Coinbase in a "power struggle" with shareholders? Executives accused of cashing out billions, fleeing Delaware due to regulatory uncertainty.

Original text: Decrypt, BloombergLaw

Compiled by: Yuliya, PANews

Recently, a lawsuit filed by a Coinbase shareholder has once again put the company's management team 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 registration 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, previous compliance and security risks, as well as the latest developments in Coinbase's 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 share price was inflated. The plaintiffs argue that these profits constitute “lucrative insider trading.”

The core allegation of the lawsuit is that Coinbase executives and investors have deliberately concealed several significant issues concerning the company from the outside world for many years, including:

• Compliance failure: Failure to effectively implement “Know Your Customer” (KYC) and Anti-Money Laundering (AML) regulations.
• Security Vulnerability: A weakness in the company's system that is susceptible to data breach attacks.
• Regulatory Investigation: The actual extent to which regulatory agencies are investigating the aforementioned issues.

The plaintiff claims that this information was deliberately concealed, leading to an artificial increase in the company's stock price, and when these issues were exposed, the Coinbase stock price also fell significantly. The plaintiff believes that Coinbase executives were already aware of the relevant issues but still chose to conceal 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. The core claim is that Coinbase executives sold stocks while concealing significant information, and it was “reasonable and credible.” Currently, the case is still slowly progressing through the Delaware court system.

To this end, Coinbase shareholders hope to seek billions of dollars in damages through this lawsuit, while also demanding seats on the company's board of directors and greater influence over the board's policies and guidelines.

Currently, Coinbase has not made any latest response to this lawsuit.

Two years ago, a lawsuit was initiated, and Coinbase had wanted to terminate the litigation.

The lawsuit began in 2023.

The shareholder derivative lawsuit that began in 2023 is technically brought on behalf of Coinbase against Andreessen, Armstrong, and other executives. The lawsuit alleges that these executives chose a direct listing instead of an initial public offering (IPO) to prioritize liquidity for insiders rather than injecting much-needed capital into the company, thereby selling stocks when internal valuations indicated that the stocks were overvalued, avoiding losses of about $1 billion.

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

Subsequently, last year, the Coinbase 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 briefing focused on committee members, angel investor Gokul Rajaram, and the Silicon Valley law firm Wilson Sonsini Goodrich & Rosati PC, stating that Rajaram has participated in at least 50 a16z investments over the past few years, while the investigating law firm Wilson Sonsini has close ties to Andreessen. During the 10-month investigation period alone, the firm represented a16z in 10 rounds of financing, raising a total of $700 million. Grabski believes that in an environment like Silicon Valley, which heavily relies on transaction networks, it is unrealistic to expect a fair investigation from those who have potential conflicts of interest with Andreessen.

is once again embroiled in controversy, having been accused of concealing compliance defects and data breaches.

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

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

According to the disclosures from 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 as of the end of 2021, more than 100,000 suspicious transaction alerts in Coinbase's system were backlog and unreviewed, resulting in some flagged transactions not being processed for months. At the same time, Coinbase was criticized for its KYC and customer due diligence requirements, which were seen as merely formalistic and superficial, failing to adequately fulfill relevant obligations. The lawsuit documents mentioned that although the leadership was already aware of these issues and accepted the investigation, they still issued misleading statements regarding the platform's security and compliance.

In May of this year, Coinbase disclosed a significant data breach incident, with approximately 69,000 customers' sensitive information stolen, potentially leading to losses of up to $400 million. Insiders at the platform had known as early as January this year that hackers obtained sensitive personal information of exchange customers, including names, addresses, partial bank details, and identification documents, by attacking a third-party customer service provider, but this was made public months later. Although no passwords, private keys, or funds were leaked, the attackers used this data to launch targeted social engineering scams against customers. (Related reading: Coinbase's worst leak ever exposed insider, outsourced customer service captured thousands of customer data through phone, a photo sold for $200)

Looking back at the incident, hackers attempted to send a ransom note to Coinbase, demanding a payment of $20 million in Bitcoin, or they would publicly release stolen customer data. However, Coinbase took a tough stance, refusing to pay the ransom and launched a counterattack, reminiscent of the plot of the movie “Ransom Storm.” CEO Brian Armstrong stated, “We will not pay your ransom.” He also announced a reward of $20 million for any information leading to the arrest and conviction of the attackers.

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

Due to regulatory uncertainty, Coinbase is relocating to Texas.

Due to the gradually emerging uncertainty in the regulatory environment, Coinbase announced last month its plan to relocate its registered office from Delaware to the cryptocurrency-friendly Texas.

Coinbase Chief Counsel Paul Grewal (another defendant in the new lawsuit) pointed out that the uncertainty of the Delaware court system is the main reason for the company's departure when explaining this decision. He stated that Delaware's legal framework once provided consistency for businesses, but the outcomes of recent rulings have become unpredictable.

Brian Armstrong also stated on social media: “Coinbase has 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 driving our economy and creating prosperity for all. They have also embraced cryptocurrency.”

For a long time, American companies have chosen to register in Delaware because the state's chancery court is known for resolving corporate disputes. However, in recent years, top American companies, including Tesla and Charles Schwab, have relocated 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.”