Investors putting $2 billion into FTX face scrutiny too

Sam Bankman-Fried’s pitch to investors wasn’t 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 past 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,” said one investor who heard the pitch.

They responded by giving him $500 million early this year, valuing privately held FTX at $32 billion.

This week, Mr. Bankman-Fried met with investors again — but with a different tone. FTX had collapsed overnight, putting billions of dollars in client funds at risk, setting off a series of government investigations and throwing the crypto markets into chaos. He was sorry, he said. He had messed up. Without a bailout, FTX may fail.

It was a humiliating fall for Mr. Bankman-Fried, 30, who had built a reputation as an iconoclastic wunderkind who could multitask effortlessly and slept on a beanbag in the office. Still, more than 80 investors went along with his vision, pouring nearly $2 billion into FTX in just two years.

Now investors are also under scrutiny, because they have given Mr. Bankman-Fried so little oversight. It was the most dramatic example in recent history of what happens when so-called visionary founders get a lot of money with few strings attached.

The events showed that even the top investors — whose money in FTX has evaporated — can miss the mark, said Kevin Werbach, a professor of business at the Wharton School of the University of Pennsylvania.

“You can look like a genius making successful big bets,” he said, “but sooner or later you’ll crash spectacularly if you didn’t do real diligence.”

On Friday, FTX, which was facing an $8 billion cash shortfall and was struggling to drum up cash, filed for bankruptcy. Mr. Bankman-Fried stepped down as CEO. The Justice Department and the Securities and Exchange Commission are investigating whether FTX improperly used client funds to prop up a separate trading firm, Alameda Research, which Mr. Bankman-Fried also founded.

FTX’s list of investors spans powerful and well-known investment firms: NEA, IVP, Iconiq Capital, Third Point Ventures, Tiger Global, Altimeter Capital Management, Lux Capital, Mayfield, Insight Partners, Sequoia Capital, SoftBank, Lightspeed Venture Partners, Ribbit Capital, Temasek Holdings, BlackRock and Thoma Bravo.

Some of FTX’s investors declined to comment or did not respond to requests.

Four FTX investors, who declined to be identified, said they were shocked by the company’s sudden collapse. They said they had properly investigated the company’s financials, which showed a healthy, growing business that provided a user-friendly platform for people to buy, sell and store crypto. And they were completely in the dark about FTX’s possible self-dealing with Alameda, they said.

Investing in FTX gave them a piece of the hottest startup in an emerging sector that promised to be as big as smartphone apps or the internet itself. Many investors had trumpeted their support for the deal. Sequoia even published a glowing profile of Mr. Bankman-Fried on its website.

Now the agreement represents a big black eye.

Paradigm, a crypto-focused venture fund that invested $278 million in FTX, told its own backers in a letter Wednesday that the investment was likely worthless. Sequoia said in a statement that it valued its $213 million investment in FTX at $0. The venture capital arm of the Ontario Teachers’ Pension Plan, which put $95 million into FTX, said in a statement: “Not all of the investments in this early-stage asset class have met expectations.”

FTX’s lack of oversight also left investors out of the loop on what happened this week as Mr. Bankman-Fried tried to find a last-minute bailout.

“The full nature and extent of this risk is not known at this time,” Sequoia wrote. FTX’s liquidity failure “will take many months to fully understand,” Paradigm said.

Mr. Bankman-Fried, who did not immediately respond to a request for comment, had never made it a secret that he thumbed his nose at tradition.

In an interview with The New York Times in April, Ramnik Arora, one of FTX’s top executives, described a video meeting last year between Mr. Bankman-Fried and partners at a top venture firm. In the meeting, Mr. Bankman-Fried delivered a well-received presentation while simultaneously playing a video game.

“The whole partner meeting he was playing League of Legends at the same time,” Arora said.

Before another investor meeting, Arora said, the investors asked Mr. Bankman-Fried to put together a slide deck. The contractor threw together the presentation in about a couple of hours.

“There is no formatting anywhere, fonts are everywhere,” Mr. Arora said. “You can just feel discomfort — both sides — because the investors are like, ‘How the hell are we going to be shown a deck that clearly no one has spent time on?’

Nevertheless, the investors were not offended. For years, they had loosened trade practices that gave them control over a company and protected their investments. It was a way to get into the best deals as money from around the world poured into high-growth startups. Last year’s overlapping investment craze in cryptocurrencies, stocks and startups reinforced the trend.

Some of FTX’s investors saw the company as a way to dip a toe into cryptocurrency investing without buying volatile tokens. Others saw FTX as a safer bet than Binance, one of the biggest crypto exchanges, since FTX had been pushing to establish a regulatory regime in Washington while Binance has come under fire for its secrecy and for violating financial regulations around the world .

Above all, the investors emphasized that venture capital is designed to take big risks that often fail.

But even by 2021’s frothy standards, Mr. Bankman-Fried’s latitude from investors was extreme. Despite raising $2 billion, he remained a majority owner of the company. No investors joined FTX’s board of directors, which consisted of Mr. Bankman-Fried, an FTX employee and an attorney. (An advisory board of investors had no functional control over the company.) The company did not tell investors what Alameda Research, Mr. Bankman-Fried’s separate crypto-trading operation, was about.

Mr. Bankman-Fried was so averse to outside input that investors who dared suggest a more experienced executive at the company were likely to be shut out of future funding rounds, one investor said.

In an interview with Bloomberg in April, Bankman-Fried accused venture capital investors of making deals based on fear of missing out, rather than financial models. “Like all the models are composite, right?” he said.

In return, investors showered Mr. Bankman-Fried with effusive praise. Orlando Bravo, whose firm, Thoma Bravo, invested $150 million in FTX, said at a conference in September that despite his concerns about the overall crypto industry, he believed Mr. Bankman-Fried was “one of the best entrepreneurs” he had met. .

The Sequoia profile explained that Mr. Bankman-Fried “lives his life by a calculus of altruistic impact.” During a video call with the FTX founder, the profile said, Sequoia’s partners commented excitedly to each other in the chat. “I LOVE THIS FOUNDER,” wrote one partner.

This week, Sequoia replaced the article with an update. “A liquidity crisis has created a solvency risk for FTX and the future is uncertain,” it says.

At the end of Mr. Bankman-Fried’s call with investors this week, several accused him of concealing details of FTX’s dealings with Alameda Research and asked for more information, a person on the call said. He sidestepped the questions and ended the conversation.