Terraform Labs Under SEC Scrutiny For Alleged Funds Misappropriation In $166M Law Firm Payment

According to a Reuters report, the US Securities and Exchange Commission (SEC) has raised concerns regarding Terraform Labs’ hiring of the law firm Dentons and the payment of litigation costs for its employees during the company’s bankruptcy proceedings. 

The SEC argues that a $166 million retainer payment made to Terraform Labs’s lawyers may have been an attempt to evade a potential judgment in the SEC’s fraud lawsuit against the company.

Bankrupt Terraform Labs Accused Of Misusing Funds

Per the report, Terraform Labs has transferred $166 million to Dentons since the beginning of 2023, allegedly diverting these funds into an “opaque slush fund for its lawyers.” The SEC claims this action has disadvantaged the investors and creditors seeking repayment in Terraform’s bankruptcy case.

Terraform Labs, which filed for Chapter 11 bankruptcy protection in January, intends to use the bankruptcy proceedings to appeal a December ruling that partially favored the SEC in its securities fraud case. 

A federal judge ruled that Terraform Labs and its founder, Do Kwon, violated US law by failing to register two digital currencies that significantly impacted the cryptocurrency markets in 2022.

While the exact amount of damages Terraform Labs must pay has not yet been determined, the company has expressed concern that it may exceed its available assets.

Following the bankruptcy filing, Terraform sought permission from the bankruptcy court to engage Dentons as special litigation counsel and to cover $6.3 million in legal costs for employees and external partners involved in litigation. Approximately $3.25 million is allocated to cover employees’ legal expenses, as indicated in Terraform’s court filings.

Additionally, Terraform plans to allocate around $1.33 million to sustain a lawsuit in the UK, aiming to gather evidence from a cryptocurrency trading company that could support its defense against the SEC’s claims.

The SEC argues that without increased oversight from the bankruptcy court, none of these payments should be permitted. The regulator claims that Terraform’s significant retainer payment undermines the court’s monitoring of the company’s expenditures. 

Court Battle Imminent

According to Reuters, the SEC further notes that most of the retainer payments, totaling $122 million, were made within the 90 days before Terraform’s bankruptcy filing. 

Consequently, according to the SEC, these funds could be recovered to repay other creditors, creating a potential conflict of interest between Terraform and Dentons.

Notably, the SEC alleges that Dentons should not be allowed to represent Terraform, its employees, or its vendors unless the firm returns the remaining $81 million held in the retainer account and submits future fees to bankruptcy court oversight.

The dispute between Terraform Labs, the SEC, and Dentons is expected to be addressed during a court hearing on March 5, presided over by US Bankruptcy Judge Brendan Shannon in Wilmington, Delaware. Terraform Labs and Dentons have yet to respond to this new wave of allegations, adding to the ongoing legal troubles the crypto company has faced since its collapse.

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