Battle for Debtors' Counsel in FTX Bankruptcy Becomes Surreal
R Tamara de Silva
Today, January 20, 2023, a hearing on the appointment of FTX’s bankruptcy counsel in the U.S. Bankruptcy Court for the District of Delaware, before U.S. District Judge John Dorsey will take place. A reading of the docket leading up to this hearing tames any John Grisham plot. This appointment is particularly contested as it represents hundreds of millions of dollars in legal fees to the firm that is ultimately appointed Debtors’ Counsel. It is also one of the more fascinating battles to occur in the instance of a law firm asking to be appointed bankruptcy counsel simply because it cannot be more packed with conflicts of interest, and possible misconduct.
Sullivan & Cromwell (“S&C”) applied to be Debtors’ Counsel despite it also having been counsel for all three FTX entities, along with Sam Bankman-Fried and Nishad Singh, during all relevant times the alleged fraud and wrongful activities by FTX, its principals and affiliated entities is believed to have taken place.
According to a declaration of FTX’s chief compliance and chief regulatory officer, and a customer of FTX.US, Daniel Friedberg, in support of a creditor’s objections to the application of Sullivan & Cromwell to be Debtors’ Counsel/FTX Bankruptcy Counsel, S&C fails to reveal the extent of their representation of FTX entities.[i] What is more astonishing is the declaration’s enumeration of alleged misconduct on the part of Sullivan & Cromwell.
S&C Representation of FTX Entities
According to Mr. Friedberg, S&C, who downplayed their role as counsel to FTX entities prior to the bankruptcy petition, actually represented FTX.US, Alameda Research, FTX International Group, Sam Bankman-Fried (“SBF”) and Nishad Singh (FTX’s former director of engineering). Ryne Miller, a partner at Sullivan & Cromwell was appointed as general counsel of FTX.US, counsel for Alameda and FTX International.
There is also S&C's representation of Blockfi. Alameda Group made a $200 million loan to Blockfi which included an option for Alameda to purchase Blockfi. S&C acted as counsel to Blockfi while it was also advising Alameda on whether the latter should exercise its option to purchase Blockfi. Not even John Grisham would imagine the scale of a conflict of interest like this.
Mr. Miller was also counsel for FTX Derivatives (LedgerX) and the FTX affiliate, Emergent, through which SBF invested in Robinhood. This is all in addition to being SBF and Nishad Singh’s personal counsel. If you are wondering if S&C’s application to be appointed Debtors’ Counsel reveals these relationships-it does not.
Normally, attorneys would require all parties to waive potential conflicts of interest in having the same attorney represent them when in fact their interests may not be identical in all instances. Apparently no such waivers of conflicts were solicited or executed. Why this matters in the events leading up to bankruptcy filing is that each FTX entity had different creditors and customers. Keep this in mind.
Special Relationship with Chairman Gensler?
Mr. Miller had emphasized his relationship with U.S. Securities and Exchange (“SEC”) Commissioner, Gary Gensler, who Miller referred to simply as “Gary.” He also allegedly told FTX personnel what “Gary” would and would not do. The stating of this relationship with the main regulator, if true, would have had an influence on the actions of FTX principals and entities.
But it gets better.
According to Mr. Friedberg’s sworn declaration, Ryne Miller had made it clear to him that it was extremely important that FTX legal business be directed to S&C so that Miller would be able to return there as a partner after his work for FTX and its related entities and principals. It was this motive that colored the events leading up to FTX filing for bankruptcy on November 11, 2022.
After CZ of Binance publicly announced his reservations about FTX International and Alameda Group, stating he was abandoning his purchase of them, Ryne Miller stated to Friedberg that the bankruptcy proceedings must take place in the United States. He also asserted that FTX.US would have to be included in the bankruptcy proceedings.
Friedberg claims to have objected pointing out that FTX.US was not affected and was not insolvent. If FTX.US was not affected and part of the current bankruptcy proceedings, this would have had a material impact on all U.S. customers and creditors.
Mr. Miller is said to have insisted that FTX.US be part of the proceedings because “FTX.US had the cash to pay S&C its retainer.” Doc. 530 at 36
FTX.US, Friedberg mentions relating to Miller, had no obligation to pay for the legal expenses or bankruptcy expenses of FTX International Group or Alameda. But Miller had insisted on it and said S&C would install "their guy"-presumably, John Ray III? John Ray III in turn filed an affidavit in support of the appointment of S&C. John Ray III stated in testimony before Congress that FTX/Debtors were left, "more closely resembling a crime scene than an operating business," pointing to inadequate governance, lack of controls and naivety. But in a court earlier this week, Mr. Ray stated that "the advisors are not the villains," dismissing objections to the appointment of S&C.
Ryne Miller is also said to have directed $200 million in cash from U.S. based LedgerX to be sent as fees to S&C for bankruptcy costs.
Friedberg details his futile attempts to impress on partners or S&C that it could not combine all the entities of FTX into the bankruptcy proceedings because there were unwaivable conflicts of interest-each entity having different customers and creditors. S&C saw no conflicts of interest as it sees none in its current application to be Debtors’ Counsel.
Friedberg was also told by a partner at S&C to speak to a particular lawyer at Covington and Burling, who in turn assured him that he would represent Friedberg and the tab would be picked up by FTX customer assets because lawyers are paid first in these matters.
As the U.S. Trustee points out in its objection to the appointment of S&C, S&C cannot investigate itself according to Bankruptcy Code sections 1106(a)(3) and 1107(a),
based on the publicly available information, any investigation of the Debtors would necessarily focus on those with connections to S&C—and possibly on S&C itself. Thus, S&C cannot be involved in, much less lead, these investigations as proposed because of its close connections to Mr. Miller and the potential for other connections undisclosed as of now. Doc. 496 at 7
If any of the instances of misconduct and conflict of interest enumerated by Daniel Friedberg are true, then not only must Sullivan & Cromwell not be appointed Debtors’ Counsel, at the minimum, they should be investigated by an outside examiner in order for the bankruptcy proceedings to maintain their integrity.
The use of U.S. customer funds to pay for the bankruptcy proceedings, when these same customers, may possibly have otherwise been able to withdraw their funds-months ago, should itself be investigated -not just as an interesting and possible conflict of interest among the powerful players, but a possible injustice against retail customers and creditors who, unlike lawyers, are always paid last anyway.
R Tamara de Silva