Exposing Binance’s “Achilles’ Heel”? A look at Binance’s decentralized global operational model from the SEC lawsuit documents

Uncovering Binance's weakness: Analyzing Binance's worldwide decentralized operations in SEC lawsuit files.

Author: BlockingBitpushNews Asher Zhang

Recently, the lawsuit filed by the SEC against Binance and Coinbase has caused a stir in the market. On the morning of June 6, CCTV-2 also reported on this matter. In response to the SEC’s allegations, Binance seems to be determined to fight to the end. First, Binance’s official US account posted a post in response to the news; then, Binance founder CZ personally publicly challenged: “Who protects you more? (Who protects you more?) Is it Binance or SEC?” The battle between the cryptocurrency market and the SEC can be described as heated.

As the “fury” rises, under the noise, many arguments have become more and more meaningless. This article tries to set aside some of the more controversial issues and focus on some interesting topics by analyzing some data and dialogues that are closer to facts. For example, through the SEC documents, we seem to be able to figure out the mysterious mode of Binance’s decentralized global operation; and in the SEC’s 136-page indictment, what is Binance’s biggest weakness? Did the United States sue Binance just for staring at a Binance.US?

Under the uproar, looking at Binance’s mysterious operation from the SEC’s lawsuit documents

As the world’s largest cryptocurrency exchange, unlike traditional large companies, Binance does not have a well-known headquarters outside. It has always claimed to be globally decentralized, and such a huge cryptocurrency institution has been “invisible” for a long time. It is quite mysterious. Now, through the SEC’s indictment, everything seems to be becoming clear. First, let’s take a look at a picture of CZ and related companies provided by the SEC.

The above picture shows the members of Zhao Changpeng’s cryptocurrency empire more intuitively, but how does this cryptocurrency empire actually operate? According to the SEC’s allegations: In order to evade the registration requirements of federal securities laws, in 2018, Binance hired several consultants to provide US legal risk advice. Its suggestion is that Binance creates a US entity. In this plan, Binance is not only a technology supplier, but also provides liquidity and market access to the platform. This not only retains the US market, but also can obtain license fees and service fees paid by the US entity; in addition, it can also provide fiat currency deposit and withdrawal functions through the OTC service of the entity, and Binance can obtain fiat currency at any time without separately setting up a bank account; More importantly, Binance personnel can continue to operate in non-US locations to avoid law enforcement risks (asset seizure).

From the specific operation point of view, CZ created BAM Management and BAM Trading, which are controlled by it, through a series of offshore companies, and cooperated with BAM Trading through Binance to open the US entity Binance US. Specifically, BAM Trading is the operator of Binance.US in the United States, with currency transfer licenses in 43 US jurisdictions (including this district); BAM Management is the parent company of BAM Trading, and BAM Management ComBlockingny Limited in the Cayman Islands is fully owned by CZ’s CPZ Holdings Limited in the British Virgin Islands. CZ owns 81% of CPZ’s shares.

In terms of control methods, CZ and Binance mainly control Binance.US by tightly grasping the finances of BAM Trading. According to SEC documents, CZ is the CEO of Binance, and the chairman of the board of directors of BAM Trading and BAM Management, at least until March 2022. Prior to December 2020, BAM Trading personnel could not control the company’s bank accounts, including the accounts used for funds deposited by customers on the Binance.US platform. Only CZ or Binance back-end managers had signing authority for these accounts. Later, to avoid regulatory scrutiny, CZ appointed BAM Trading’s CFO as one of the signatories of customer accounts. As of May 2023, CZ still has signing authority over the accounts of BAM Trading that hold customer funds on the Binance.US platform. Before January 30, 2020, all BAM Trading expenses exceeding $30,000 required approval from CZ and Binance, including rent, franchise tax, legal fees, Amazon Web Services (“AWS”) fees, etc.

In terms of specific operational payments, CZ and Binance’s Shanghai finance team are mainly responsible for fund payments, and the BAM CEO was not informed of its financial payments, which may also be the reason why Binance has been accused of being a Chinese company, and cracking down on a Chinese crypto company seems to be a great “political correctness” for the US government, which has led to the SEC’s lawsuit against Binance being far more stringent than that against Coinbase. According to the SEC complaint, Binance’s Shanghai finance team manages BAM Trading’s payments, including transferring funds between bank accounts and depositing cash during BAM transactions. Without BAM Trading’s knowledge, Binance’s finance team can also carry out a large number of fund transfers. In June 2020, trust company B reminded the BAM CEO that internal transfers at BAM Trading had increased from about $10 million per day to $1.5 billion, but the CEO was not aware of these transfers and could not verify them because she did not have account permissions, and could only seek confirmation from Binance.

When BAM Trading’s operating funds are insufficient, it will be funded by a crypto asset trading company Merit Peak, an OTC operator on Binance.com. Merit Peak Limited (“Merit Peak”) is a cryptocurrency asset trading company registered in the British Virgin Islands, with CZ as its actual controller, and several Binance employees responsible for its business. Merit Peak is an OTC operator on Binance.com and one of the earliest market makers on the Binance.US platform. Through Merit Peak, CZ also provided more than 16 million US dollars to BAM Management to support the operation of the Binance.US platform.

In terms of market making on Binance.US, it is mainly controlled by Sigma Chain, which is controlled by CZ. Sigma Chain is a cryptocurrency asset trading company registered in Switzerland, with CZ as its actual controller, and several Binance employees responsible for its business. Among them, the Binance backend manager is also the president of Sigma Chain, and she has the signing authority for BAM Trading’s bank account. Sigma Chain is an active trader on both Binance platforms and calls itself the “main market maker of Binance.com.” After the launch of the Binance.US platform, CZ instructed Sigma Chain to become one of its first market makers. In addition, since the Binance.US platform began offering OTC and OCBS services, Sigma Chain has been one of the trading parties on the Binance.US platform.

What is Binance’s biggest “dead end”?

If the US SEC is only suing Binance and CZ, it is just a lawsuit; if only the assets of Binance.US are frozen, with the financial strength of Binance and CZ, they should be able to cope. But what if the freezing order is not limited to this? According to The Block, in addition to Binance.US, the SEC is also seeking to freeze the assets held by Binance and CZ.

The main reason why the SEC applied to freeze the assets of Binance and CZ is the two main charges in the indictment: first, before 2021, Binance’s entity accounts sent billions of dollars of customer assets to a US bank account under the name of Merit Peak, and Merit Peak transferred all these funds to trust company A, and these funds seem to be related to the issuance of Binance stablecoins (BUSD); using Merit Peak as an intermediary to transfer platform customers’ funds to purchase BUSD brought undisclosed counterparty risk to investors. Secondly, Merit Peak and Sigma Chain accounts were used to transfer hundreds of billions of dollars between BAM Trading, Binance, and related entities. For example, by 2021, at least 145 million US dollars had been transferred from BAM Trading to a Sigma Chain account, and another 45 million US dollars had been transferred from BAM Trading’s trust company B account to the Sigma Chain account. From this account, Sigma Chain spent 11 million US dollars to buy a yacht.

According to the SEC’s allegations, the core of the accusation against Binance is that it misappropriated customer funds through entities controlled by CZ, including Merit Peak, Sigma Chain, and BAM Trading. The evidence in the SEC’s possession may not be enough, so in addition to seeking a freeze order, the SEC is also asking a federal judge to order Binance Holdings, Binance.US Holdings, and CZ to provide sworn, verified accounting; and to require a Washington, D.C. federal judge to order asset recovery, expedited discovery, authorization to preserve documents and prohibit destruction of evidence, and to appoint a receiver for the assets of Binance, Binance.US, and CZ. The SEC is likely hoping to find evidence that Binance misappropriated customer funds, while Binance’s latest statement vehemently denies the allegations.

On the afternoon of June 7th, according to “Blocking” reports, Coingraph News reported that a U.S. court approved a request to freeze the assets of Binance.US subsidiaries BAM Management and BAM Trading by the SEC; the court also ordered Binance.US to return all legal currency and cryptocurrency in its account to its customers within ten days. Although the news has not been officially confirmed, it has already caused market panic. According to “Blocking” reports, DeFillama data shows that Binance US users withdrew $78 million due to concerns about the SEC lawsuit and asset freezes. Binance.US holds tokens on the Ethereum chain worth a total of $321 million, indicating that the outflow is about 24% of the current TVL. If all of the SEC’s applications are granted by the judge, the freeze order alone will be a disaster for Binance and CZ because once liquidity is frozen, there will be no user trades, and the exchange will naturally be worthless.

Long-arm jurisdiction, the SEC is targeting more than just Binance.US

From the SEC’s freeze order, it can be seen that it is unlikely that Binance will be able to simply withdraw from operating in the United States like it has in other areas. The closure of Binance.US is probably inevitable, and it is also expected that Binance and CZ Holdings will have difficulty escaping long-arm jurisdiction.

In the SEC’s complaint, the SEC alleges that CZ publicly claimed that the Binance.com platform does not serve Americans, but in fact CZ instructed Binance staff to help certain high-net-worth American clients evade controls – by changing their IP addresses through VPNs or setting up offshore companies for KYC; in addition, CZ actively solicited American investors to trade on the Binance platform through his social media and other internet posts in order to retain American investors. In addition, CZ and Binance regularly track customer activity on the Binance.com platform. In August 2019, an internal report estimated that Binance had more than 1.47 million customers in the United States; by 2019, Binance had more than 3,500 American VIP traders. According to a March 2020 internal report from Binance, Binance.com still had approximately 159 American VIP clients, accounting for nearly 70% of all VIP trading volume worldwide; more than 47,000 American investors traded BNB on the Binance.com platform from January to September 2021.

According to the SEC, from June 2018 to July 2021, Binance generated at least $11.6 billion in revenue, most of which came from trading fees. The SEC also alleges that Zhao Changpeng disregarded federal securities laws, thus amassing billions in wealth for himself. The SEC’s goal in seeking a freeze order is undoubtedly to ultimately recover enough fines.

For Binance, while we all know it is one of the most profitable exchanges, the question remains whether it can withstand the SEC’s “heavy blow.” In addition, on June 5th, the Silver Miller law firm and the joint lawyers Kopelowitz Ostrow filed a class action lawsuit against Binance and its BAM Trading for allegedly profiting from transactions involving stolen cryptocurrencies. On June 7th, the Korean financial regulator stated that it had suspended the acceptance of change reports related to the appointment of Binance executives due to the SEC lawsuit. In the future, will the SEC’s actions be emulated by other “crazy” governments in impoverished areas? The domino effect seems to be unfolding.