Five Tips to Mitigate Risk in Cryptocurrency Mergers and Acquisitions


Congratulations!

Your client just closed on the purchase of a cutting-edge, blockchainbased payment processing startup. Before this deal, you had heard of bitcoin and blockchain. But, you had never seen a company that actually accepted payment in bitcoin and other cryptocurrencies. You were a little confused by the whole idea. However, your client liked the prospect of purchasing a company that had dealt in digital assets, so you didn’t think much about it.

Arriving to the office the day after the closing, you open up your computer to learn news of a hack at one of the big bitcoin exchanges. The article explains that hackers had accessed the hot wallets on the exchange and made off with over $150 million in digital assets. News of the hack sent the price of bitcoin tumbling 15% in the four hours following the incident. Other digital assets had plunged even further. The headline jumped out at you because the company that your client just purchased used custodial wallets on the exchange to store a lot of its digital assets.

Five minutes after you finish reading the article, you get a call from your client. Sure enough, a good chunk of the digital assets that your client had just purchased were lost in the hack. To make matters worse, the new company had just lost 5 percent of its book value because of the crashing cryptocurrency market.

Volatility of Digital Assets Means Risk

The world of cryptocurrencies has matured somewhat. But, scenarios like the previous hypothetical above remain a real possibility. Indeed, 15 percent price swings in a matter of hours are still common for cryptocurrencies, also known as digital assets, especially for less established currencies. In addition to big price swings, the digital asset industry continues to face regulatory uncertainty, especially in the United States with the SEC, CFTC, FINRA and other regulators undecided about how exactly to regulate digital assets. Despite the volatility and regulatory ambiguity, for risk hungry participants, the potential for large gains has helped drive an increase in merger activity in the digital asset world during the past two years.

Acquiring or selling a company that deals heavily in digital assets presents a litigation risk. Many of the factors that increase the risk of litigation in mergers or acquisitions in the digital asset industry are outside the control of the parties to a transaction. Deal lawyers try to control for these externalities but, in the new and vibrant realm of companies who deal in cryptocurrencies, those controls can be elusive, which in turn enhances the risk of litigation.

There are, however, ways to minimize the chance of a dispute. The following are a few practical tips for transactional lawyers and litigators to help contain the risks inherent in digital asset M&As.

Of course, the foregoing is not an exhaustive list of the ways to reduce risk in digital asset M&A deals. Other terms and conditions in the transaction contracts for a digital asset M&A deal should not escape scrutiny. Representations and warranties, contract exhibits and schedules should be tailored to the deal and the nature of digital assets in play. Due diligence is also an especially important component of risk mitigation since the nature of digital assets makes for a more difficult diligence process than a traditional transaction. Regardless of which contractual provisions are used, litigators and transactional lawyers should both be aware of and understand the heightened risk of a dispute in the volatile world of cryptocurrencies and digital assets.


© Polsinelli PC, Polsinelli LLP in California
National Law Review, Volume IX, Number 283