Bloomberg Details the Whole Story of Celsius Fraud Why It Was Sued by Four Major US Regulatory Agencies?

Bloomberg reveals the full story of Celsius fraud and the reasons behind being sued by four major US regulatory agencies.

“Someone is lying, either the bank or Celsius.”

Original article “Celsius Was Lying”, translated by Odaily Planet Daily jk.

The original author Matt Levine is a Bloomberg Opinion columnist responsible for financial reporting. He was the editor of Dealbreaker, worked in Goldman Sachs’ investment banking division, served as a mergers and acquisitions lawyer at Wachtell, Lipton, Rosen & Katz, and served as a clerk for the United States Court of Appeals for the Third Circuit.

Four major U.S. law enforcement agencies file lawsuits against Celsius and its CEO

• SEC vs. Ripple Lawsuit Everything You Need to Know
• Layer2 Cross-Chain Bridge Battle Orbiter VS Layerswap, which one is more user-friendly?
• Introducing the Aztec sorter’s selection for the RFP finals: B52 and Fernet

A week ago, in a report about Celsius Network, I wrote: “In the past few years, people who pay attention to cryptocurrencies have their own personal list of ‘why aren’t these people in jail?’ top ten projects.” I think I can cross off one name from my list:

The former CEO of bankrupt cryptocurrency lending company Celsius Network Ltd. has been charged with fraud and is facing lawsuits from three regulatory agencies related to the company’s collapse.

57-year-old Alex Mashinsky is also accused of attempting to manipulate cryptocurrencies in a federal court in New York. The Securities and Exchange Commission (SEC), the Commodity Futures Trading Commission (CFTC), and the Federal Trade Commission (FTC) have also filed lawsuits against Mashinsky and the company.

Here are (1) the Department of Justice’s press release, Celsius’ non-prosecution agreement, and Mashinsky’s indictment, (2) the SEC’s press release and complaint, (3) the CFTC’s press release and complaint, and (4) the FTC’s press release and complaint.

Here, we have had a lot of discussions about Celsius because it may be one of the most absurd large-scale cryptocurrency companies. Celsius is a cryptocurrency lending platform that provides high returns on customers’ cryptocurrency deposits. In an interview with Bloomberg Businessweek, Mashinsky explained that the reason Celsius’ interest rates are much higher than bank deposit rates is not because it is riskier than banks, but because it passes more profits on to customers. Mashinsky said: “Someone is lying, either the banks are lying, or Celsius is lying.”

Last summer, Celsius froze customer withdrawals and filed for bankruptcy. Currently, there are four long-term federal complaints against Celsius, which describe its operations and problems in detail, and I will discuss them below. However, all of this is just a footnote to that sales pitch. “Someone is lying, either the banks are lying, or Celsius is lying” is everything you need to know about Celsius; an AI model can generate these four complaints with just this sentence as a prompt; everything Celsius actually does is somehow contained in this sentence.

Celsius is alleged to have conducted two related investment frauds: its business involves customers depositing their cryptocurrency deposits into Celsius, promising them secure returns of up to 17%, and then lending them to cryptocurrency hedge funds; and its token is a quasi-stock form of Celsius, allowing investors to bet on Celsius’ success through the token. The business is alleged to be a scam because Celsius cannot generate a secure 17% return (obviously!), and the token is alleged to be a common low-priced stock promotion scam: Celsius is alleged to have exaggerated the advantages of its business in order to get people to buy its token. Here is the SEC’s summary:

Celsius marketed two core investment opportunities to investors. Firstly, Celsius offers and sells its own cryptographic asset security CEL. The defendant promises high rates of return to investors who purchase CEL and promotes CEL as an investment in Celsius’ own success. Secondly, Celsius offers an “earn interest plan” where investors deposit their cryptocurrencies with Celsius in exchange for interest payments. The defendant promises a return rate of up to 17% to investors in the “earn interest plan”.

The defendant made numerous false and misleading statements to lure investors to purchase CEL and invest in the “earn interest plan”. Among other false statements, the defendant made misleading statements about Celsius’ core business model and investor risks, claiming that Celsius does not engage in unsecured loans, the company does not engage in high-risk transactions, and the interest paid to investors accounts for 80% of the company’s revenue.

These statements are all false. Celsius is unable to generate sufficient income to make the required interest payments to investors related to the “earn interest plan”. The company engages in high-risk transactions and unsecured loans in an attempt to generate the necessary income, resulting in significant risks to the entire Celsius enterprise. Celsius has failed to succeed, often paying more than 80% of its income to meet the company’s interest payment obligations, a business practice that is concealed from investors and unsustainable, ultimately leading to the collapse of the company. These things are intertwined: to attract customers to deposit, lying to them to make the company look better in front of CEL investors, and raising the price of CEL to improve Celsius’ balance sheet, attracting more customers. (In addition, Celsius partially pays interest owed to customers in the form of CEL tokens, so the higher the value of CEL tokens, the easier it is to pay interest to customers.)

Let’s start with the business. Celsius promotes to customers that they can deposit cryptocurrencies, Celsius will pool customers’ cryptocurrencies and provide high-quality, low-risk collateral loans to institutional-grade cryptocurrency investors, Celsius will earn interest from these loans and pass on 80% of the interest to customers, but how can the 80% interest from low-risk collateral loans reach 17%? Celsius somehow provides both safe and highly profitable loans. Either the banks are lying or Celsius is lying. So which one is it? The SEC states:

One core principle that Celsius promotes in its business is that it does not engage in unsecured loans when utilizing funds from investors in the “earn interest plan”. Celsius and Mashinsky have made this claim repeatedly across multiple channels. For example, during a live event on November 26, 2019, Mashinsky said, “I can tell you that there are other borrowers in the market doing unsecured loans or borrowing from anyone else. Great. Good for them. We will never do that.”

In fact, despite many public assurances to the contrary, Celsius has engaged in numerous unsecured institutional loans totaling millions of dollars. In fact, by November 2019, Celsius’ unsecured institutional loans had exceeded $17 million.

By 2022, the amount of Celsius’ unsecured institutional loans ranges from $1.3 billion to $1.96 billion, accounting for 34% to 48% of the company’s entire institutional loan portfolio.

Celsius has enough compliance personnel to know that (1) Mashinsky is lying and (2) they are trying to stop him, but they are powerless:

In a communication on the Slack messaging application, a Celsius executive told a senior employee of the company, “I just told (Mashinsky) that the number of unsecured loans is increasing and the overall collateral ratio of the institutions is decreasing…. I will talk to him. I’ve said it many times before.” The executive sent this message because Mashinsky made false statements about the company’s loan portfolio during the AMA event on November 6, 2020.

Mashinsky conducts a weekly live event called “Ask Mashinsky Anything” (AMA), in which he makes false statements about Celsius’ collateral, which Celsius later edits to remove these lies:

In the AMA event on May 14, 2021, Mashinsky said, “These loans are all collateralized. This means that the institutions provide Celsius with assets or dollars before we provide them with digital assets. This protects the interests of the community and ensures their safety.”

Mashinsky’s statement on May 14 was deleted as part of the AMA editing process, as directed by a Celsius executive. The executive recognized the falsity of Mashinsky’s public statements and pointed out, “It is very critical to delete this part of the AMA and remove the planned video explanations from every corner of the internet.”

Therefore, Celsius is alleged to have made false representations about the security of its loans. This is actually very important. When Celsius eventually files for bankruptcy, it reports assets of $4.3 billion (including $930 million in loans and $310 million in bad debt reserves), while customer liabilities amount to $4.7 billion (total liabilities of $5.5 billion); it turns out that these loans are far from as safe as Celsius has advertised, and therefore unable to provide sufficient funds to customers.

However, Celsius is also alleged to have made false representations about the profitability of its loans: despite engaging in high-risk unsecured loans, it still cannot generate enough revenue to fulfill its promises of return to customers:

Mashinsky and other Celsius executives are concerned that lowering the interest rates paid to participants in the “Earn Interest” program would result in investor loss. Therefore, Celsius largely sets its rates to attract and retain investors rather than based on the returns it can generate from its business activities.

Contrary to the defendant’s repeated claims that 80% of the income paid to investors was returned, Celsius has always paid interest that exceeds the company’s generated income.

This fact is well known to Celsius executives, including Mashinsky. For example, in February 2021, Celsius’ chief financial officer sent Mashinsky a financial document showing that in 2020, Celsius paid $45.7 million in interest (referred to as “rewards”), but only generated $42.7 million in income. In other words, Celsius used over 100% of its income in 2020 to pay the so-called interest to investors.

In 2021, Celsius paid interest to “earn interest plans” investors that exceeded its generated income by 23%.

Therefore, it is not good for Celsius to tell its investors who hold its quasi-stock CEL tokens that it is making money while it is actually losing money. But there is another question: if you raise funds from customers by promising high returns and your income is not enough to pay these returns, but you still pay them… where do you get the money to pay these returns? If the answer is “venture capitalists buy shares of your company and use their investment to pay the returns,” or “your wealthy CEO invests a portion of their own money to keep customers whole,” that may or may not be misleading, depending on your disclosure, but those are basically good answers.

Here is Celsius’ response, and it clearly states:

Mashinsky and Celsius’ senior leadership are aware that the company’s payment ratio exceeds 100%, and one executive pointed out that Celsius is essentially using user balances to pay user rewards.

This is a bad answer! It has a name! If you raise funds from customers and promise a 17% return, and then you earn money that is not enough to pay these returns, and then you raise more funds from new customers and use some of the funds to pay the returns, that is a Ponzi scheme. Maybe you didn’t intend to run a Ponzi scheme, but if you go around saying “we use user balances to pay user rewards,” then you definitely have some understanding of what you are doing.

Therefore, Celsius tells customers that it is making safe investments for high returns, but allegedly it actually engages in high-risk investments and even some Ponzi schemes to achieve these returns.

Then there is the CEL token. The SEC states:

Since Celsius was founded, CEL has played a critical role in the company. In a whitepaper in March 2018, Celsius described CEL as the pillar of the Celsius Network. CEL is a token that unlocks discounts and features on the Celsius platform, so the higher the demand for the platform, the higher the demand for CEL.

In a live event on March 8, 2018, Mashinsky further explained, “We focus on driving community growth because everything we do is measured against [CEL] tokens.” Mashinsky went on to say, “As the token price goes up, our entire compensation is in the token. So, our job is to do everything we can to increase the token price as long as it aligns with the best interests of the community.”

Mashinsky also publicly described the price of CEL as a measure of “Celsius’ profitability or operational status”. In other words, when Celsius successfully attracts more users, the price of CEL will rise, and when the demand for investment services in Celsius declines, the price of CEL will fall.

In line with their public statements, Mashinsky and others at Celsius view CEL as similar to a stock of a listed company. Mashinsky wrote in an internal message that he hoped to “be able to talk about CEL like a public company”.

At this point, I agree with Mashinsky’s view: CEL tokens have a controversial utility (and can be considered as commodities) to some extent; they can be used for certain operations on the Celsius lending platform, but in reality, they are just stocks of Celsius. When Celsius is doing well, when people have more confidence in Celsius and believe in its future, the price of the token will rise; the tokens are a bet on Celsius’ business. They are like stocks.

Therefore, just like any publicly traded company with stocks, if Celsius, for example, lies about its business and financial condition, it is securities fraud. Thus, the SEC cited Mashinsky’s statement in an April 2022 CNBC interview where he claimed Celsius had 1.7 million users when in reality it had less than 500,000 users. Or in May 2022, Mashinsky tweeted “Celsius has not suffered any significant losses, all funds are safe”; meanwhile, the SEC stated:

On May 9, 2022, just two days before Celsius and Mashinsky posted reassuring statements on Twitter, a Celsius executive referred to the company as a “sinking ship”.

On May 12 and 25, the same Celsius executive wrote in Slack communications, “No hope…no plan”, and that Celsius’ business model is “fundamentally flawed”.

Another employee bluntly stated in an internal message on May 21, 2022, “We have no revenue-generating services.”

Mashinsky knew there were doubts about Celsius’ ongoing viability. A Celsius executive told Mashinsky in a message on May 25, 2022, “We will continue to be in trouble for months, the asset/liability gap is now worse, balances are lower.”

This is a typical case of securities fraud.

In addition, it is alleged that Celsius manipulated the price of CEL tokens by secretly purchasing them on the open market. There is a strange mechanism here because there are two ways to buy and sell CEL tokens. The SEC stated, “Qualified investors in the United States can directly buy and sell CEL tokens from Celsius through the company’s over-the-counter (OTC) trading desk”, if you buy through the OTC desk, your tokens will be locked up for a year due to securities laws. However, CEL tokens are also listed on various cryptocurrency trading platforms. Trading platforms are public, while OTC desks are not, and due to the lock-up period, CEL tokens sold through the OTC desk cannot be immediately traded on the open market. “Because these (OTC) trades occur on the Celsius platform, they are only reflected in internal records and do not appear to other users on the blockchain or the Celsius platform.”

Therefore, there is a manipulative trading scenario:

1. Celsius can sell 1 million tokens off-exchange at a price of $1 per token.

2. Then, it can use the $1 million to repurchase slightly less than 1 million tokens on the public market, pushing the price up to $1.05 per token.

3. This is detrimental to Celsius in terms of corporate finance: it issues more tokens than it repurchases; it sells tokens at a low price and repurchases at a high price.

4. However, since Celsius’ repurchase reduces the supply on the public market and drives up the price, while its off-exchange sales do not immediately increase the supply or lower the price on the public market, this leads to the effect of manipulating the CEL price upward.

5. As Celsius’ reserves are primarily composed of CEL tokens (which are created by Celsius itself), increasing the price of CEL makes Celsius appear larger, more reputable, and provides it with more financial flexibility: increasing the price of the assets you control makes you wealthier.

6. Furthermore, the next time Celsius sells 1 million tokens off-exchange, it can sell them at the new market price of $1.05 per token.

According to the SEC, the following is how Celsius describes its manipulation plan in its memorandum:

An internal memorandum lists “main arguments” as raising the CEL price, stating: “We rise and fall with CEL,” “The more customers use CEL and the higher its value, the more value we can extract from it (e.g., using it to pay interest instead of using our cash).”

The internal memorandum describes the plan to raise the CEL price. The plan includes examples of value-based repurchases, in which Celsius will “repurchase a certain percentage of CEL sold through OTC sales on a case-by-case basis based on our specific cash needs.” The memorandum also details the plan to give “value” to CEL through increased trading activity on Celsius:

-The more CEL we sell through OTC sales

-The more CEL we can repurchase

-The more attractive the CEL market becomes

-The more CEL buy orders we receive

-Ultimately: the more valuable our reserves become

-The fewer CEL tokens we need to sell, but the value of the funds raised remains the same

This is not exactly a Ponzi scheme, but it is a concerning business plan. It reminds me of Sam Bankman-Fried’s explanation of the simplest way to conduct a cryptocurrency scam, which involves a “box/black box.” You invent a token, own most of the tokens yourself, let some of them trade on a public exchange, and manipulate the price to keep it high. This manipulation costs you money because you buy your own tokens at an irrational price to keep the price rising, but it increases the book value of all the tokens you haven’t sold, making you look extremely wealthy on paper. If you try to sell all these tokens to realize your wealth, their price will collapse—it’s just imaginary tokens!—and you could end up with nothing. But if you have a large amount of book wealth, you can turn it into real wealth in other ways, not just by selling it. You can mortgage it or even not mortgage it; you just need to say, “Hey, look, I have billions of dollars in assets, you surely can lend me more money.”

If you have billions of dollars worth of CEL in your financial reserve, you can use it as a business foundation. You can use these valuable CEL tokens to pay interest to customers. You can raise cash by selling some over-the-counter CEL tokens that are subject to a one-year lock-up period. You can attract customers to lend you real currency by saying “our balance sheet is strong, look at how valuable our assets are”. If you have a large amount of assets, you can attract even more assets. You may be tempted to manipulate the value of your assets.

By the way! The quote above mainly comes from the SEC’s complaint, although the Department of Justice, the Commodity Futures Trading Commission, and the Federal Trade Commission also dealt with similar content. This mainly reflects my personal bias: I think this is primarily a case for the SEC, because to me, it feels like a very typical securities fraud case. Celsius is alleged to have done two things:

1. It told people “give us your money, we will invest it for you and earn you a risk-free profit of 17%”, but then lost their money.

2. It told people “we are a fantastic company, buy our stock”, but it lied and manipulated the stock price. The first thing is just a typical investment scam; the second thing is a typical penny stock manipulation and dumping. Both of these are standard practices for the SEC and also apply to the Department of Justice (since the SEC cannot bring criminal charges).

This is my personal opinion, and apparently the SEC’s opinion as well. But in the cryptocurrency field, many people and some government officials believe that neither of these things constitutes securities fraud. Cryptocurrency exchanges such as Coinbase and Gemini argue that a pooled cryptocurrency lending platform promising interest is not a security. And the CEL token may not be legally considered a security because it is not actually a stock but a utility token on the Celsius platform. And overall, there is a jurisdictional battle, with the SEC wanting to regulate almost all cryptocurrency tokens as securities, while the cryptocurrency industry wants the SEC to stay away from cryptocurrencies. Therefore, while Celsius may have engaged in serious fraud on its lending platform and with its token, there is still a fierce debate about whether this fraud constitutes securities fraud.

But in the current situation, this is not important! Maybe it’s just commodity fraud, but the Commodity Futures Trading Commission (CFTC) is dealing with it. Maybe it’s just general consumer fraud, but the Federal Trade Commission (FTC) is dealing with it. Maybe it’s telecommunications fraud, but the Department of Justice (DOJ) is dealing with it. Four U.S. federal regulatory agencies have jointly stated “we don’t like whatever fraud Celsius is engaged in, no matter what you think it is”. Other cases can address details such as philosophy and jurisdiction. But someone will take action against Celsius.

We will continue to update Blocking; if you have any questions or suggestions, please contact us!