THE BITGRAIL EXCHANGE RULING: A WIN FOR CRYPTOCURRENCY EXCHANGE USERS

Nearly one year after Francesco Firano, the owner and operator of the Bitgrail cryptocurrency exchange, announced that the exchange had lost 17 million NANO (approximately $ 170 million), an Italian Bankruptcy Court and a court-appointed technical expert concluded that Mr. Firano (“The Bomber” as
Mr. Firano called himself on social media) was at fault for the loss and is required to return as much of the assets to his customers as possible. The ruling is a landmark decision that sets an important precedent for the protection of cryptocurrency users worldwide.

In its decision, the court concluded that both Bitgrail and Mr. Firano, personally, be declared bankrupt, authorizing seizures of many of Mr. Firano’s personal assets. So far, authorities have seized over $1 million in personal assets, including Mr. Firano’s car. Millions of dollars in cryptocurrency assets have been seized from Bitgrail’s exchange accounts and moved to accounts managed by trustees appointed by the Court.

The Court has appointed several trustees to assist the victims and the Court receive the victim’s claims and distribute the remaining assets equitably. I am working with the trustees to establish an efficient process for communicating with the victims and receiving their claims.

The Court’s Decision

In its decision, made public on January 21, 2019, the Court found that the NANO reported lost by Mr. Firano on February 9, 2018, had actually been removed from the exchange months earlier, between July 2017 and December 2017.

The Court criticized Mr. Firano for not immediately taking steps to account for the losses. By waiting to make the shortfall public, Mr. Firano caused the public to suffer substantially larger losses. In July 2017, 2.5 million NANO was valued at approximately $250,000 (1/100th of the value it had in February 2018 when Mr. Firano went public).

As for the mechanics of the loss, the Court concluded that the exchange had failed to implement any meaningful safeguards to ensure the “idempotency” of NANO withdrawals from the Bitgrail exchange. An idempotent action is an operation that may only be performed once and if performed again will yield
the same result.

The failure of Bitgrail to implement idempotent NANO withdrawals permitted users to request a withdrawal using the BitGrail software and under certain circumstances receive the requested amount more than once. The court appointed expert concluded:

Case Background and Other Court Findings

The Court found that in July 2017, 2.5 million NANO were lost by the exchange. The Court noted that Mr. Firano had been aware of these unauthorized withdrawals almost immediately after they occurred
and found that Mr. Firano had reported on Twitter in late July 2017 that he had blacklisted accounts connected to the unauthorized transfers.

The Court reported that three months later, in October 2017, another 7.5 million NANO had been improperly removed from the exchange. Again, Mr. Firano took no meaningful action.

In December 2017, Mr. Firano converted his exchange’s central wallet into a cold wallet and began intermittently closing the exchange to the public. In January 2018, Mr. Firano transferred ownership of Bitgrail from a sole proprietorship, Webcoin Solutions, to Bitgrail S.r.l., a limited liability company.

The Court disclosed that the Italian Criminal Prosecutors, who have been investigating Mr. Firano in connection with his operation of Bitgrail, reported to the Bankruptcy Court that between February 2nd and February 5th, 2018 — days before Firano would make his public announcement about the 17 million NANO loss — Mr. Firano had deposited a total of 230 Bitcoin (approximately $ 1.8 million) in a personal account on a BTC-EUR cryptocurrency exchange called The Rock Trading. Mr. Firano had also attempted to make withdrawals from ATM machines linked to his Rock Trading account(These assets have since been seized and are held securely with the court appointed trustees).

Bitgrail closed NANO withdrawals for the final time on January 28, 2018. Two weeks later, on February 9, 2018, Mr. Firano released a short public statement in which he disclosed that Bitgrail had discovered a “shortfall” of 17 million NANO.

During February 2018, I opened a Discord channel where many of us (the claimants) gathered to plan legal action. I collected a list of Bitgrail claims, numbering in the thousands. With the information provided by the claimants, as well as interest from some in funding the effort, I traveled to Italy to meet
with the best law firms in the country.

On February 18, 2018, Mr. Firano hosted a poll as to whether Bitgrail should reopen or declare bankruptcy. 79% of the more than seven thousand votes cast opted for Bitgrail to declare bankruptcy. Mr. Firano ignored this advice.

Instead, on February 20, 2018, Mr. Firano announced that he would refund users 20% of their funds if they agreed to sign a waiver foregoing any legal action against him. Mr. Firano further announced a plan to reopen the exchange and release a new token (Bitgrail Shares), which he would use to reimburse the victims over time. The community of victims, for the most part, believed this to be an attempted scam.

By April 2018, leading Italian law firm BonelliErede had been retained to investigate the Bitgrail insolvency and to take legal action on behalf of the victims. We also had success with contacting the Nano Foundation, and they agreed to establish a legal fund, as well as match donations to the fund up
to $1 million.

On April 26, 2018, bankruptcy petitions were filed on behalf of the victims. Shortly thereafter, the Public Prosecutor’s Office of the Court of Florence intervened in the proceedings, asking the Court to declare both Bitgrail and Mr. Firano bankrupt. They argued that it did not matter whether the cryptocurrency deposits on the Bitgrail exchange were considered “regular” or “irregular”, either way Mr. Firano had a fiduciary duty to act as the custodian of the funds.

Under Italian law, a regular deposit is one in which the customer’s deposit may not be used by the person or company it is deposited with (the depository), such that when the customer asks for the goods back they are given the same goods they deposited (for instance, items in a bank safety deposit box).

If the regular deposit is lost through no fault of the depository, the depository is released from the duty to return the goods. An irregular deposit, on the other hand, is one in which the customer’s deposit may be used by the depository and the customer is entitled to receive an equivalent value back (such as currency deposited in a bank account).

Since the depository is entitled to use the irregular deposit (for instance, to make bank loans), they take ownership of the deposit and are responsible to return an equivalent amount back to the customer in the event of a loss.

Mr. Firano argued that his exchange was a mere provider of services and that the currencies deposited on the exchange were “regular” since he could not freely use the deposited currencies. Bonelli argued that the deposits were “irregular” because they were fungible assets that the exchange could move
between accounts and the exchange’s only duty was to return an equivalent amount of currency upon request by the customer.

Given that Bitgrail moved its customers funds into Bitgrail accounts, to which its customers did not retain private keys, the Bankruptcy Court declared the deposits on the Bitgrail exchange to be “irregular.” Accordingly, the Court concluded, “BG acquired ownership of such fungible assets and was
required to return an equal number of assets of the same kind.”

But the Court did not stop there. The Court stated that even if the deposits were considered “regular,” Mr. Firano was liable for the damages suffered by the victims because “the losses originated from Mr. Firano’s conduct” and as a custodian “Mr. Firano also failed to promptly report to the depositors the
circumstance that he had lost some of the assets.”

This conclusion to the Bitgrail saga is both a huge win for crypto users — for whom standardized legal protections are still a work in progress — and a cautionary tale for cryptocurrency exchange owners, who have been provided with a clear example of how not to run an exchange or handle a loss of funds.
Hopefully, we will see less of these thefts occurring in the years to come.

Click here to read the Bankruptcy Division document

Click here to read the Bankruptcy Court’s decisions