Reuters Special Report: Binance Deep in Financial Fog, Yet Still Trying to Boost Confidence

Original Title: 《Special Report: Binance's books are a black box, filings show, as it tries to rally confidence》

Authors: Tom Wilson, Angus Berwick, Elizabeth Howcroft

Translation by: Guo Qianwen, ChainCatcher

The world's largest cryptocurrency exchange, Binance, is struggling to boost confidence after a surge in customer withdrawals and a sharp decline in the value of its digital tokens.

The exchange stated that it processed about $6 billion in net outflows over a 72-hour period last week, "but the operation of the exchange is not affected," as its financial situation is stable, and "we take our custodial responsibilities to customers seriously." Following the collapse of rival exchange FTX last month, Binance's founder, Changpeng Zhao, promised that his company would "lead by example" in terms of transparency.

However, an analysis of Binance's filings by Reuters shows that much of the core business— the massive Binance.com exchange, which handled over $22 trillion in transactions this year—remains hidden from public view.

Binance has refused to disclose the location of Binance.com. It does not provide basic financial information such as revenue, profit, and cash reserves. The company has its own cryptocurrency but has not revealed what role it plays on its balance sheet. It lends out customers' cryptocurrency assets, allowing them to trade on margin with borrowed funds. But it has not detailed how risky these trades are, the extent of the risks Binance faces, or the full range of its reserves that can fund withdrawals.

Binance is not required to publish detailed financial statements because it is not a publicly traded company, unlike its U.S. competitor Coinbase, which is listed on Nasdaq. Industry data shows that Binance has not raised external funding since 2018, meaning it has not had to share financial information with outside investors since then.

Moreover, as reported by Reuters in October, Binance has been actively evading oversight. According to company information and interviews with former employees, advisors, and business partners, Zhao approved a plan devised by his deputy to establish a new U.S. exchange that would insulate Binance's main operations from regulatory scrutiny in the U.S. Zhao denied signing off on the plan and stated that the department was set up on the advice of top law firms.

Binance plays a significant role in the cryptocurrency market—more than half of the trading volume in the crypto market comes from the exchange—making its operations a focal point for U.S. regulators. The company is under investigation by the U.S. Department of Justice for potential money laundering and sanctions violations, with some prosecutors reportedly believing they have gathered enough evidence to charge Binance and some of its executives.

To understand Binance's accounts, Reuters reviewed documents from Binance's subsidiaries across 14 jurisdictions, which the company claims have "regulatory licenses, registrations, authorizations, and approvals." These jurisdictions include several EU countries, Dubai, and Canada. Zhao described these authorizations as a "milestone on Binance's path to comprehensive licensing and regulation worldwide."

The documents show that these entities do not appear to submit much business information about Binance to the authorities. For example, public documents do not indicate how much money flows between these entities and the main Binance.com exchange. Reuters' analysis also found that several of these entities seem to show little sign of operations.

Former regulators and former Binance executives say these local entities provide cover for the main exchange to operate without regulatory oversight.

John Reed Stark, former director of the SEC's Internet Enforcement Office, said, "They are cloaked in regulation, creating a false sense of legitimacy." He stated that Binance's operations are even less transparent than those of FTX. "There is absolutely no transparency, no confirmation of its financial condition."

Binance's Chief Strategy Officer Patrick Hillmann said that Reuters' analysis of these units' documents across 14 jurisdictions is "absolutely incorrect." He stated, "The amount of company and financial information that needs to be disclosed to market regulators is enormous and often requires a disclosure process of up to six months." He compared the exchange to the privately held Mars, Inc., stating, "We are a private company and do not need to disclose our financial condition." However, Mars later stated that comparing its management and financial reporting requirements to those of Binance is "absurd" and added that its goods and services are "highly compliant."

Hillmann also pointed out that the founder of FTX has been charged with fraud by U.S. authorities. He said that if these charges are true, "regardless of the regulations, this is fraud."

Behind the Story

Last week, Binance experienced a surge in outflows, which analysts believe was due to concerns about how cryptocurrency exchanges hold user funds and Reuters' reporting on the DOJ investigation. The exchange also halted withdrawals for some cryptocurrency tokens. Last Friday, Binance's efforts to reassure investors were thwarted when an accounting firm it hired to verify the company's reserves suspended all work for cryptocurrency companies.

Insights into Binance's financial condition can be gleaned from Zhao's public comments, past company statements, blockchain data, and venture capital transactions.

Binance has claimed to have over 120 million users. Zhao stated in June that its trading volume reached $34 trillion in 2021. He told an interviewer last month that "about 90%" of the company's revenue comes from cryptocurrency trading. He added that the company is profitable and has "substantial cash reserves." According to PitchBook data, Binance has made over 150 venture capital investments totaling $1.9 billion since 2018. Zhao also created a $1 billion fund to invest in struggling cryptocurrency companies following the FTX collapse.

However, despite publicly available trading volume data, there are few reliable estimates of Binance's trading revenue.

Binance charges up to 0.1% for spot trading, with fees for derivatives being more complex. Based on data from research firm CryptoCompare, Reuters calculated that Binance's spot trading volume for the year ending in October was $4.6 trillion, with revenue potentially reaching $4.6 billion. For its $16 trillion in derivatives trading volume, charging up to 0.04%, Binance could have earned up to $6.4 billion in revenue.

Senior analysts at cryptocurrency and blockchain companies John Todaro and independent investment advisor Joseph Edwards (both with U.S. investment bank and asset management firm Needham & Company) believe that Reuters' calculations are generally in the right range. Edwards noted that Binance's promotional activities, such as zero-fee trading and other discounts, might mean its revenue is lower. A third unnamed cryptocurrency analyst also endorsed these figures.

Hillmann did not comment on Reuters' estimates. He said, "The vast majority of our revenue comes from trading fees," adding that the exchange has been able to "accumulate a significant amount of company reserves" by cutting expenses. Hillmann stated that Binance's "capital structure has no liabilities," and the funds earned from trading fees are separate from the assets it purchases and holds for users.

Binance allows users to deposit collateral in cryptocurrency and borrow funds, amplifying the value of their derivatives trades up to 125 times. For users, this can lead to massive gains or significant losses. Hillmann stated that Binance supports all user deposits used for derivatives and spot trading on a one-to-one basis with its reserves—meaning deposits should be safe and easily withdrawable. He said that Binance has strict liquidation protocols, and if users' losses exceed the value of their collateral, their positions will be sold off. If users' positions "turn negative due to extreme market volatility," Binance has a "highly capitalized" insurance fund to cover losses. Hillmann did not provide specific details, and Reuters could not independently verify all his statements.

When asked about the scale of losses at the exchange this year, Hillmann said, "Binance's risk department manages one of the most risk-averse projects in the industry. This protects our users and our platform."

Reuters' October report indicated that Zhao, a Canadian citizen born and raised in China, guards Binance's financial information, reflecting the strict culture of secrecy he has enforced during the company's rise. This article is part of a series of reports by the news agency this year regarding Binance's financial compliance and its relationships with regulators around the world.

According to two people who have worked with him, even Binance's former CFO Wei Zhou did not have the opportunity to access the company's full accounts during his three-year tenure. Zhou, who left last year, did not respond to requests for comment.

"Full Transparency"

Zhao and other executives have consistently refused to publicly identify which entity controls the main exchange. However, in a private court document submitted to a Cayman Islands arbitration case in 2020, Chief Compliance Officer Samuel Lim stated that it is owned and operated by a Cayman Islands company, "Binance Holdings Limited."

This year, Binance has obtained licenses or approvals from authorities in France, Spain, Italy, and Dubai. Zhao praised these developments, stating in May that Binance's registration as a cryptocurrency service provider in Italy would allow it to operate "with full transparency." However, Reuters' analysis shows that the entities registered with local regulators cannot reveal the situation of the main Binance exchange.

Reuters inquired with authorities in all 14 jurisdictions about their oversight of Binance's local units. In the eight countries that responded, six—Spain, New Zealand, Australia, Canada, France, and Lithuania—told Reuters that their role does not involve oversight of the main exchange and stated that these entities only need to meet local requirements for reporting suspicious transactions.

Reuters also asked representatives of local Binance entities and affiliates about their relationship with the main Binance exchange. Only one company responded, a South African firm called FiveWest. Its general manager, Pierre van Helden, said that the Cape Town-based FiveWest receives a "minimal annual licensing fee" from Binance to provide cryptocurrency derivatives trading for Binance's South African users.

Van Helden said, "We are unclear how Binance operates globally." He added that Zhao's company is "willing to cooperate" on compliance and that FiveWest holds regular meetings to ensure compliance requirements are met.

In Italy, Binance's public company documents only detail the unit's capital base and its ownership of an independent Binance company in Ireland. The registered address of the Italian company Binance Italy S.R.L. is a shop and apartment in the southern city of Lecce. The company did not respond to requests for comment, and its registered Organismo Agenti e Mediatori agency also did not respond.

Among the Binance units analyzed by Reuters, only two provided more details in their documents.

One, a Lithuanian company named Bifinity UAB, provided the most detailed information. Bifinity described itself in a regulatory document as "Binance's official fiat-to-crypto payment provider." Fiat refers to traditional currencies like the dollar and euro.

Bifinity also disclosed that Binance and its companies are its "primary strategic business partners." In its 2021 annual report, Bifinity reported a net profit of €137 million ($145 million) and assets of €816 million. Bifinity stated that it paid €421 million to a single related party, of which about €185 million was for "related expenses," but did not specify whether this related party is Binance.

Bifinity's annual report stated that the company has 147 employees, has no website, and does not publicly provide any contact information. The company's CEO, Saulius Galatiltis, did not respond to requests for comment. Bifinity did not list its registered address in a business center in Vilnius, the capital of Lithuania, with the tenant committee.

Another Binance entity in Spain provided more information beyond basic financial details. It registered with the Bank of Spain in July and reported minimal revenue last year of about €1.5 million, with a profit of only €9,000. Reuters was unable to contact anyone at the unit Binance Spain SL for comment. A reporter visited its registered address, a co-working space in Madrid. The receptionist said a small team from Binance Spain had moved out a month ago but did not leave detailed contact information.

In the Gulf region, Binance has obtained licenses or approvals this year in Abu Dhabi, Bahrain, and Dubai. Zhao told Bloomberg in March that he would be operating in Dubai for the "foreseeable future." The documents submitted by the Binance Dubai entity did not provide details of its financial activities or its relationship with the main Binance platform.

Even for some employees within the company, such details are unclear.

According to a person directly familiar with the application, Binance did not disclose its global profit figures when applying for a license in Dubai. The person said that almost all customers in the UAE are registered on Binance's main exchange, and that the licensed Dubai company has not seen significant trading revenue at least until the end of summer.

Reuters was unable to contact the unit Binance FZE, which is registered in a WeWork office next to the Dubai World Trade Center. Binance's head of the Middle East and North Africa did not respond to requests for comment. The Dubai Virtual Assets Regulatory Authority also did not respond.

"Proof of Reserves"

Many cryptocurrency exchanges, including Binance's competitors Huobi and OKX, operate in offshore locations like Seychelles—FTX, headquartered in the Bahamas, did as well. In these jurisdictions, standards for corporate transparency and financial reporting are often more lenient than in the U.S.

The largest U.S. exchange, Coinbase (COIN.O), went public on Wall Street in 2021. Like other publicly traded companies, it is required to submit audited quarterly earnings statements and annual financial reports. In its latest financial report, Coinbase's reported data includes revenue, profit, cash holdings, and trading volume.

Mark Palmer, head of digital asset research at U.S. financial services firm BTIG, said, "There is a world of difference between the disclosures of public companies and those of other offshore exchanges."

"Coinbase is a public company that needs to share this information with investors, while we are a private company without public investors we must answer to," Binance's Hillmann said. "The main reason to go public is to raise capital, but Binance does not need to raise capital and there is currently no need to go public."

A spokesperson for Coinbase, Elliott Suthers, said the company's financial condition is reviewed quarterly by Deloitte, one of the "Big Four" accounting firms, "so customers do not have to rely solely on our word. We believe exchanges have a responsibility to share their financial condition with customers," Suthers said, "and we encourage other exchanges to do the same."

Some privately held exchanges have disclosed financial data during fundraising periods, as FTX did before its collapse. However, according to business information provider Crunchbase, Binance has not raised funds from external investors since 2018. "We have no venture capital, so we owe no one money," Zhao told CNBC on December 15.

U.S. prosecutors last week charged FTX founder Sam Bankman-Fried with defrauding equity investors and customers of billions of dollars. It was reported that funds were secretly transferred from FTX to his hedge fund Alameda Research, which deepened liquidity by buying and selling the same assets.

Reuters could not determine whether Binance or Zhao also owns any market-making companies operating on its platform. In December 2020, the SEC issued a subpoena to the independent U.S. exchange Binance.US, requesting information about its market makers, their owners, and their trading activities.

As part of a "commitment to transparency," Binance published a "snapshot" of its holdings of six major tokens on its website last month, promising to share complete data on an unspecified future date.

Data company Nansen stated that in the snapshot taken on November 10, these held tokens were valued at about $70 billion, which had dropped to $54.7 billion by December 17 after withdrawals and price fluctuations. Two dollar-pegged stablecoins—Binance's BUSD and market leader Tether—accounted for nearly half of its holdings. Nansen's data shows that about 9% of the assets are BNB, Binance's internally issued token.

Industry data shows that BNB is the fifth-largest cryptocurrency in circulation, with a market value of about $40 billion. Holders of the token can receive discounts on trading fees on Binance. Zhao has stated that Binance does not use BNB as collateral. Alameda used FTX's internal FTT token as collateral when borrowing from FTX and other lenders.

After the collapse of FTX, Zhao stated that audits of cryptocurrency exchanges do not guarantee the prevention of bankruptcy. "More audits are indeed a good thing, but I'm not sure they can prevent this particular situation," he told a TechCrunch interviewer.

Zhao stated in a meeting in April that Binance is "fully audited." When asked by the Financial Times who audits Binance's financial results and balance sheet, Zhao said the company has "multiple auditors in various locations… I don't have the list of all of them in my head."

He now advocates for so-called "proof of reserves" checks on the exchange's cryptocurrency holdings. This system should allow users to verify that their holdings are included in checks of blockchain data and that the exchange's reserves match customer assets.

Binance hired accounting firm Mazars to check its Bitcoin holdings. The firm examined the holdings as of a certain date in November. In a report on December 7, Mazars found that Binance's Bitcoin assets exceeded its customer Bitcoin liabilities. It stated that this check is referred to as "agreed-upon procedures," "rather than assurance engagements," in which auditors personally sign off on their verification of the accounts. Nevertheless, Zhao stated on Twitter, "The audited proof of reserves confirms that everything is transparent."

Mazars later removed the webpage containing the report. Its communications director, Josh Voulters, stated on Friday that it has "paused" its proof of reserves checks for cryptocurrency companies due to concerns about the public's potential misunderstanding of these reports," Voulters did not respond to requests for further details.

Seven analysts, lawyers, and accounting experts told Reuters that while this check system provides some insight into the exchange's reserves, it cannot replace a full audit.

Two lawyers stated that because the system only provides a limited snapshot of a cryptocurrency exchange, it lacks safeguards. Others believe it cannot achieve the same level of corporate financial detail as traditional audits.

Needham & Company's analyst Todaro said, "In terms of Binance's balance sheet, there really aren't many highlights worth looking at."