The cryptocurrency loaning institution Celsius Network has come under fire after freezing customer accounts and claims of insolvency. Now, their former asset manager KeyFi, Inc. (“KeyFi”) (known more commonly for the wallet which they operated out of and Twitter handle 0xb1) has filed a lawsuit with a ton of bombshell accusations to add further intrigue to this financial drama.
NOTE nothing in this blog post should be taken as facts. I am simply summarizing the allegations in a lawsuit, and providing my personal opinion on the facts as alleged and reported through various sources. There is going to be a lot of litigation in the space as the dust settles on various crypto blunders, and I do not want to be a Defendant in any of those lawsuits for some libel claim. With that disclaimer issued, let’s get into the DrAmAaaaaaa.
The first 14 paragraphs of the Complaint provide a general summary of the dispute between KeyFi and Celsius, so while you may not want to read the entire pleading it is worth a read to get the cliff notes on what’s going on. Essentially, KeyFi claims that Celsius hired KeyFi to take advantage of KeyFi’s DeFi (Decentralized Finance) proprietary investing tools, which were in turn to be used to create the profits necessary to pay back depositors’ promised rate of return, and allow Celsius to retain the profits.
Celsius acted as a hybrid of a bank and hedge fund. Under the Celsius business model, investors would deposit crypto into their Celsius accounts. Celsius would then loan out some of that crypto to others (the banking model) and invest some of that crypto in yield generating investments (the hedge fund model). The depositors would be guaranteed a stable (but virtually unheard of in traditional finance) 10+% APY (depending on the asset deposited). Celsius would keep the extra on top of that.
According to the Complaint, because there were far more depositors than individuals who were interested in 10+% compounding interest rate crypto loans, Celsius had to invest depositors’ funds themselves to make good on their 10+% APY promise. Celsius hired KeyFi to manage many of those investments. Allegedly, when KeyFi learned Celsius was manipulating crypto markets (including artificially increasing the price of the Celsius token $CEL using depositor money) and not making promised hedges against the impermanent loss risk of KeyFi’s DeFi moves (more on that later), KeyFi ended the business relationship with Celsius and is now suing to get the payment it was promised for investments made before the relationship ended.
There are a ton of bombshell accusations in the Complaint. As I explained in my breakdown of the Coolman’s Universe and OpenSea lawsuits, the level of detail a pleading goes into is a strategic decision of the attorneys drafting the Complaint. And the attorneys drafting the KeyFi Complaint woke up and chose violence. The first of the bombshells, however, makes both KeyFi and Celsius look horrible:
So the CEO and CFO chose who to trust with BILLIONS of customer deposits simply because they had invested a few thousand with the founder of KeyFi in the past? That is like Google using one of the founder’s H&R Block guy to handle the company’s multi-billion dollar venture arm. Even worse, they did it without a formal legal agreement! This is something that can only happen in crypto, because no traditional money manager, accountant, or lawyer would ever let their clients transfer hundreds of millions or BILLIONS of dollars without a formal legal agreement being in place first. Insanity.
This accusation is repeated a few times and stood out as odd to me. So Celsius hired KeyFi for their complex DeFi investing proprietary software, but instead of this allegedly highly sophisticated asset manager hedging against its own positions, it expects Celsius to make those hedges? That’s like hiring somebody to cut your grass but that person expecting you to do all the weed whacking and edging. Like, sure, I guess it is possible. But it doesn’t pass the smell test for me.
Lots of people are ignoring this part of the Complaint, but I think this is what the lawsuit is really about. Lots of people are suing and about to sue Celsius for its “investment” shenanigans. KeyFi will also be a likely target in those lawsuits, largely because I expect Celsius will be insolvent or in bankruptcy before those lawsuits result in judgments against Celsius. This is KeyFi’s way of saying they aren’t on the hook in any of those impending lawsuits.
Reading this Complaint from Celsius’ hired investment manager about all of Celsius’ egregious investment decisions reminds me of this scene from I Think You Should Leave:
The Complaint goes on to list lots of Celsius’ shady practices such as:
These types of allegations of shitbaggery have been covered by many already including my brilliant colleague @exlawyernft’s thread on the lawsuit, so no need to cover it here. I will say, I find it odd that this allegedly brilliant DeFi investor was apparently completely in the dark about his boss’s DeFi market manipulating behavior until the timeline as alleged. But that is the beauty of litigation. All the facts about who knew what, when they knew it, and who did what as a result will likely come out in that discovery process.
MY THOUGHTS ON LAWSUIT
As an initial point, I find it really hard to feel bad that the guy who spent 999 ETH on a Mutant Ape Serum didn’t get paid his share of profits that he only made using depositors’ money. Money which is currently frozen from those depositors accessing. In the end, I side with the unsophisticated investors who ignorantly (but innocently) trusted Celsius to deliver on its promises over this allegedly brilliant DeFi investment team which will be fine with or without their share of whatever is left of Celsius’ (AKA, the depositors’) assets once the dust settles. I personally hope those unsophisticated depositors get made as close to whole as possible before savvy investment teams get paid out.
There are three sides to every story, so Celsius will respond with their side and very likely the truth will be somewhere in the middle. As a litigator reading between the lines, I think KeyFi overplayed their hand and are going to face far more scrutiny from other litigants and government investigators than if they had gone off quietly into the night and written off their unpaid amounts as a life lesson in choosing better business partners. Time will tell if I am right.
I also think KeyFi is at risk of putting all this dirty laundry into the public eye, when there is a very real possibility that Celsius is forced into bankruptcy/insolvency before any judgment is issued or collected. That scenario would leave KeyFi in the same position it is now. Unpaid and now with additional attorneys’ fees and a target on its back. I’m obviously working on extremely limited information, but that is my gut reaction from reading this Complaint in the context of someone who has been following the Celsius snafu more closely than most. Sometimes, lawsuits are necessary. Sometimes, it is better to just cut your losses rather than creating additional headache and risk coming out in a worse position than you were before.
7/11/2022 UPDATE: Shortly after I posted this, @ArkhamIntel released their Arkham Report which gives an analysis on Celsius’ transactions using blockchain data and it was NOT complementary of 0xB1, to say the least. One relevant quote which sums it up:
“More plainly, had Celsius held these assets instead of sending them to 0xB1, their value would have been $1.49 billion – over $350 million more than what 0xB1 appears to have returned.”
While KeyFi made what would be considered objectively good returns on investments when everybody was making money during the crypto bull market, had they simply left those assets in ETH/BTC instead of messing around in DeFi, they would have made substantially more. This explains the heavy emphasis in the pleadings on failure to protect against impermanent loss, and may explain the lawsuit as a way to front run this less-than-complementary news about to be released. Either way, it was an important development in the story.
There are two massive takeaways from this lawsuit. First: as I have said and will continue saying until my voice gives out, DON’T MAKE FINANCIAL INVESTMENTS OR BUSINESS DEALS WITHOUT A FORMAL WRITTEN CONTRACT. Anybody who insists you go forward with a partnership without legal documentation is not somebody worth working with. If there is any scenario in which you could lose your assets and be forced to litigation, no matter how unlikely that scenario may be, you need to have a written contract in place or risk losing everything. That includes reading and understanding the terms and conditions on the websites you interact with regularly.
Second: litigation is coming to the wild west of Web3. During the summer of .jpgs my Google alert for “NFT Lawsuit” was basically silent. Now I get updates on 20+ stories a day of somebody suing somebody else over Web3 shenanigans. Nobody sues when everybody is having fun and making money. But when the money printer turns off or slows down, people start getting litigious. If you have a substantial stake in the industry, start making connections with attorneys you can trust and who understand the industry. That way, when that litigation comes your way (which it always will when big money is involved), you are prepared to handle it and have already put the necessary protections in place for you to come out of that litigation unscathed.
If you have any questions or would like me to write about anything else, let me know on either of my twitter pages! As always, I am an attorney, I am not your attorney. For legal advice, you should always consult (and pay for) an attorney.