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Cryptic Crypto: Creditors Move for Ch. 7 for Alleged Madoff-Like Fraud

On Wednesday, November 18, two customers of Cred Inc., a cryptocurrency investment platform currently in Chapter 11, asked Delaware Bankruptcy Judge John T. Dorsey to convert the Chapter 11 case to a Chapter 7 liquidation (or, in the alternative, to appoint a Chapter 11 Trustee “with expertise in hunting down . . . stolen cryptocurrency”). Prior to its Chapter 11 filing, Cred received investor-cryptocurrency, typically in the form of loans, and then purportedly used those funds across a variety of investments to generate favorable returns.

In its motion, the customers allege that Cred is “rife with fraud and deception on ‘Madoff’ level proportions.” They argue that Cred has “grossly mismanaged the estates” such that there is no reasonable likelihood of rehabilitation.

The customers allege that the Debtors (1) co-mingled their customer account loans with regular corporate assets to use funds intended for investments for paying regular operating expenses; (2) lent $39.1 million to moKredit, which was formed by one of Debtors’ principals; (3) transferred $10 million of bitcoin to a Cred-alleged outside fraudster as a result of falling prey to an online social engineering fraud; and (4) had a former Chief Financial Officer who improperly transferred $4.3 million of the investor-provided bitcoin into his personal e-wallet instead of for the investor-approved purposes.

The customers also argue that the business is no longer viable. They state that the business relies on cryptocurrency investors trusting the Debtors with their funds, a prospect severely decreased by the negative publicity surrounding the Debtors’ actions.

The customers allege that a shortfall of assets to liabilities on Cred’s balance sheet is over $68 million and is likely to exceed $100 million. In addition, they assert that even if Cred were to use its $39.1 million loan from insider-owned moKredit with its $14.7 million in illiquid crypto-currency, Cred would be unable to repay $136.5 million in liabilities, which is approximately 10% of Cred’s outstanding liabilities.

A hearing on the motion to convert is scheduled for December 9, and any opposition or other response is due on December 2.  We will update this post after Judge Dorsey rules on the motion, but it is difficult to imagine that he will permit the Debtors to remain in possession of their business if even some of the allegations leveled by the moving creditors are supported by the evidence.