NEW YORK (CNNMoney)
The shutdown of Mt.Gox -- one of the world's largest bitcoin exchanges -- and the potential loss of more than $350 million worth of bitcoins is the result of abysmal mismanagement at the company.
By its own account, Mt.Gox collected only $380,450 in revenue during most of 2012. The next year, U.S. government agents seized $5 million from its accounts. Such a massive loss would cripple any business, but Mt.Gox remained open in Tokyo, taking people's cash for bitcoins.
Ever since, though, customers noticed Mt.Gox was slow to process transactions. That gave it the aura of a Ponzi scheme. You could join Mt.Gox and give it your money, but cashing out was near impossible.
Things grew worse on Feb. 7, when it halted withdrawals from its accounts. The company's computer programmers hadn't accounted for a quirk in the way Bitcoin works, allowing cyber attackers to dupe Mt.Gox with a scheme resembling receipt fraud. When Mt.Gox discovered it was under attack, it stopped any investors from pulling their money out of their trading platform.
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By the time trading at Mt.Gox was halted entirely late Monday, the price of a Bitcoin there had dropped significantly, to $130. Meanwhile it was trading for more than four times that on other exchanges.
The fact that Mt.Gox's management potentially lost all of its customers' deposits to theft is nothing short of gross incompetence. The cyberthieves would have needed to trick Mt.Gox repeatedly -- withdrawing money, faking a receipt and demanding yet another withdrawal. Now imagine doing that for a prolonged period -- unnoticed -- to the tune of millions of dollars and emptying the company's accounts.
The lack of transparency is also astounding. A company with millions of dollars is staying silent about what's going on. At most, it offers the occasional cryptic message assuring customers it's "closely monitoring the situation and will react accordingly."
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For now, Mt.Gox customers are left with more questions than answers: Was Mt.Gox really just an insolvent bank with insufficient reserves? Did it use clients' incoming funds to pay out exiting ones? And why the lack of transparency with loyal customers?
U.S. regulators won't be there to help them get their money back. Mt.Gox is based in Tokyo and isn't subject to the strict controls of Wall Street firms. It also isn't insured by the Federal Deposit Insurance Corporation, as most standard American bank accounts are.
U.S. officials like New York State's top financial regulator, Benjamin Lawsky, jumped at the opportunity to say this is exactly why more government regulation is necessary. U.S. Senator Tom Carper, who heads the homeland security committee, called it a lesson for policymakers.
Mark Williams, a former Federal Reserve bank examiner, said Mt.Gox's failure shows the risk inherent in sending your cash to Bitcoin exchanges -- most of which are located abroad in places like Slovenia and Hong Kong. There's little assurance you'll ever get that money back.
"The problems at Mt.Gox -- lack of strong controls and tight regulation -- are systemic to the Bitcoin industry. The reputational damage will spread," Williams said. "What was the largest exchange is now a collapsed tower of toxic sludge."
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Sensing the oncoming wave of doubt, several other Bitcoin exchanges and digital wallet providers sought to reassure investors by taking a harder line with Mt.Gox.
"This tragic violation of the trust of users of Mt.Gox was the result of one company's abhorrent actions and does not reflect the resilience or value of Bitcoin and the digital currency industry," the groups said in a statement.
The executives who signed the letter cast Mt.Gox's downfall as the typical industry evolution that weeds out bad actors. Tom Samson is a Bitcoin faithful in Portland, Ore., who sees Mt.Gox's failure as merely a bump in the road.
"I for one am glad to see Mt.Gox finally die. They've been giving Bitcoin a bad name for far too long," he said. "Onwards and upwards."
First Published: February 25, 2014: 5:29 PM ET
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