Coinbase executives accused of cashing out $4.2 billion, relocating to Texas to seek a breakthrough?

Original authors: Decrypt, BloombergLaw

Original compilation: Yuliya, PANews

Recently, a lawsuit filed by Coinbase shareholders has once again put the company's management in the spotlight. The lawsuit accuses Coinbase executives of concealing critical negative information for years while artificially inflating the stock price to cash out billions of dollars. Meanwhile, Coinbase is planning to relocate its registered office from Delaware to Texas, citing the unpredictability of Delaware's legal environment.

This article details the ins and outs of the lawsuit involving massive insider trading allegations, past compliance and security risks, and Coinbase's latest moves in response to regulatory changes.

Coinbase Executives Sued by Shareholders for Alleged $4.2 Billion Insider Trading

The latest lawsuit filed in Delaware claims that Coinbase's leadership, including CEO Brian Armstrong and board member Marc Andreessen, sold $4.2 billion worth of stock while the company's stock price was overvalued. The plaintiffs argue that these profits constitute "lucrative insider trading."

The core allegations of the lawsuit are that Coinbase executives and investors have deliberately concealed several significant issues about the company over the years, including:

• Compliance failures: Failure to effectively implement "Know Your Customer" (KYC) and Anti-Money Laundering (AML) regulations.
• Security vulnerabilities: The company's systems are susceptible to data breach attacks.
• Regulatory investigations: The true extent of regulatory investigations into the above issues.

The plaintiffs claim that this information was intentionally concealed, leading to an artificially inflated stock price, which subsequently plummeted when these issues were exposed. They believe that Coinbase executives were already aware of these problems but chose to hide the truth and profit from it.

In a similar case, a Delaware judge heard a lawsuit against Coinbase last year, which was filed by investors in 2023, claiming that Coinbase's top management sold stock while concealing significant information, and that this was "reasonable and credible." This case is still slowly progressing through Delaware's court system.

As a result, Coinbase shareholders hope to seek billions of dollars in damages through this lawsuit, while also demanding seats on the company's board and a greater voice in the board's policies and guidelines.

Currently, Coinbase has not provided an update on its response to this lawsuit.

Lawsuit Started Two Years Ago, Coinbase Attempted to Terminate It

This lawsuit began in 2023.

The shareholder derivative lawsuit initiated in 2023 technically represents Coinbase in its claims against Andreessen, Armstrong, and other executives. The lawsuit argues that these executives chose to go public through a direct listing instead of an initial public offering (IPO) to prioritize liquidity for insiders rather than injecting much-needed capital into the company, thus selling stock when internal valuations indicated that the stock was overvalued, avoiding approximately $1 billion in losses.

These allegations essentially fall under insider trading accusations but are legally framed as breaches of fiduciary duty rather than violations of securities laws that can only be pursued in federal court. The lawsuit claims that Andreessen, Armstrong, and their allies betrayed Coinbase by profiting from selling shares when internal valuations showed the stock was overvalued. At the time, Coinbase board members explained that they chose direct listing because the company's "capital situation was very good" at the time of listing. Moreover, since the direct listing structure requires existing shareholders to sell shares into the public market, imposing a lock-up period on insiders would be counterproductive.

Subsequently, last year, Coinbase's board established a special litigation committee allegedly composed of independent directors, attempting to terminate the lawsuit on the grounds of insufficient evidence. However, Coinbase investor Adam Grabski submitted a 72-page legal brief on behalf of the shareholders opposing this motion, pointing out that the investigation process was plagued by widespread conflicts of interest.

The brief focused on committee member and angel investor Gokul Rajaram, as well as the Silicon Valley law firm Wilson Sonsini Goodrich & Rosati PC responsible for the investigation, stating that Rajaram had participated in at least 50 a16z investments over the past few years, and that the law firm Wilson Sonsini had close ties to Andreessen. During the 10-month investigation period, the firm represented a16z in 10 rounds of financing, raising $700 million. Grabski argued that in Silicon Valley's highly networked environment, expecting someone with a vested interest in Andreessen to conduct a fair investigation is unrealistic.

Another Controversy, Previously Accused of Concealing Compliance Deficiencies and Data Breaches

This is not the first time Coinbase has faced controversy for "deliberately" concealing risks.

In early 2023, Coinbase was accused of "significant failures" in its anti-fraud and anti-money laundering practices and chose to pay $100 million to settle with the New York State Department of Financial Services (NYDFS). Under the agreement, $50 million was a fine, and another $50 million was to be invested to strengthen its compliance program, such as transaction monitoring and KYC rule enforcement.

According to NYDFS at the time, Coinbase's compliance program had deficiencies that made it vulnerable to fraud, money laundering, and activities related to drug trafficking or child sexual abuse materials. Regulators found that by the end of 2021, Coinbase's systems had over 100,000 suspicious transaction alerts that had not been reviewed, causing some flagged transactions to be processed months later. At the same time, Coinbase was criticized for its KYC and customer due diligence requirements as being merely formalistic and superficial, failing to adequately fulfill its obligations. The lawsuit documents mentioned that although the leadership was already aware of these issues and was under investigation, they still issued misleading statements about the platform's safety and compliance.

In May of this year, Coinbase disclosed a significant data breach incident, where approximately 69,000 customers' sensitive information was stolen, potentially leading to losses of up to $400 million. Insiders at the platform were aware as early as January this year that hackers had obtained sensitive personal information of exchange customers, including names, addresses, partial bank details, and identification documents, through attacks on third-party customer service providers, but this was only made public months later. Although no passwords, private keys, or funds were leaked, attackers used this data to launch targeted social engineering scams against customers. (Related reading: Coinbase's Most Severe Data Leak Exposed, Outsourced Customer Service Employee Spied on Thousands of Customer Records, Selling a Photo for $200)

Looking back at this incident, the hackers attempted to send Coinbase a ransom note demanding $20 million in Bitcoin, threatening to publicly disclose the stolen customer data. However, Coinbase took a hard stance, refusing to pay the ransom and retaliating in a manner reminiscent of the movie "Ransom." CEO Brian Armstrong stated, "We will not pay your ransom." He also announced a $20 million reward for any information leading to the arrest and conviction of the attackers.

Despite Coinbase's remedial measures, shareholders believe that the significant false statements and omissions made by the company were intentional or at least reckless, aimed at artificially inflating Coinbase's stock price.

Relocating to Texas Due to Uncertainty in Regulatory Environment

Due to the growing uncertainty in the regulatory environment, Coinbase announced last month its plan to relocate its registered office from Delaware to Texas, which is more friendly to cryptocurrencies.

Coinbase Chief Legal Officer Paul Grewal (another defendant in the new lawsuit) explained that the uncertainty of Delaware's court system was the main reason for the company's departure. He stated that Delaware's legal framework once provided consistency for businesses, but recent rulings have become unpredictable.

Brian Armstrong also expressed on social media, "Coinbase has always been committed to increasing economic freedom, which has influenced our choice of state for registration. Texas has a strong culture that celebrates builders who are developing our economy and creating prosperity for everyone. They have also embraced cryptocurrency."

For a long time, American companies have chosen to register in Delaware because the state's equity courts are known for resolving corporate disputes. However, in recent years, top American companies, including Tesla and Charles Schwab, have moved to Texas in search of lower taxes and more business-friendly regulations. Tesla CEO Elon Musk even suggested in a post, "Never register your company in Delaware."