January 20, 2014
Wences Casares pulled his white Subaru Outback into an elegant, understated strip mall off Woodside Avenue, one of the main roads winding down out of the hills above Palo Alto. It was 7:30 a.m. and Wences was looking forward to his breakfast at Woodside Bakery and Café, a favorite spot for Silicon Valley deal making that provided a bit more seclusion than the restaurants down in Palo Alto.
The man waiting for him inside was often referred to as the best-connected person in the Valley, and not just because he had cofounded LinkedIn, the business-networking site. Reid Hoffman’s girth and bearing hinted at his larger-than-life character. After studying at Oxford, on an elite Marshall Scholarship, Hoffman had been brought in by Pete Thiel to help build PayPal—Thiel called him the “firefighter-in-chief.” Hoffman later introduced Thiel to Mark Zuckerberg, an introduction that led to Thiel’s making the first major investment in Facebook. By that point, Hoffman had already begun building LinkedIn with some colleagues from an earlier startup. When Wences first met Hoffman, not long after arriving in Silicon Valley, Hoffman was looking for new investments and serving on the boards of startups. The breakfast at Woodside Café was one of their periodic check-ins. Wences was finalizing the investments in his new company, Xapo, and was eager to tell Hoffman about his plans.
Wences knew that Hoffman had first gotten hooked on Bitcoin by Charlie Songhurst, who had, in turn, gotten hooked on Bitcoin by Wences at the Allen & Co. event in 2013. Hoffman, an expert on social networks, had been captivated by Songhurst’s arguments about the power of the incentives built into Bitcoin—primarily through the mining process—that encouraged new users to join the decentralized network while also encouraging powerful miners to do what was best for the system so as not to see their holdings lose value.
“That’s actually super important,” Hoffman would say later. “That makes it less of a pure technological marvel and more of a potential social movement.”
But Hoffman had remained skeptical and was particularly put off by the suggestion that Bitcoin would replace credit cards—the possibility that all the bank research reports were talking about. Credit cards seemed to work pretty well in Hoffman’s estimation. Despite the security risks and costs to merchants, he didn’t see too many consumers complaining about their credit cards failing them. If that wouldn’t get people using this new kind of network, Hoffman wondered, what would?
Hoffman had finally gotten a satisfying answer to this at a dinner with Wences and David Marcus and a few other Valley power players late in 2013. Wences agreed with Hoffman that Bitcoin was unlikely to catch on as a payment method anytime soon. But for now, Wences believed that Bitcoin would first gain popularity as a globally available asset, similar to gold. Like gold, which was also not used in everyday transactions, Bitcoin’s value was as a digital asset where people could store wealth.
This was enough to get Hoffman to go home from that dinner and ask his wealth adviser—the Valley’s most prominent money manager, Divesh Makan—to buy some Bitcoins for his portfolio. When Wences sat down for breakfast with Hoffman at Woodside Café in January, Wences told him about the progress he was making with Xapo.
“Just to be clear, I’d be super interested in investing,” Hoffman told Wences.
Wences paused, a bit chagrined.
“I wish you’d told me that the last time we talked,” he said.
“You told me you weren’t interested in venture investing,” Hoffman shot back.
Wences explained that things had changed since they last talked, and that he had decided to take on investors and had struck a deal with Benchmark Capital.
“I just don’t think I can include you in that,” Wences said. “It wouldn’t be the honorable thing to do.”
Hoffman was not so easily deterred. He told Wences he was going home to figure out a way they could make it work. Wences said he would do the same.
Hoffman’s newfound enthusiasm was part of a broader passion sweeping Silicon Valley in early 2014. While Wall Street research reports were talking about the possibility of a new payment system, the best minds in the Valley were thinking in much more ambitious terms after looking deeply at the code underlying Bitcoin. These views were crystallized, and projected to a much broader audience, the day after Wences’s breakfast with Hoffman, when Marc Andreessen, cofounder of the investment firm that had put $25 million into Coinbase, published a lengthy cri de coeur on the New York Times website, explaining what had the Valley so worked up.
“The gulf between what the press and many regular people believe Bitcoin is, and what a growing critical mass of technologists believe Bitcoin is, remains enormous,” Andreessen explained.
Andreessen’s list of the potential uses for the technology was lengthy. It was an improvement on existing payment networks, owing to its security and low fees, but it was also a new way for migrants to move money internationally, as well as a way to provide financial services to people whom banks had left behind. Like many Valley firms, Andreessen’s was thinking about intelligent robots, and Bitcoin seemed like a perfect medium of exchange for two machines that needed to pay each other for services.
Beyond all that, though, the decentralized ledger underlying Bitcoin was a fundamentally new kind of network—like the Internet—with possibilities that still hadn’t been dreamed up, Andreessen said. He went on:
Far from a mere libertarian fairy tale or a simple Silicon Valley exercise in hype, Bitcoin offers a sweeping vista of opportunity to reimagine how the financial system can and should work in the Internet era, and a catalyst to reshape that system in ways that are more powerful for individuals and businesses alike.
Less than a year earlier, Wences had sat in Arizona with Chris Dixon, a young partner at Andreessen Horowitz who had been trying to get the firm to dive into Bitcoin. Now Andreessen himself was becoming the most outspoken public advocate for the technology, taking on a role that had previously been occupied by people like Roger Ver and Hal Finney.
Andreessen had quietly begun his investing in Bitcoin a year earlier, when he put some of his own money into the Series A fund-raising round of the secretive Bitcoin mining company, 21e6, created by the Stanford wunderkind Balaji Srinivasan. Since then, in addition to the $25 million that Andreessen Horowitz had put into Coinbase, the firm had also made a secret $25 million investment in the confidential Series B round for Balaji’s mining company. That Series B also included another $10 million from other Series A investors and $30 million more in venture debt. The best-funded company in the Bitcoin world, with $70 million, was one that only a small elite even knew about. Andreessen liked the investment in part because while he and many others in the Valley believed that venture capital firms should not buy Bitcoins outright, he thought it was kosher to invest in a mining company like 21e6 that paid out its dividends in the virtual currency it mined.
Balaji’s mining company had already started rolling out its custom-fabricated mining chips in the fall of 2013 and had quickly come to account for 3 to 4 percent of the hashing power on the entire network. In early 2014 the company was planning to pay the first dividends to investors and was building its own dedicated data center that would hold more than nine thousand machines containing the company’s custom chips.
Balaji’s promise was so great that in late 2013 Andreessen had invited him to become the ninth partner at Andreessen Horowitz, in no small part to help scout out new investments related to virtual currencies and the blockchain. Balaji was as ambitious and utopian as anyone out there about what Bitcoin could do. He believed that it could help open the door for what would essentially be new breakaway countries, created by people wanting to push technological experimentation to the limits.
For Wences, the more immediate indication of how quickly this was all moving came in an e-mail from Hoffman not long after their breakfast. Hoffman had talked with a friend at the venture capital firm Index Ventures, and together they were prepared to offer Wences another $20 million for Xapo. He could still take the $20 million he already had as a Series A, but this could be a quick follow-on—a Series A1. And while Wences’s first investors had valued Xapo at $50 million, Hoffman and his partner were ready to value it at $100 million. In little more than a month, Wences had doubled the value of his company.
STANDING BEHIND THE black bar, Charlie Shrem opened a fridge under the liquor and pulled out two beers, a Blue Moon for himself and an Amstel Light for Nic Cary, the chief executive of Roger Ver’s company Blockchain.info, who was in New York on a business trip. The bar, EVR, was closed, but Charlie lived right upstairs and had all-hours access thanks to his investment a year earlier. His girlfriend Courtney, who now lived with him, stopped by to see if Charlie needed anything.
Charlie looked noticeably more weathered than he had the previous summer when he shut down the BitInstant site. He had shaved off his youthful curls and grown a scruffy beard that matched his bushy eyebrows. None of this, though, signaled defeat. Charlie was, in fact, benefiting as much as anyone from the rising interest in Bitcoin. He had taken on a role as an unofficial money changer for some of the big holders of Bitcoin, allowing them to sell large blocks of coins without going on an exchange, where big sales could move the price.
More important, Charlie had managed to connect with a new group of investors who were looking at putting up money so that Charlie could reopen BitInstant. The potential investment was a complicated deal, providing a way to pay off the legal bills from the previous summer while also giving the site a more simple regulatory structure moving forward.
After taking a swig from his beer, Charlie boasted that one of the consultants who had been helping him—one who was a former regulator—had told him: “You and some of your friends have become such super experts in finance, law, and Patriot Act and all these things. There are people who have like thirty graduate degrees who don’t know as much as you do.”
“And I’m like, ‘It’s Bitcoin,’” Charlie said with a grin.
David Azar, his old investor, was ready to sign off on the deal to reincarnate BitInstant. The one hitch was the Winklevoss twins. Charlie had offered to give the new investors more than half of his own equity in the company—bringing him from a 27 percent stake down to a 12 percent stake. All the twins and David had to do was give the new investors 2 percent of their 25 percent stake. When the twins shot back a curt e-mail dismissing Charlie’s offer, Charlie quickly replied that he would provide all the shares to the new investors so that David and the twins did not have to dilute their stake in the company at all. When Charlie met with Nic, he was still waiting to hear back from the twins.
In the meantime, though, Charlie was not twiddling his thumbs. Earlier the same day, he and his girlfriend Courtney had lunch with a few guys who wanted to sell shares in private jets for Bitcoin.
“It’s fucking, excuse my language, it’s an amazing idea,” Charlie said. A few weeks earlier, he had splurged and sold some of his Bitcoins to pay for a private jet to take him and Courtney to the Bahamas.
He also was still working with the Bitcoin Foundation, preparing for its second annual conference, this one in Amsterdam.
“We’re looking for a celebrity speaker,” Charlie told Nic. “I want to get like Snoop Dogg to come.”
“How about Richard Branson?” Nic asked, referring to the mogul who had recently announced that he would be accepting Bitcoin for tickets on Virgin Galactic, his commercial space company.
“A lot of these guys aren’t even out of reach,” Charlie said.
A few days after seeing Nic, Charlie and Courtney flew to Amsterdam. They stopped by the convention center where the foundation’s conference would be held. But the main purpose of the trip was a technology conference in Utrecht that had paid Charlie $20,000 to speak about Bitcoin. Flying home from the gig, in business class, Charlie couldn’t help feeling that, after all his earlier struggles, things were starting to work out again.
After landing in New York, he had just presented his passport to the customs officer when another agent appeared, seemingly out of nowhere, and said, “Mr. Shrem, come with us.” When Charlie asked why, the agent said, simply, “We’ll explain everything,” and led him to a holding room. The agent there handed Charlie a warrant for his arrest and told him he was facing charges of money laundering, unlicensed money transmission, and failure to report suspicious transactions.
When Charlie asked for more information he was told the agents would be happy to tell him more if he’d just answer a few of their questions. He knew better than to talk without a lawyer present and so he was left not knowing what conduct had led to the charges. He was allowed into a larger holding room, where Courtney was waiting, crying hysterically. He calmly told her to call the lawyer who had been working on BitInstant and not to answer any questions the federal agents might ask her. While he was talking to her, he was put in cuffs and led away to a black SUV, which took off in a caravan of police cars and traveled to the Drug Enforcement Administration headquarters in downtown Manhattan. After getting booked, Charlie was taken to the Metropolitan Correctional Center, where he was changed into an orange jumpsuit and locked up in a cell by himself. He had the rest of the night to cry and nervously think through all the things that might have gotten him here and all the ways it might play out.
In the morning, the marshals took him to a holding cell under the federal courthouse, where he met with one of the lawyers he had worked with at BitInstant, whom Courtney had called. He learned, finally, that the charges stemmed from his work in early 2012, selling Bitcoins to BTC King, the money changer who had helped Silk Road customers secure Bitcoins to buy drugs. The prosecutors had e-mails in which Charlie acknowledged knowing what the coins were being used for and doing it anyway without filing any suspicious-activity reports with regulators.
Charlie’s lawyer explained the basics. The lawyer had reached Charlie’s parents and they were ready to put up their house in Brooklyn as collateral for the $1 million bail. But they had conditions: he had to apologize to them and break up with Courtney. When Charlie resisted the conditions, his lawyer told him that he needed to bite the bullet and do what it took to get out.
Once he was released, with an electronic ankle bracelet on, Charlie found his parents and Courtney in the courthouse hallway. They had never met before and clearly had not been talking. When he asked his parents if Courtney could come home with them, they reiterated that if he wanted to be with Courtney they would rescind the bail and he would go back to jail. He privately told Courtney, who was weeping, that he would try to figure something out and call her later. Outside, he climbed into his parents’ black Lexus SUV and headed toward his childhood home.
While Charlie had been sitting in the courthouse, the United States attorney in Manhattan, Preet Bharara, the most powerful prosecutor in the country and the same man who had filed charges against Ross Ulbricht four months earlier, publicly announced that his office had unsealed criminal charges against Charlie and the Florida man known as BTC King, Robert Faiella. At a press conference, Bharara said: “If you want to develop a virtual currency or a virtual currency exchange business, knock yourself out. But you have to follow the rules. All of them.”
Charlie’s offense was not of the magnitude that usually caused a federal prosecutor to hold a press conference, but Bharara clearly wanted to make a statement that he was taking a close look at virtual currencies.
THE DAY AFTER Charlie’s release, and less than a mile from where he’d been in jail, the Winklevoss twins stepped out of a black car in downtown Manhattan to testify at the latest government hearing about Bitcoin. This one was being held in the somewhat rundown offices of New York State’s top financial regulator, Benjamin Lawsky, who had subpoenaed all the major Bitcoin companies and investors back in the summer of 2013. Lawsky had previously worked in Bharara’s office. The arrest of Charlie and Bharara’s press conference, just a day before Lawsky’s hearing, looked to many Bitcoiners like a piece of political theater, designed to give Lawsky an excuse for a more vigorous crackdown on the industry.
The hearing itself couldn’t help being colored by Charlie’s arrest. In addition to the Winklevoss twins, Barry Silbert, who had wanted to invest in Charlie back in 2012, was there to testify, as was Fred Wilson, the respected venture capitalist who had a number of run-ins with Charlie over the years. The only panelist with no tie to Charlie was Jeremy Liew, the California-based venture capitalist who had put money into Bobby Lee and BTC China.
The people who had been invited to appear on the panel showed that since the Senate hearing three months earlier, the center of influence within the Bitcoin community had shifted toward Silicon Valley and away from the Bitcoin Foundation that Charlie had helped create.
When Lawsky, in his first round of questions, asked about Charlie’s arrest, none of the panelists came to Charlie’s defense. The Winklevoss twins had released a statement the previous day suggesting that they had been betrayed by Charlie’s behavior. Both Wilson and Liew emphasized that Charlie was part of an early Bitcoin community, in which the seeming anonymity of the technology was the most attractive quality.
“It turns out that the market of radical libertarians is not very big,” Liew said in his Australian accent.
The diminishing interest in anonymity and central banks did not mean that the panelists had modest ambitions for Bitcoin. They talked about how this new form of money—and the ledger on which it ran—could allow for new kinds of stock exchanges and other things that hadn’t even been thought of yet.
“When you are offering free, radically reduced transactions costs, and when you are offering the ability for programmable money that can put a lot of additional functionality on money, then you are talking about a market size of everybody in the world,” Liew said.
All the panelists compared Bitcoin in its current form to the Internet in 1992 or 1993, before the first web browser. Back then, there had been lots of excitement in a small circle of technologists about what the Internet protocol could do, but the programs and infrastructure did not yet exist to make it accessible to ordinary people. It had, at the time, been dominated by fringe communities willing to try out untested technology. In 2014, similarly, the Bitcoin protocol wasn’t being used in any particularly compelling way, but that didn’t mean it wouldn’t be in the future once people discovered customer-friendly ways to harness it.
“We are at the beginning of an exciting time, not just for investors but for all of society,” Wilson said.
As the hearing went on, it became increasingly clear that Lawsky and the two deputies who were helping him ask questions were eager to work with, rather than against, their panelists.
“A lot of people initially react to something new like this with immediate skepticism. All of us should resist being overtaken by that urge,” Lawsky said. “We want to make sure we don’t clip the wings of a fledgling technology before it ever gets off the ground. We want to make certain that New York remains a hub for innovation.”
Lawsky was a boyish figure with big, attention-grabbing ambitions. In late 2013 he had announced his plans to create what he called a BitLicense for virtual-currency companies. At the hearing he appeared less the hard-edged interrogator and more the slightly nerdy kid trying to get in with the cool tech kids. If nothing else, it was evident that he thought this was an interesting enough technology that he did not want New York to be left out as it developed.
“We need to think internally about how we can be a more modern digital regulator,” he said. “It’s not simply what our rules are, it’s also who we employ, how quickly we act. There’s a lot to do.”
WHILE THE BITCOIN community seemed to have made significant headway with regulators, it was having less success with the banks, particularly after Charlie’s arrest.
“Not good” was the simple message that Patrick Murck got, in an e-mail, on the day that Charlie’s arrest was announced, from a contact at Wells Fargo who had been eager for the bank to work with virtual-currency companies.
Charlie resigned from his position as vice chairman of the Bitcoin Foundation on the same day as the hearing in New York, but that didn’t help. Another executive at Wells Fargo let Pete Briger know that the bank would not be able to move forward with the joint project with Fortress.
Even before Charlie’s arrest, there had been indications that the openness that the banks had exhibited toward Bitcoin, after the Senate hearing in 2013, was now coming to a close. Aside from the reputational risks of Bitcoin, the main hurdle that most banks came up against, internally, was concern about money laundering. Regulators expected banks to keep track of the source and destination of all transactions going in and out, to ensure that the banks were not doing business with terrorists and mobsters. This was generally not hard because banks around the world were forced to keep records on all accounts and all transactions. But banks had faced billions of dollars in fines in 2013 for not adequately monitoring transactions coming from countries like Iran that faced economic sanctions. Many bank compliance officers determined that it would be all but impossible to know where money flowing into Bitcoin companies was ending up. Customers at a Bitcoin exchange could convert their dollars into virtual currency and then transfer the virtual currency to an unmarked address.
Jamie Dimon, the chief executive of the nation’s largest bank, JPMorgan Chase, had told CNBC in late January that he was extremely skeptical that Bitcoin would ever amount to anything real. Dimon said that once Bitcoin companies had to follow the same rules as banks, when it comes to money laundering and compliance, “that will probably be the end of them.”
Barry Silbert knew Dimon personally. When he saw Dimon’s comments about Bitcoin, he quickly e-mailed Dimon a link to the pro-Bitcoin essay that Marc Andreessen had written in the New York Times. A few days later, Dimon called Silbert. Dimon had clearly read Andreessen’s essay and sympathized with the view that virtual currencies could provide some opportunity for people outside the United States who didn’t have access to good banks.
But Dimon responded that the potential of Bitcoin was not going to be enough to convince government officials to allow a competing currency to exist. Dimon knew what it was like to work in an industry that came under government supervision. Once Bitcoin came under similar regulation, it would require all the same fees and rules that bothered people in the traditional financial system. He didn’t dismiss Barry’s arguments, though, and invited him to come in and present Bitcoin to some of JPMorgan Chase’s executives.
Dimon’s perspective was representative of a broader shift in the banking industry’s mind-set since the financial crisis. Before the mortgage meltdown had nearly brought down the American economy, Wall Street had hired some of the best young minds in the world and tasked them with finding innovative ways to make money. When many of those clever innovations ended up contributing to the economic collapse, the banks that survived were made keenly aware of how financial experimentation could go awry. What’s more, regulators put in place a raft of new rules that forced banks to think twice before taking unnecessary risks. Just as important, government officials were forcing banks to pay billions of dollars in fines for past infractions. Few banks paid as high a monetary price as JPMorgan.
By the time Dimon and Silbert talked, the most important characteristic of any new business for JPMorgan was not how much money it would make, but how it would sit with regulators. JPMorgan had gone further than most in pulling back from potentially risky activity. During 2013 it had stopped working with remittance companies, check cashers, and even student-loan providers, not because it had to, but because it didn’t want the headache. Other banks were taking similar, if less aggressive, steps.
As the comments at Lawsky’s hearing suggested, this was nearly the opposite of the attitude in Silicon Valley, which had not been implicated in the financial crisis. The tech industry was increasingly confident about its own ability to change the world, emboldened by the success of companies like Apple, Google, and Facebook. Some of the most popular tech companies were ones such as Airbnb and Uber that openly challenged cumbersome regulations like those imposed on hotels and taxis. In the financial networks that Bitcoin was hoping to challenge, tech investors like Fred Wilson saw just another set of regulations that could be disrupted to create a more efficient market. If anything, the financial industry seemed even more open to disruption because the incumbent businesses were so afraid of breaking the rules.
Wences, who had been working at the intersection of technology and finance for two decades, acknowledged that for most of his career the center of power and wealth in the United States, and perhaps even the world, had been the financial industry and, specifically, New York. But he was outspoken in his belief that this was about to change.
“It’s likely that the next twenty or thirty years are going to be the same for Silicon Valley,” he liked to say. “In no other area are we going to see the passing of the baton so clearly as with Bitcoin.”
The only problem for the Silicon Valley disrupters was that they still relied on banks to hold the dollars they used to pay their employees—and, in the case of Bitcoin companies, the dollars they received from customers to pay for the virtual currency.
Wences Casares had always used JPMorgan Chase as the bank for his previous startups—he had maintained an allegiance to the bank after it had given his first startup an account back in the 1990s. Now, though, when Wences applied to JPMorgan to open an account for his new company, Xapo, he was, for the first time, turned down. He found another bank that initially opened a corporate account for Xapo, but then shut it down right before Wences received a $10 million check from his new investors, the venture-capital firm Benchmark. Wences was in the unusual position of having an enormous check and no one willing to accept it. He was eventually saved by Silicon Valley Bank, the same bank that was holding money for Coinbase and the only bank showing any willingness to work with Bitcoin companies.
In the long run, though, Wences assured everyone he knew that the cautiousness of the banks would matter less and less. At an event hosted by JPMorgan in the Valley, to discuss Bitcoin, Wences was dismissive when the topic of Jamie Dimon came up:
“I think whatever Jamie does or doesn’t do will be as relevant as what the postmaster general did or didn’t do about e-mail.”