5 billion in assets under management. It is important to note that DCG owns around 10% of GBTC, worth around $1 billion. The second largest investment product of the company is the Grayscale Ethereum Trust. It holds over $3.4 billion in assets under management.

Grayscale's most profitable product is the Bitcoin Trust that holds 643,500 BTC ($10.5B+). The worry is that Genesis' mess spills over to Grayscale.

Three possible scenarios

Best-case scenario: There is still a chance that DCG will raise $500 million to keep the lights on. But this will only get them to solvency and prevent further contagion. Another way to avoid contagion would be for someone to buy the company. Yet this seems unlikely, given that Binance already passed on the deal.
Base-case scenario: At this point, Genesis shuts down. The company must file for bankruptcy. This is bad for creditors like Gemini, who have funds stuck in Genesis. It could lead to more contagion as it will take a long time before they can access their funds. Another possibility is that the company restructures behind closed doors. Here creditors would avoid the need for lengthy bankruptcy proceedings. Creditors would settle for 30-50 cents on the dollar.
Worst-case scenario: DCG could decide to sell the 10% GBTC stake they purchased for $600 million. This would allow them to plug the hole at Genesis. But it would result in a $400 million loss because they would have to sell their GBTC at a discount.

DCG also could put in place “Reg M” for the GreyScale Trust. This allows trust holders to redeem shares for actual Bitcoin. This would allow them to meet Genesis’s liabilities and pay back creditors. In this scenario, Grayscale’s cash cow would shut down. But the company would receive a total of $1 billion instead of $600 million for its 10% stake.

Grayscale completely dissolving GBTC is terrible for the crypto market. Because it would result in a massive unlock of $10 billion BTC flooding the market. This is unlikely, as it would mean that DCG kills its most profitable business.

Conclusion

There is a high likelihood that Genesis will go bankrupt. But it looks like this would not unlock $10B in BTC, which many people fear. DCG still has a lot of other options to resort to before taking such a massive step.

This is not to say that it is completely out of the question. We've seen companies lie about their financials. There may be information that we do not currently have access to. For the time being, we should be cautious and wait to see which scenario plays out.

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