What the Genesis Bankruptcy Means for GBTC

January 20, 2023

The lending arm of embattled crypto investment bank Genesis filed for bankruptcy late on Thursday, raising the stakes for the wildly popular and controversial Grayscale Bitcoin Trust (GBTC).  

Genesis owes its 50 largest creditors $3.5 billion, according to CoinDesk. That includes $53 million to a hedge fund associated with ETF issuer VanEck—the VanEck New Finance Income Fund. 

Genesis halted withdrawals from its lending platform in November after the company lost hundreds of millions of dollars last year after some of the firms it lent money to went bust.  

After the company’s bankruptcy filing, investors are wondering what it means for Genesis parent company Digital Currency Group and one of its other subsidiaries, Grayscale. 

How exposed to Genesis’ losses is DCG, and could the crypto lender bring its parent company down with it? If so, what does that mean for Grayscale? 

For months, as the likelihood of Genesis’ bankruptcy grew, investors pondered these questions. The uncertainty pushed the market price of GBTC to a record 49% discount compared to its net asset value in December. 

But as bitcoin prices rallied and sentiment in the cryptomarkets improved over the past few weeks, that discount narrowed to a smaller, but still hefty 40%. 

Can DCG Survive the Demise of Genesis? 

One of the main issues is whether DCG can survive the demise of Genesis. And even if it can, what might it do to plug any holes it has in its own finances? 

This week, the firm suspended its quarterly dividend in order to “[strengthen its] balance sheet by reducing operating expenses and preserving liquidity,” according to the company statement

At the same time, DCG is said to be exploring a sale of crypto media company CoinDesk, another of its subsidiaries, to raise much-needed cash.

All of this points to a company on shaky ground that could make some big moves in the coming months.  

In addition to the sale of CoinDesk, one way for DCG is raise cash is to sell some or all of the GBTC shares it owns—some of which it purchased in 2021 and 2022 in an unsuccessful attempt to stem the widening of the GBTC discount, and others that it took ownership of when one of Genesis’ largest counterparties went under after having pledged GBTC as collateral. 

DCG currently owns nearly 67 million shares of the trust, equal to nearly a tenth of all shares outstanding, according to Bloomberg data. 

At current market prices, those shares are worth around $784 million [DCG owns another $98 million worth of shares of the Grayscale Ethereum Trust (ETHE)].  

Two factors reduce this option’s appeal. One is that regulations prevent it from selling more than 1% of GBTC’s shares outstanding per quarter. At that pace, it would take 2-1/2 years to unload its position.  

Secondly, any selling of GBTC by DCG would likely push the discount in the trust to an even wider level, reducing how much cash the company could raise with its sales. This would obviously bode poorly for GBTC investors as well. 

Other Outcomes  

An even less likely option is for DCG to order Grayscale to liquidate GBTC. That would allow the parent company to capture the full value of its GBTC position, but at the expense of forever losing its Grayscale cash cow.  

With $13.3 billion in AUM and a 2% management fee, GBTC generates $266 million in annual revenues for Grayscale. Including the $118 million in revenues from ETHE, the firm is making a cool $384 million in annual sales from just these two trusts. 

In other words, Grayscale’s perpetual revenue stream is much more valuable than the extra cash that DCG could raise from a GBTC liquidation, especially when a liquidation would almost surely cause underlying bitcoin prices to plummet, reducing the value of GBTC’s assets. 

That leaves the two most likely outcomes for GBTC: the status quo and a sale of either Grayscale or GBTC/ETHE.  

Already, two would-be suitors, Valkyrie and Osprey, have publicly declared their willingness to take over management duties of GBTC from Grayscale. These relatively small companies are long shots to purchase either Grayscale or its trusts.  

But if they were successful in their bids, it would be a boon for GBTC investors. Both firms have promised to cut management fees on the trust and seek a regulatory exemption from the SEC so that GBTC can offer redemptions, something that—if successful—would close the gap between the fund’s market price and its NAV. 

It’s the same outcome that investors would see if the SEC ever gave the green light for Grayscale to convert GBTC into an ETF. But that outcome seems unlikely in the nearterm after the SEC rejected Grayscale’s proposal to make the conversion and the firm responded by suing the regulator. 

If DCG manages to survive and keep the status quo, it would quell some of the uncertainty surrounding GBTC, but investors will be stuck at square one—waiting for an ETF conversion that may or may not materialize. 

 

Email Sumit Roy at [email protected] or follow him on Twitter @sumitroy2       

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