In early August 2020, a cryptocurrency investor got an email from his sales representative at Cred, the crypto lending firm he’d invested a few Bitcoin in several months earlier. The sales rep was offering a tantalizing new deal: Cred would pay its bigger clients “interest in-kind” at hefty 9% rates on their Bitcoin investments, but only for a limited amount of time—and for a limited number of clients willing to shell out cryptocurrency worth six figures in U.S. dollars.
The investor, an airline pilot who asked to be identified only as “D,” had been burned by high-yield crypto offers in the past; he had even lost money to BitConnect, a meme-spawning cryptocurrency Ponzi scheme. But D saw Cred as a, well, credible opportunity.
The company was based in the U.S., D says, so he wasn’t worried about “running afoul of some type of regulatory thing.” The high yields Cred was offering weren’t so different from what similar companies, like Celsius and BlockFi, were paying at the time, so that didn’t raise any red flags. Indeed, many crypto businesses were lending customers’ cryptocurrency out to other investing firms at high rates. What’s more, Cred’s cofounders, Daniel Schatt and Lu Hua, used to work at PayPal, as did CFO Joseph Podulka, which burnished Cred’s reputation in D’s mind. Everything seemed legit, and D went for the new offer.
What D didn’t know was that by the time he accepted that offer, Cred was already experiencing a storm of financial problems. Just after a sharp crypto crash in March of 2020, Cred had learned it would be unable to recover millions in U.S. dollars it had loaned to the Chinese microlending company MoKredit—which was also owned by Cred cofounder Hua, a relationship that created an apparent conflict of interest.
It was also looking unlikely that Cred would ever see the roughly 800 Bitcoin—a sum worth around $7 million at the time—that it had transferred to QuantCoin between February and April 2020. QuantCoin was supposedly an asset management firm that had been introduced to the company by its Chief Capital Officer, James Alexander. Alexander was later revealed to be an escaped fugitive from the U.K., where he’d been imprisoned for financial crimes—and there’s no conclusive evidence to suggest that QuantCoin ever actually existed.
These mounting financial woes, among others, were invisible to D and his fellow Cred users at the time. But they ultimately caused Cred to file for Chapter 11 bankruptcy protection in November 2020. When Cred submitted that filing, it meant that D officially lost access to hundreds of thousands of dollars’ worth of crypto. And thousands of other customers (Cred previously reported “100,000+ customers” with 6,600 “active users”) collectively lost millions more.
The MoKredit and QuantCoin affairs are just two of the many examples of problematic activity that Cred executives have been accused of by their creditors and customers. Many of the accusations first came to light in a March 2021 report by an examiner that the U.S. Bankruptcy Court in Delaware appointed to investigate Cred’s Chapter 11 filing. Per that report, Cred brought in more than $135 million in currency either borrowed from or invested by clients, through its CredBorrow and CredEarn programs, between December 2018 and October 2020—all while promising those customers insurance that Cred never actually had.
According to the Examiner’s Report and a lawsuit filed in December 2022 by the Cred Liquidation Trust, a body made up of customers who lost money when Cred filed for bankruptcy, Cred and its chief officers indulged in a range of deceptive practices. Those include deals laden with conflicts of interest, self-enrichment schemes, messy accounting, and repeated failures to perform adequate due diligence on both the entities to which it loaned cryptocurrency and the people it hired—particularly the fugitive Alexander. (Schatt could not be reached for comment for this story. In 2021, when the bankruptcy examiner’s report first came out, he told Wall Street Journal in an email that Alexander provided false information for Cred’s hiring background check).
Some of these allegations no doubt sound familiar to anybody who follows crypto scandals: After all, some of it comes from the same playbook that Sam Bankman-Fried is accused of using at FTX. But Cred’s troublesome actions flew under the radar when the company filed for bankruptcy two years prior to FTX’s meltdown. Indeed, the bankruptcy process may have helped Cred’s founders postpone legal reckoning for their alleged misdeeds and mistakes, or so the Cred Liquidation Trust is alleging. While Bankman-Fried languishes under indictment for fraud, Cred’s former executives were free to start new businesses—some even working together to launch a brand-new company that looked a lot like a product the team had allegedly been creating at Cred, called Earnity.
Started by Schatt, Podulka, and former Cred Chief Technology Officer Daniel Goldstein, Earnity let users buy, sell, and send cryptocurrencies in a social media framework. The lawsuit by Cred’s Liquidation Trust alleges Earnity was built on Cred's intellectual property that rightfully belongs to the trust due to Cred’s bankruptcy. If that allegation is true, the IP didn’t fare any better the second time around: As of this spring, Earnity too is defunct.
In a March court filing responding to the Liquidation Trust’s allegations, Earnity and Domenic Carosa, one of Earnity’s cofounders, denied that Earnity stole Cred's IP. In an email, Carosa shared this statement provided by Earnity legal counsel: “The assertions made against Earnity are categorically false and designed to extract money from what was a simple hiring of former Cred talent,” said Daniel M. Glassman, an attorney at K&L Gates LLP. “Earnity has a completely different business model and IP that remains entirely unrelated to Cred and will continue to cooperate transparently with the Bankruptcy Court.”
In dollar terms, Cred’s collapse was small compared to those of other headline-grabbing crypto players. But it was one of the first such wipeouts—and multiple sources who spoke with Fortune called Cred the “canary in the coalmine” that should have sounded the alarm for those investing with other crypto-lending companies—and for regulators trying to figure out how to oversee such companies. Of course, several higher-profile crypto companies filed for bankruptcy long after Cred did, each after losing millions or billions of dollars of their clients’ money due to duplicitous behavior and/or irresponsible business practices; those fallen companies include Voyager, Celsius, Three Arrows Capital, BlockFi, and, of course, FTX.
For his part, D expresses frustration that the U.S. regulatory framework hasn’t “looked after me” and other Cred customers, but rather “waited until the smoke [was] billowing” from larger debacles like the FTX case to take swift action. D’s additional August investment in Cred left him feeling “pickpocketed, or smashed and grabbed on an individual, targeted basis,” he says. “I believe it was a completely fictitious opportunity…Whoever directed [my sales rep] to make that sales pitch knew that there was a giant hole they needed to try and fill, but they were gonna get the Bitcoin any way they could.”
The Cred Liquidation Trust alleges to Fortune that Cred deliberately concealed its financial problems from customers, saying in a statement, “Cred cynically exploited the bankruptcy process to buy time to work on its exit strategy to the cost of thousands of unsecured creditors of Cred.” This extra time not only silenced the canary, so to speak, but also let Cred executives take more of their customers’ money, all while allegedly working on a new business that would do nothing to reimburse their customers’ massive losses. Crypto deposits, meanwhile, don't typically receive the legal protections that kick in to protect assets when traditional banks or brokerages go bankrupt—which means that D and his fellow Cred customers may never recover their money.
The brief, chaotic history of Cred
Cred “felt like a traditional startup” around summer 2019, according to one former Cred employee who joined the company around that time, and who spoke with Fortune on condition of anonymity. It had an office in San Mateo, California, where employees would gather for weekly meetings to plan new marketing initiatives. It advertised on the widely used, cloud-based asset platform Uphold, through which it attracted new customers who could invest with Cred directly through the platform (and whose website today boasts, “We never lend out your money, so you’ll always have it available to withdraw”).
But around the start of COVID-fueled lockdowns in the U.S., when employees began working from home, “information started to flow less freely” from Cred’s executives, the former employee says. “It started to be like a black box.”
This was around the time Cred’s troubles started becoming apparent to its executives. Cred’s leaders have pinned the root of its failure on a brief downturn in the crypto markets in March of 2020. The bankruptcy examiner’s report, however, alleges that “the firm’s failure is more aptly attributed to dereliction in corporate responsibility.” It should have foreseen market fluctuations in its industry, the report argues, and was not careful with its accounting, mostly using Microsoft Excel and Google Sheets to track millions in customers’ funds.
By March 2020, about $38 million had ended up in China via Cred’s loan to Hua’s MoKredit. Hoping to make up for losses at the time as cryptocurrencies’ values sank, Cred attempted to recall $10 million of that loan—to no avail. MoKredit said it couldn’t pay back the loan, and Cred had no legal resource to retrieve those funds from a firm based in China. This was a major problem, because MoKredit was one of Cred’s biggest loan recipients. And that fact also represented an alleged conflict of interest because Hua, along with Schatt, was one of only two members of Cred’s board of directors; he owned 50% of the company’s equity.
With MoKredit unable to pay back Cred’s loan, Cred says Hua personally loaned Cred 300 Bitcoin to help keep the company afloat. The Examiner’s Report, however, says he actually paid for “an aggregate of 5,000,000 shares of Class B common stock” in Cred Capital—which Alexander, the financial-crimes fugitive, told Cred’s bankruptcy examiner was directed by him at the time. (Hua could not be reached for comment for this story; he told Cred’s bankruptcy examiner “that he did not show the document to an attorney before signing it and did not learn that what he had signed was an equity agreement until several months later.”)
From there, the company’s irresponsible dealings kept unraveling. Listing them all would frankly take up too much space, but the examiner’s report alleges that many of the problems came down to poor due diligence and conflicts of interest. For example, Cred’s investment with QuantCoin, done at Alexander’s recommendation in February 2020, according to the examiner’s report, started looking overtly sketchy by that June. After reporting months of gains on Cred’s investment, QuantCoin representatives became increasingly elusive until emails to them went “undelivered” by early August. Later that month, Cred executives learned their QuantCoin contact was a fraud, and they wouldn’t be seeing the 800 Bitcoin sent to QuantCoin again.
Though Alexander was ultimately terminated from Cred in June 2020, he managed first to allegedly abscond with 225 of the company’s Bitcoin, sent to his personal wallet. (Alexander appears to have gone underground, and Fortune was unable to reach him for comment.) Overall, Schatt has stood by the competency of Cred’s security and operations, per the Wall Street Journal, and says Alexander contributed “significantly” to the company’s problems. But Schatt was also implicated in the Examiner’s Report for contributing to Cred’s downfall. For instance, he served as a director at Uphold during the time that asset trading platform had partnered with Cred. The Trust alleges that Uphold “drove thousands of…current and prospective retail customers to lend cryptocurrency to CredEarn” by falsely promoting it as “secured” and “insured,” and that Uphold ultimately profited from that promotion.
In an email to crypto news outlet CoinDesk, Schatt said he was “an unpaid Board Member at Uphold with no equity or other renumeration” and “left the Board in October 2020”; Uphold says Schatt was removed from the board. The Trust sought at least $783,946,276 in damages from Uphold, but the lawsuit was dismissed in April 2023. “This dismissal is now being appealed by the Trust,” the Trust told Fortune.
All the while, to customers, everything seemed copacetic. Cred customer Dan Becker says that when he transferred 22 Bitcoin (worth just above $150,000 at the time) to Cred in July 2020, he “had no inclination of trouble,” nor did he until a few weeks before the company declared bankruptcy months later. The former Cred employee, meanwhile, says Cred higher-ups had encouraged their sales representatives to keep pushing investment opportunities to clients.
“If they continue to solicit investments and otherwise operate as if everything was hunky dory, then that might open them up to allegations of fraudulent behavior, which would be cognizable in the bankruptcy court,” says Anthony Sabino, a law professor at St. John’s University in New York. “That qualifies as an omission.” But that’s not the only issue former Cred executives would potentially face.
Rising again at Earnity
Ultimately, Cred announced its bankruptcy to customers in November 2020. Geoff Goodman, co-chair of bankruptcy at the law firm Foley and Lardner, who has represented some Cred creditors, says that the declaration should have resulted in a “burial.” The former company didn’t have much by way of assets to sell off—just its IP and some office equipment, which should be owned by the bankruptcy estate. The lawsuit the Trust filed in December 2022, however, alleges that some former Cred executives were using both the IP and the office gear in creating their new company, Earnity.
Per the December 2022 filing, Cred hired new software developers just before filing for bankruptcy, and allegedly had them “quietly” building Earnity, which operated at a location very close to Cred’s old office. The Trust alleges that Schatt and former CFO Podulka “conspired” with a potential Cred buyer—Carosa, one of Earnity’s cofounders—to take IP developed at Cred and use it at Earnity.
How did the bankruptcy filing fit into the Earnity plan? As the Trust’s lawsuit states, “When it became clear that bankruptcy was inevitable, Cred’s plan was to focus on restructuring the company so that it could emerge from bankruptcy centered around the new platform it was developing. However, Cred’s senior executives—including [Schatt, Podulka, and Goldstein]—had other ideas. They wanted to take Cred’s new platform for themselves.”
In other words, the Trust alleges that some Cred executives bided their time filing for bankruptcy in part so they could start working on Earnity, even when they knew Cred was doomed. Those executives knew that bankruptcy was inevitable, the Trust claims: They knew that Cred’s “liabilities exceeded its invested and current assets by approximately $19.5 million,” per a June 2020 memo circulated by Schatt to his management team. Instead of working on selling what was left of the bankrupt business to pay back customers, those former Cred executives allegedly worked on using the remains of that business to start a new one that would benefit them alone, per the Trust’s December 2022 lawsuit. That suit cites moves like Cred hiring new developers just before filing for bankruptcy and internal discussions about the next iteration of their work.
Earnity’s outlook did initially appear brighter than Cred’s. In late 2021, Earnity raised $15 million in a Series A funding round led by BitNile Holdings, a cryptocurrency mining company owned by holding company Ault Global. Thanks to BitNile funds, Earnity’s name appeared in large font across the vehicle of IndyCar racer Conor Daly in February 2022—a bold announcement for an exciting new crypto company. However, it, too, would ultimately fail after courting customers’ crypto—BitNile “withdrew their funding at the last minute,” Carosa tells Fortune. Carosa did not say why BitNile pulled funding, but the company has lately been experiencing struggles of its own, having had to pull 6,572 of its mining rigs from a facility Texas in February.
While operational, Earnity’s marketing rang alarm bells for those formerly burned by Cred, whether or not it was using the bankrupt company’s IP.
“I'm going to be honest, I saw that Dan was starting a new company and I was infuriated,” says the former Cred employee. “I was in shock…you've already proved that you aren’t capable of running an ethical and responsible company…that should disqualify you from doing that again.” It looks like Schatt proved his former employee right.
Why we didn’t hear the canary’s song
The many parallels between Cred and other crypto lenders that have filed for bankruptcy sum up why Cred should have been the “canary in the coalmine.” Lawyer Goodman describes it as a “hybrid” of multiple high-profile crypto bankruptcy cases.
“You had customers entrusting money to Cred that they believed was safe,” he explains, as Cred claimed to act like a “broker dealer or a Futures Commission merchant or a bank”—not to mention that they falsely promised customers that their assets would be insured. (“We were completely misled on that,” says the former Cred employee, who says he had extended such promises to customers.) Instead, the money went, in some cases, to “unsavory characters, [or] insiders absconding with [it],” adds Goodman. And like at FTX, Cred executives also operated other entities through which they comingled, and ultimately lost, customers’ funds, as outlined in the chapter 11 bankruptcy Examiner’s Report.
Chapter 11 is a broad law, applicable to individuals and large entities, focused on reorganizing a bankrupt business in a way that’s in the best interest of its creditors and overseen by the court. “It's sort of one-size-fits-all,” says G. Ray Warner, law professor at St. John’s University. “Honestly, Chapter 11 works best if we have a real company with a real business, and we're trying to save that value in the business by keeping it running.” Cred couldn’t boast many real assets when it filed for bankruptcy. Continuing to run Cred seemed a less likely option than liquidating or selling, but the time it’s been taking to do either has frustrated former customers.
“I think it's not controversial to say the bankruptcy court is entirely not fit for the demands of the modern world,” says Kyle Wang, a former Cred customer and member of the Trust Advisory Board. He and other former Cred customers note that the speed of these proceedings doesn’t align with what they’re accustomed to in Web3. “In crypto, it's 24/7. We're used to speaking all the time,” he adds. “That proved to be a challenge to some of the parties we retained, because they weren't used to this expectation.”
Cryptocurrency’s volatility presents another challenge in bankruptcy court. With values of currencies changing rapidly, creditors may not get paid out the amounts they expect. It can also be particularly expensive to locate the various assets in a crypto case, Florida-based bankruptcy lawyer and cryptocurrency specialist Alan Rosenberg says. “But the challenges presented are really no different than if someone has a bunch of cash.”
Those are just the challenges if you’re not dealing with alleged illegal activities. Some recent big crypto company bankruptcies, like FTX and Voyager, are “not normal bankruptcies,” says Warner. “These look a lot more like the fraud bankruptcies.” As the FBI’s website puts it, “Often, financial fraudsters use bankruptcy filings to prolong their illegal white-collar schemes—buying time before the game is up for good.”
Crypto moves so fast that even though bankruptcy courts tend to move faster than other courts, the delays involved can still give bad actors plenty of time to make moves.
As one former Cred customer alleges on background, Cred executives used the bankruptcy filing to assert that losing their clients’ money was the result of honest mistakes, which would mean it shouldn’t stand in the way of them helming a new, different operation. Past bankruptcies, after all, don’t preclude the filers from starting a new business, as long as it truly is novel and not using IP or other assets from the bankrupt business.
While bankruptcy doesn’t disqualify a CEO from starting another company in the same industry as the one that went bankrupt, “they're not allowed to take the assets of the existing business and use them inappropriately in the new one,” says Warner. They can, however, use general knowledge gained via the old company and personal relationships—which is essentially what Earnity, in response to the Cred Trust’s lawsuit, had said it was doing.
Per Sabino, the law professor, bankruptcy court “is the worst place to be if you are a criminal…engaged in fraudulent or illegal activities.” In Cred’s case, the bankruptcy judge already knows all the details of their allegedly sketchy dealings—which is perhaps why as of March, Earnity’s lawyers were pushing to move the case out of bankruptcy court and into a federal district court, per the company’s March filing—shortly before Earnity closed its doors.
To prevent the ongoing pattern of mammoth client losses in the crypto industry, experts like Sabino suggest more regulation. “We've got to weed out the bad guys, so maybe it's time to really consider a self-regulatory model,” he says, like that used by the stock market
What happens next?
According to several Cred creditors, the Department of Justice is beginning to investigate the failed company. “The DOJ has spoken to some former employees,” Trust advisor Wang says. The Trust also tells Fortune it “has reached a number of confidential settlements with recovery targets.” The DOJ did not respond to Fortune’s request for comment.
Meanwhile, the Cred Trust filed a joint status letter with Earnity in June, in which Earnity defendants agreed to notify the Trust if they “intended” to sell or transfer any of Earnity’s remaining assets and to “place the proceeds of any such sale or transfer in escrow pending the resolution of this action.” Confidential negotiations remain ongoing. Carosa says he’s been appointed as “as Provisional Liquidator of Earnity,” and adds that “customer funds (crypto and cash) are with a third-party USA-regulated custodian [Trust Charter Company] as per the original Earnity business model that never co-mingled business and customer funds.”
Either way, damage has been done. Former Cred executives already opened and closed a whole new business, showing how companies in the crypto industry are often built on a house of cards. Earnity after all, was founded by executives who’d already failed at one endeavor, and promised funding by another, BitNile, that couldn’t deliver. All this even as Cred’s customers and creditors go unpaid. D, the airline pilot, says he would have purchased his house and paid for both his kids’ college educations with the funds that Cred lost. “I thought the whole idea was that the system [would] go to bat for the people who were injured,” he says, reflecting on the legal response to Cred going under. “It doesn't feel that way.”
