Celsius failed because it was technically incapable, report finds

Crypto lender Celsius Network failed to keep track of its customers' digital assets, according to a report published Saturday ordered by the judge overseeing Celsius' Chapter 11 bankruptcy proceeding.

Why it matters: Thousands of Celsius customers and the digital assets they think rightfully belong to them hang in the balance, with folks shut off from their accounts since the platform's June halt.

Between the lines: Celsius had customers in accounts designated Earn, Custody, and Withhold.

• Earn accounts generate yield, but because that product could have been in violation of securities law, Celsius launched Custody as a regulatory workaround, and Withhold accounts for customers who lived in states that Celsius couldn't legally offer Custody accounts.
• But Custody accounts were only that by name, according to examiner Shoba Pillay's interim report. Assets were funneled from other parts of the company to address shortfalls in those accounts. And deposits for Withhold accounts were also commingled.

The big picture: The 300-plus page report further complicates the court's job of figuring out which digital assets belong to which customers and to Celsius' estate.

• Yes, but: The different customer groups in Earn, Custody, and Withhold accounts, represented by their respective lawyers, may disagree with the report's findings.

Context: Pillay was instructed to produce an interim report to address factual issues related to Custody and Withhold accounts that would help inform the judge presiding over bankruptcy proceedings on who gets what.

• Pillay interviewed Celsius executives and used company documents including coin reports, reports from its Fireblocks workplace as well as wallet and asset-mapping documents.
• "Celsius’s actual movement of coins within its network differed from what its customers could see," Pillay said.

Between the lines: Celsius came up with Custody, launched in April, so that it could keep "assets on the platform" and bring in new users without running "afoul of regulators," according to Juwon Layiwola, a Celsius director.

• A securities regulator in the state of New Jersey, where the firm is headquartered, ordered Celsius to cease and desist from its Earn product in September 2021, accelerating the firm's timeline to launch products it didn't have the tech ready for.

Details: Technical limitations of the Custody offering (because it wasn't ready by launch) required manual reconciliation, processes for which were not established.

• Oren Blonstein, Celsius’s former head of innovation and chief compliance officer, "did not know the basics of the manual reconciliation process," the report said.

• "He had assumed it was automated, and agreed that the process was “not sufficiently robust."
• Employees, according to the report, said they relied on their “innate sense of how liquid or illiquid the coins or assets were” when they considered whether to involve Treasury" to address periodic shortfalls in customer accounts.

Meanwhile, when the Custody program launched on April 15, 2022, Celsius swept assets designated for it from the customer’s “bridge” wallet into Celsius’s main wallets.

• Those were the same wallets into which deposits were made in the Earn program.

Withhold customers believed assets held in Withhold were kept separate from assets held in Earn or elsewhere within Celsius, according to Pillay.

Reality check: Celsius did not have terms of use for the Withhold accounts.

• Co-founder Nuke Goldstein said "he did not know about the existence of the Withhold accounts" until the Chapter 11 filings, and he was unfamiliar with any specifics about those accounts, according to the report.
• Celsius previously used the Withhold designation to categorize certain digital assets transformed to the platform it couldn't legally accept such as Binance's BNB token.

What we're watching: The fuller report due to be published soon that could touch on whether Celsius operated like a Ponzi.