Crypto M and A

What started out as a craze, grew into a bubble, then weathered a chilly winter before dominating the headlines again is now starting to settle into business as usual. With deal values in the crypto market more than doubling to an aggregate US$1.1 billion in 2020 (and deal size increasing 175 per cent year-on-year), transactional lawyers and deal makers may no longer claim ignorance of crypto trends and considerations. So what do you need to know to be in the know? Read on to find out.

The "what is crypto?" speedread

Crypto has become something of a catch-all term covering businesses that leverage distributed ledger technology (DLT) for a range of activities. DLT uses cryptographic methods to securely record and store data digitally. It operates in a similar way to old quill-and-ink ledgers, in that records of data (once made) cannot be amended without requiring every single subsequent record to also be amended. Therefore, the ledger can only be added to in sequence and prior records can be trusted to be “true”. To increase the trustworthiness of the ledger, it is kept not by a single person but by a network of participants (i.e. it is distributed), thereby exponentially increasing the difficulty of tampering with the records.

The particular way in which the underlying cryptographic methods are used in DLT makes it a highly attractive technology for, among other things:

• Recording transactions of all kinds, particularly payments and asset transfers
• Recording and evidencing ownership of assets (whether digital or non-digital)
• Documenting provenance and movement of goods through supply chains
• Creating and distributing fungible and nonfungible digital assets (including digital payment/currency assets)
• Recording and evidencing the occurrence of events or facts
• Providing an immutable audit trail of all of the above

Why you should care more about crypto

Putting the inflammatory news headlines and tweets aside, the crypto market is no longer the wild west of anonymous (or sometimes non-existent) persons launching get-rich-quick schemes. Yes, there are still some of those, but institutional interest and participation in the crypto market is accelerating at pace.

Why? Put simply, there is money to be made and DLT is proving to be more than just a fad. Indeed, DLT is the future of many industries – particularly finance – and a transition from current technology infrastructure to DLT-based technology infrastructure is already in progress. It is no longer enough for incumbents to watch the crypto market from a distance: they need to become participants if they are to have any chance of staying relevant.

This survival impetus is in turn driving crypto transaction volumes. Institutions are investing in and buying start-ups to acquire in-house knowledge of DLT and existing DLT applications and infrastructure, to enable them to more quickly participate in the crypto market and related activities, and to generally gain exposure to the financial upside of a growing industry segment.

This is in turn driving further creativity and innovation as institutions get more comfortable with this new technology and discover ways to leverage DLT to create new value for their businesses and new propositions for their customers.

Watercooler-worthy deals

Although overall deal activity has been slowly shifting away from the more mature US market towards Europe, the US continues to dominate the league tables particularly in terms of deal value. Below is a list of recent M&A deal highlights.

• Binance’s US$400 million acquisition of CoinMarketCap brought together the largest crypto exchange with a significant crypto asset data provider and is tied for the largest crypto M&A transaction of all time; this acquisition evidences the importance of data in the crypto market.
• Paypal’s acquisition of Israeli digital asset security firm Curv further bolstered its capability in accepting crypto-based payments; this acquisition evidences increased focus on digital asset security and storage, which will be essential to increased crypto adoption.
• Highly acquisitive Coinbase paid US$90 million for prime brokerage platform Tagomi; this acquisition evidences increased focus on improving institutional adoption of DLT by launching familiar offerings with a DLT-based flavour.
• Publicly listed CleanSpark’s acquisition of ATL Data Centers gave it access to the real estate needed to introduce renewable energy sources into its bitcoin mining activities; this acquisition evidences how some businesses are addressing the growing concerns around the sustainability and ESG impact of DLT-based activities.

Investments in the crypto market have also increased in value, although the majority of deals relate to earlier-stage companies. This is not unexpected given that the crypto market remains somewhat nascent with many new businesses seeking to fill market gaps. Series A and B rounds are raising anywhere between US$50 million and US$375 million, showing healthy investor interest in the crypto market.

Avoiding crypto M&A pitfalls

Like all industry segments, when considering a crypto M&A transaction, there are specific areas of risk that require particular attention.

Regulatory risk tops the list, as the global regulatory landscape remains fragmented and in a state of constant change, and there is no common taxonomy or treatment. A crypto business’s activities need to be looked at carefully, jurisdiction by jurisdiction, and the approach to regulatory compliance will have been well considered by experienced legal advisers.

Two particular areas of concern that fall within the regulatory risk perimeter are token-based fundraisings and anti-money laundering compliance. While most crypto businesses these days often seek out reputable legal advisers, this is not always the case and any small misstep in raising funds or marketing of crypto offerings to a globally distributed customer base without robust KYC/AML processes may open up the business to future risk. The SEC’s enforcement actions against the likes of Ripple show that even presumed “safe” historical transactions can easily come under active scrutiny and throw asset value into a tailspin.

Naturally, it is also important that the buyer or investor understands the underlying technology and how it is being used. Expertise in DLT is growing, but the list of true experts remains relatively small.

Finally, tax treatment of crypto assets varies across jurisdictions. This, combined with volatility in the valuing of certain crypto assets, means that whether a business is using or holding crypto assets could have a significant impact on its value and liabilities.