Legal Counsel’s Testimony: FTX’s Troubling Financial Flaws

The third week of Sam Bankman-Fried’s criminal trial concluded with the testimony of Can Sun, FTX’s former general counsel, who journeyed from Japan to New York to provide his account.

An Insight into FTX’s Disturbing Flaw

Sun’s testimony occurred under a no-prosecution agreement, signed with the Department of Justice just days before his testimony. He joined FTX in August 2021 after working as an attorney at Fenwick and West. Sun, in his role as general counsel, initially lacked awareness of FTX’s significant flaw, which allowed sister trading firm Alameda Research to borrow user funds without consent. Sun unequivocally stated, “Never approved anything like that, and I would never have done it either.”

Shortly after joining, Sun discovered that Alameda had a unique privilege – it was exempt from automatic liquidations and could maintain a negative balance at FTX. This seemed highly inappropriate to Sun, prompting him to engage with FTX leadership to address this issue.

Unfulfilled Promises and Ongoing Concerns

During discussions with Sam Bankman-Fried, Nishad Singh (head of engineering), and Dan Friedberg (FTX chief regulatory officer), Sun advocated for a change. They promised Alameda would have “delayed liquidation,” with the commitment to inform FTX users and regulators about this modification. Furthermore, this feature was supposed to be extended to other institutional market makers on FTX. However, Sun revealed that these promised changes were never implemented.

Revelations of Fund Misappropriation

In his capacity as general counsel, Sun documented the loans issued by Alameda Research to Sam Bankman-Fried, Gary Wang, and Nishad Singh for purchasing FTX equity. However, he remained unaware that these funds were sourced from FTX user deposits. At one point, Sun himself accepted a $2.3 million loan from Alameda to buy a house in the Bahamas, a decision he later regretted.

Sun admitted, “As general counsel, I was involved in transactions that now, in hindsight, may have involved the misappropriation of customer funds, so, out of an abundance of caution, I asked the government for protection.”

A Startling Revelation and Resignation

The tipping point for Sun was a conversation with asset manager Apollo Global Management in November 2022. Apollo expressed interest in investing in FTX and requested a copy of the financial statement. Sun was “shocked” to discover a $7 billion hole in FTX’s balance sheet related to Alameda. When he raised this issue with FTX leadership on November 7, 2022, he received no satisfactory answers.

Sam Bankman-Fried’s reaction during this conversation was notably indifferent, as he typed on his laptop and abruptly left the room to make calls. Later, Bankman-Fried asked Sun to craft a legal justification for the missing funds, but none of the “theoretical” arguments held water.

The same day, Sun spoke with Nishad Singh, who confirmed that the same feature allowing Alameda to avoid automatic liquidations also enabled it to borrow customer funds. Consequently, Sun resigned the following day.

A Witness’s Perspective: The Impact on FTX’s Investors

The court also heard from Robert Bourjeri, a former managing director at Third Point, an asset management firm that invested $35 million in FTX in 2021. Bourjeri explained his involvement in negotiations leading up to the transaction. He expressed that if he had known about Alameda Research’s exemption from liquidations at FTX, Third Point would not have made the investment.

The revelations from Can Sun’s testimony shed light on the intricate web of financial irregularities at FTX, impacting both its internal operations and external investors.