Coinbase (COIN) is in the line of fire.
The popular crypto exchange sits at the center of the rout in the cryptocurrency market, which like the stock market is getting hammered by investors' intensifying fears about slowing growth.
In the company's first-quarter results, filed in its 10-Q document at the Securities and Exchange Commission, there's this:
“Because custodially held crypto assets may be considered to be the property of a bankruptcy estate, in the event of a bankruptcy, the crypto assets we hold in custody on behalf of our customers could be subject to bankruptcy proceedings and such customers could be treated as our general unsecured creditors," Coinbase wrote.
Retail Customers Are Last in Line in a Bankruptcy
General unsecured creditors are considered to have the most to lose in the event a company makes a bankruptcy filing. This means that if Coinbase were ever to file under the bankruptcy laws, its customers would be paid after creditors and shareholders. They well could lose their money, as they would be last in line.
In the 10-Q, Coinbase explains that this is a "new risk factor," resulting from new SEC requirements for public companies that hold crypto assets for third parties.
The exchange warns that this requirement also means that customers -- retail investors in particular -- may consider that it is riskier to maintain their coins on the platform. Coinbase offers customers electronic wallets in which to keep their crypto assets. If customers leave the platform in substantial numbers, that could financially weaken Coinbase.
The language and the warnings it contains have sparked further concern in the cryptosphere, which already has been rocked by falling digital-currency prices.
At last check on Wednesday Coinbase shares had lost nearly a quarter of the market value they held on Tuesday. They've dropped 84% from their 52-week high near $369, set in early November.
Coinbase Chief Executive Brian Armstrong deemed it necessary to intervene and reassure.
"There is some noise about a disclosure we made in our 10Q today about how we hold crypto assets," he wrote on Twitter. "Tl;dr: Your funds are safe at Coinbase, just as they’ve always been."
'We Have No Risk of Bankruptcy'
He went on to say that there was no risk of Coinbase filing under the bankruptcy laws.
"We have no risk of bankruptcy, however we included a new risk factor based on an SEC requirement called SAB 121, which is a newly required disclosure for public companies that hold crypto assets for third parties," Armstrong said.
Armstrong assured Coinbase customers that the firm would take additional steps to ensure that it offered additional protections to retail customers equal to those offered to Prime and Custody consumers.
"For our retail customers, we’re taking further steps to update our user terms such that we offer the same protections to those customers in a black swan event," the CEO said. "We should have had these in place previously, so let me apologize for that."
Armstrong later apologized to Coinbase customers, saying the company should have communicated sooner about adding the new financial disclosure requirement.
"We should have updated our retail terms sooner, and we didn't communicate proactively when this risk disclosure was added," he said. "My deepest apologies, and a good learning moment for us as we make future changes."
"This disclosure makes sense in that these legal protections have not been tested in court for crypto assets specifically, and it is possible, however unlikely, that a court would decide to consider customer assets as part of the company in bankruptcy proceedings even if it harmed consumers," Armstrong concluded.
Armstrong's clarifications and apology may not have fully reassured at least some Coinbase customers, who reacted to his comments.
"Doesn’t Coinbase have insurance coverage to protect asset holders?" one user commented.
"Stop taking people's crypto and protect them Brian," another said.
"What other undisclosed risk management should you be doing and failed to do?" asked another Twitter user. "A publicly traded firm like yours should be competent regarding risk disclosure laws."