Robert McManigal is associate at Nixon Peabody. Views are the author’s own.
Decentralization has been at the heart of the crypto industry since its beginning, but in the fallout of the FTX debacle, it can make sense for crypto companies and other fast-moving startups to adopt the kind of checks-and-balances that help create the stability prized in publicly traded companies.
That, in turn, can help protect these companies against the internal dynamics that appear to have led the cryptocurrency exchange FTX to file for bankruptcy late last year and the subsequent arrest of former CEO Sam Bankman-Fried on eight criminal counts.
It’s well known that successful companies continuously adapt as their businesses grow. While FTX’s management was clearly intelligent, by all accounts they lacked the grounding to make decisions in the best interest of the company and its customers.
Although the magnitude of the FTX catastrophe makes it an outlier, in many ways the situation there is symptomatic of pervasive issues throughout startup culture generally and in the cryptocurrency industry particularly.
Similar fast-growing organizations will likely be under a microscope now that FTX’s dealings have come to light. While there are critical actions such companies can take to prevent or defend against legal consequences, it’s imperative to acknowledge that no conduct driven by malicious intent will be beneficial in the long term.
However, for those seeking to bolster their business dealings in a post-FTX world of increased regulatory scrutiny, the benefits of taking smart action will surpass mere legal security to include improved efficacy and longevity.
It’s part of the culture of the crypto industry, and of the startup world more broadly, to grow quickly with as few checks and balances as possible.
But it’s important to recognize that a reluctance to establish a board of directors, expand management teams and create internal controls, while it might be a hallmark of fast-growing companies, it can also be taken as a red flag the company is engaged in fraud or impropriety.
Here’s where taking a page from the conventional playbook of publicly traded companies can be helpful.
Generally, publicly traded securities are controlled by shareholders with voting power who elect a board of directors to ensure the executives are acting within the company’s best interests.
Conversely, crypto companies have little, if any, oversight. The founders operate with near impunity when making strategic decisions that may influence the cryptocurrency’s value.
To increase investor confidence, crypto companies should consider embedding a checks and balances system into their governance structure.
The same applies to any startup.
Establishing board of directors
An efficient structure includes a board of directors which oversees strategic decisions.
The establishment of a well-rounded board of directors is paramount for instituting organization benchmarks and promoting transparency.
A strong board can accelerate the adoption of new policies, which increases flexibility in an ever-changing market.
When seeking out board members, companies should look beyond their immediate circle and select individuals with a broad range of experiences to eliminate the possibility of a self-serving echo chamber.
A variety of perspectives and backgrounds will help companies remain adaptable and competitive.
The decentralized philosophies at the root of the crypto industry and the speculative nature of a currency’s value present unique business challenges. These challenges can be addressed, in part, by coupling corporate governance with clear and concise internal controls.
Due to the difficulty surrounding valuation of digital currency and asset management, accounting issues are abundant for crypto companies and audits are a near-impossible task.
The implementation of controls can effectively support audits that will in turn, deter fraud. Instilling controls to help track crypto assets to determine valuation basis, custody, and ownership of currency is one-way crypto companies can address these financial challenges.
It’s important to proactively consider these measures as the benefits of internal controls and corporate governance extend far beyond simply avoiding or navigating regulatory inquiries.
In reality, a comprehensive corporate governance structure ensures orderly operations. When clear guidelines are enforced, company developers and employees understand their roles and are accountable for their behavior.
Additionally, employees know where to direct issues as they arise, meaning such challenges can be dealt with productively. For management, the delegation of internal responsibilities enables them to focus on growing the business and adapting to the marketplace.
The people one surrounds themselves with will dramatically influence the company’s culture and employee conduct.
While regulators and legal enforcement apparatuses will deter some bad actors, strong internal controls and accountability must come from within.
However, it’s crucial to recognize when external counsel is necessary. Engaging with expert legal counsel is imperative to avoid or navigate regulatory and legal ramifications.
Experienced and diverse perspectives, both internally and externally, are essential to optimize the chance of a crypto business' long-term viability in a post-FTX climate.
FTX’s case will serve as a catalyst for significant legal and regulatory ramifications in the crypto industry.
For crypto leaders who wish to thrive following the watershed FTX situation, understand that success will largely be determined by the actions taken in the immediate wake of this event.
Now is the time to take a critical look at the internal dealings of your organization and invest in security and longevity by adopting or bolstering internal controls.