The Mt. Gox Redemption: Heading Toward a Happy Ending?
Four years after the collapse, the hacked exchange has more money than it owes to its victims.
The story of the infamous cryptocurrency exchange Mt. Gox seems to be taking a twist that could bring a relatively happy resolution to one of the most dramatic episodes in the short history of digital money. As the gates are now open for the Japan-based exchange’s creditors to file rehabilitation claims, chances are that most of the roughly 24,000 bereft patrons will eventually get their funds back and even see some returns on their involuntary, four-year long investment.
The development came along thanks to a group of Mt. Gox creditors successfully mounting an effort to pull the exchange out of bankruptcy proceedings and thrust it into an alternative legal process, known as civil rehabilitation. While some of the defrauded customers still keep pressing for criminal charges against the exchange’s former CEO Mark Karpeles personally, the bankruptcy estate funds are now managed by an independent trustee — Japanese lawyer Nobuaki Kobayashi — who oversees the civil reimbursement process.
The logic of the move is that the civil rehabilitation mode, according to Japanese law, would allow for distributing the exchange’s outstanding assets (worth more than $1.3 billion as of press time) among those who had lost their funds amid Mt. Gox’s collapse in 2014. Had it remained in the bankruptcy process, upon its conclusion, the bulk of the money would have accrued to the exchange’s shareholders, most notably the firm’s ex-CEO Mark Karpeles, who, at the time of the collapse, owned 88 percent of Mt. Gox.
Not only this would be a disgrace for the creditors — who had cumulatively lost 650,000 BTC due to Mt. Gox’s going bust — but also something that Karpeles himself would prefer to avoid.
In his 2017 interview to Reuters, the deposed Bitcoin King admitted that he would rather do his best to help creditors move the case from bankruptcy to rehabilitation than deal with a tidal wave of civil lawsuits and death threats that would inevitably descend upon him should he end up with a billion dollars he never earned.
Yet, before all the controversy, lawsuits and universal ignominy, there was a fascinating story of Mt. Gox’s success and downfall that, at various points, touched upon many titans of the cryptocurrency pantheon, and which like no other illustrates the spirit of the industry’s early years.
How it all started
Newcomers sometimes read Mt. Gox as “Mount Gox,” which is not quite correct — there is no topographical connotation to “Mt.” The domain name mtgox.com is short for “Magic: The Gathering Online eXchange," and reflects the initial idea with which the service’s founder, Jed McCaleb, had registered the website. McCaleb — right, the one who would later go on to create the Ripple protocol — conceived of a platform where the fans of then-popular fantasy game “Magic: The Gathering” could trade the game’s cards like stocks. He quickly grew bored with the idea and moved on to other projects — it wasn’t until July 2010 that McCaleb, now fascinated with the newly found concept of cryptocurrency, reused the domain to create one of the first Bitcoin exchanges.
Always in pursuit of something bigger and newer, McCaleb lasted for less than a year at the helm of Mt. Gox before selling it to Karpeles, a French developer who was looking for a place to start his big journey in the crypto world.
According to an email that would later surface in court, Karpeles learned shortly after the purchase that the exchange has already been hacked at least once, leaving a hole of 80,000 BTC on the balance sheet. Worth around $60,000 at that time, the loss didn’t seem dreadful to the new majority stakeholder and CEO — yet, over time, as Bitcoin prices caught wind, the void became ever harder to fill.
Mt. Gox sustained another major hack in June 2011, when criminals broke into the system via a compromised computer that allegedly belonged to an auditor. For a short period of time, the hackers managed to artificially set the price of Bitcoin on Mt. Gox trading platform at one cent, walking away with some 2,000 very ‘cheap’ coins. These events made Karpeles somewhat paranoid over the hacking menace and also contributed to his decision to move the bulk of Bitcoin in the exchange’s possession to cold storage.
These were serious woes, but at least they were known to Mark Karpeles. What he most likely did not realize — until some point in 2013 — was the fact that the Mt. Gox’s online deposit addresses had been compromised as early as in September 2011, when someone had stolen — probably with the help of an insider — the private keys associated with them. Having latched on the platform’s hot wallets, the hackers would go on to gradually drain the exchange’s depository, remaining unnoticed for almost two years.
Meanwhile, Bitcoin began to gain traction. Mt. Gox, powered by changes in back-end software implemented by Karpeles, won the sympathies of the exponentially growing community, which helped add thousands of new customers daily. The number of active accounts grew from 3,000 at the start of Karpeles’ term to almost 1.1 million in early 2013, propelling Mt. Gox to the status of the world’s largest cryptocurrency exchange, responsible at its peak for almost 90 percent of global Bitcoin trading.
A profile put together by Wired in the wake of Mt. Gox’s great meltdown of 2014 paints Karpeles as someone far removed from a crafty financial executive’s stereotypical image. At a time when the share of institutional money in the crypto industry and mainstream media attention afforded to it were both quite modest, it appears that it was still possible for Karpeles to run the world’s largest Bitcoin exchange in an almost makeshift manner, remaining more of a geeky developer than an organized CEO.
Many former-employee accounts highlighted inefficiencies and loopholes in the company’s organizational processes, such as a lack of any version of control software, as well as the fact that every change in source code required Karpeles’ personal approval — which was severely impeding the work of the development team.
An incident indicative of the CEO’s attitude occurred in the wake of the June 2011 hack, when prominent crypto entrepreneurs Jesse Powell, who would later become a co-founder of crypto exchange Kraken, and Bitcoin evangelist Roger Ver were summoned to Tokyo to help get Mt. Gox back online.
After several hectic days of troubleshooting, the platform was still down; yet, going into the weekend, both Powell and Ver were eager to keep on digging into the problem. Both were considerably puzzled when Karpeles failed to show up at the office on Saturday morning, telling them that he wanted to take a break.
‘Crypto heist of the century’
In this light, it doesn’t sound so incredible that Karpeles’ and his team were able to remain oblivious to the money being slowly drained from their accounts for two years. By mid-2013, Mt. Gox was stripped of almost all of its Bitcoin reserves. The Frenchman had most likely realized that there was a hole in the bottom at some point in 2013, but it wasn’t until late February 2014 that the company admitted to having lost 850,000 Bitcoin — worth around $460 million at the time and making up around seven percent of all Bitcoin in circulation.
For some time, the main puzzle around the ‘crypto heist of the century’ remained the question of where the money actually went.
A Swedish software engineer named Kim Nilsson, along with a handful of security experts — with whom he teamed up to form the company WizSec — have been subsequently credited with tracking most of the stolen coins down to the cryptocurrency exchange BTC-E. Allegedly, Alexander Vinnik, a Russian national who owned and operated BTC-E, was directly involved in laundering billions of dollars in Bitcoin — according not only to WizSec, but also a United States Department of Justice investigation. Yet, some observers were not completely convinced by the evidence presented in both reports, suggesting that some things do not seem to add up. Vinnik was arrested in Greece in 2017 and currently awaits extradition to either France (and then, possibly, to the U.S.) or Russia.
In March 2014, Mt. Gox reported that 200,000 of the lost Bitcoin have been “discovered” in the old-format digital storage used before the June 2011 hack. Effectively frozen in the bankruptcy estate for the time of litigation, the assets were steadily climbing in value — on top of the manifold increase in Bitcoin valuation since 2014, the future owners of these coins will be entitled for equal amount of the fork offshoot Bitcoin Cash (BCH) — which has now far exceeded the value of the possible victims’ claims.
But here’s the catch: According to Japanese bankruptcy rules, the claims are to be valued at the April 2014 Bitcoin market price, something around $400 million total. In order for Mt. Gox’s creditors and debtors to benefit from the rest, it was essential to start civil rehabilitation — which was approved earlier this summer.
While certainly great news for thousands of the exchange’s creditors, the development might leave some critics concerned about its potential effects on the Bitcoin market in general. As Mt. Gox’s bankruptcy trustee has already been selling sizeable chunks of cryptocurrency over the last few months, speculations surfaced that the move might have been driving Bitcoin prices down.
Mark Karpeles has spent most of his time since 2014 dealing with the fallout from the Mt. Gox’s demise — including having to move every once in a while due to death threats, serving some time in a Tokyo jail before getting out on bail (he still cannot leave Japan) and facing numerous lawsuits in multiple jurisdictions, the latest being fraud allegations brought in front of a U.S. federal judge in Illinois, which Karpeles’ defendants have moved to dismiss.
As for Mt. Gox, the eventual payouts to the victims of its collapse could mark the end of its thorny path. It will certainly remain in history textbooks as a synonym for ‘dangers of cryptocurrency trading,’ engraved in the collective memory of the whole generation of early crypto adopters. Even though Mark Karpeles once mentioned that he was considering reinstating Mt. Gox under new management, perhaps a better way for it to reincarnate was expressed by one Twitter user:
Shower thought:— Ryan Selkis (@twobitidiot) August 19, 2018
Maybe Mt Gox will come full circle, exit rehabilitation and relaunch as an NFT marketplace for Magic cards.