Crypto lenders seek to come in from the cold

In the wake of the crypto winter, distressed investors are assessing prospects to turn around businesses that, to date, are not noted for their transparency

Non-banks are in demand as a source of finance for ailing cryptocurrency lenders, ever since a couple of high-profile such firms went belly up in the wake of a crash known as crypto winter.

“We are seeing activity with crypto lenders approaching traditional distressed managers about securing rescue financing,” says David Conrod, co-founder and chief executive officer of New York based advisory FocusPoint Capital Group. Conrod says his firm is working with one manager that has been approached by multiple firms.

Small wonder. In the past few months, two big crypto lenders, Celsius Network and Voyager Digital Holdings, filed for bankruptcy protection. The developments underlined the weak controls in certain corners of the crypto-lending business, where depositors were promised double-digit returns only to see their accounts frozen and their investments go up in smoke.

Unlike traditional banks, crypto lenders aren’t required to be transparent about their reserves, or to hold a certain amount of capital in reserve. Regulation varies by country, and by state in the US, and regulators have yet to determine definitively whether or under what conditions the investments qualify as deposits, securities or commodities.

Also, there are several different types of unregulated crypto lending platforms. Decentralised finance, or DeFi, is non-custodial, where counterparties transact digitally and maintain ownership of their tokens, with yield coming from interest paid by borrowers.

By contrast, a centralised finance, or CeFi, platform manages all deposits and loans on a centralised platform, with depositors losing direct control of the assets in return for the platform investing it. Centralised lending “looks and feels like a bank for cryptocurrencies—without the same regulatory oversight and consumer protections”, digital assets news service Blockworks says.

CeFi lenders are largely unregulated. But that may change. A group of state regulators is investigating crypto lenders. Last summer, one of Voyager’s borrowers, crypto hedge fund Three Arrows Capital, was ordered to liquidate, and Caisse de dépôt et Placement, one of Canada’s largest pension funds, had to write off its $150 million stake in Celsius.

Amid this chaos, some see opportunity, despite the risks.

“We are looking very carefully into many of these situations, as we believe there could be value in these platforms,” one distressed manager who requested anonymity told Private Debt Investor. The manager’s firm has been approached by no fewer than a dozen crypto lending companies. “With the right operating frameworks, providing transparency and confidence to the clients, these companies can be rescued and turned around to the benefit of all stakeholders.”

The companies are exploring different capital solutions, such as debt financing using any of the business segments as collateral. Also under discussion: a recapitalisation of the main business, or a payment-in-kind solution where existing depositors receive an equity stake in the company to cover the portion of deposits that won’t be returned.

But it won’t necessarily be a slam dunk. In its bankruptcy filing, Celsius showed a balance gap of $1.2 billion, with user deposits comprising most of its $4.72 billion of liabilities.

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