Item 1A. Risk Factors
Item
1A. Risk Factors
You should carefully consider
the risk factors discussed below as well as the risk factors discussed in “Risk Factors” in our Launch S-1, which could materially
affect our business, financial condition or future results. There have been no material changes in our risk factors from those disclosed
therein.
The risks described below
and in our Launch S-1 are not the only risks facing the Trust. You should also consider any risks and uncertainties described under the
caption “Risk Factors” in any applicable prospectus, prospectus supplement, registration statement or other document that
we file with the SEC before or after this date. Additional risks and uncertainties not currently known to us or that we currently deem
to be immaterial also may materially adversely affect our business, financial condition and/or operating results.
An investment in the Trust is not a deposit
and is not FDIC-insured. Shareholders’ limited rights of legal recourse against the Trust, Trustee, Sponsor, Administrator, Prime
Broker and Custodians expose the Trust and its Shareholders to the risk of loss of the Trust’s ether for which no person or entity
is liable.
The Trust is not a banking
institution or otherwise a member of the Federal Deposit Insurance Corporation (“FDIC”) or Securities Investor Protection
Corporation (“SIPC”) and, therefore, deposits held with or assets held by the Trust are not subject to the protections enjoyed
by depositors with FDIC or SIPC member institutions. In addition, neither the Trust nor the Sponsor insure the Trust’s ether.
On September 11, 2024, the
Trust entered into separate custodial services agreements (each, a “Custodial Services Agreement” and, collectively, including
the agreement with Coinbase Custody Trust Company, LLC (“Coinbase Custodian”) entered into between the Trust and the Coinbase
Custodian on May 8, 2024 (the “Coinbase Custody Agreement”), the “Custodial Services Agreements”) with each of
(i) BitGo New York Trust Company, LLC , a New York Trust Company (“BitGo Custodian”) (the “BitGo Custody Agreement”)
and (ii) Anchorage Digital Bank N.A., a South Dakota chartered Trust Company and a federally chartered crypto bank (“Anchorage Custodian”
and together with Coinbase Custodian and BitGo Custodian, the Custodians) (the “Anchorage Custody Agreement”). While the Custodians
have advised the Sponsor that they have insurance coverage that covers certain losses of the digital assets it custodies on behalf of
its clients, including the Trust’s ether, resulting from theft, Shareholders cannot be assured that the Custodians will maintain
adequate insurance, that such coverage will cover losses with respect to the Trust’s ether, or that sufficient insurance proceeds
will be available to cover the Trust’s losses in full. The Custodians’ insurance may not cover the type of losses experienced
by the Trust. Alternatively, the Trust may be forced to share such insurance proceeds with other clients or customers of the Custodians,
which could reduce the amount of such proceeds that are available to the Trust. In addition, the ether insurance market is limited, and
the level of insurance maintained by the Custodians may be substantially lower than the assets of the Trust. While the Custodians maintain
certain capital reserve requirements depending on the assets under custody, and such capital reserves may provide additional means to
cover client asset losses, the Trust cannot be assured that the Custodians will maintain capital reserves sufficient to cover actual or
potential losses with respect to the Trust’s digital assets. The insurance maintained by the Custodians is shared among all of the
Custodians’ customers, is not specific to the Trust or to customers holding ether with the Custodians, and may not be available
or sufficient to protect the Trust from all possible losses or sources of losses.
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Furthermore, under each of
Custodial Services Agreements, the respective Custodian’s liability is limited. With respect to the Coinbase Custody Agreement,
Coinbase Custody’s liability is as follows, among others: (i) other than with respect to claims and losses arising from spot trading
of ether, or fraud or willful misconduct, the Mutually Capped Liabilities (defined below), the Coinbase Custodian’s aggregate liability
under the Custodial Services Agreement shall not exceed the greater of (A) the greater of (x) $100 million and (y) the aggregate fees
paid by the Trust to the Coinbase Custodian in the 12 months prior to the event giving rise to the Coinbase Custodian’s liability,
and (B) the value of the affected ether or cash giving rise to the Coinbase Custodian’s liability; (ii) the Coinbase Custodian’s
aggregate liability in respect of each cold storage address shall not exceed $100 million; (iii) in respect of the Coinbase Custodian’s
obligations to indemnify the Trust and its affiliates against third-party claims and losses to the extent arising out of or relating to,
among others, the Coinbase Custodian’s gross negligence, violation of its confidentiality, data protection and/or information security
obligations, or violation of any law, rule or regulation with respect to the provision of its services (the “Mutually Capped Liabilities”),
the Coinbase Custodian’s liability shall not exceed the greater of (A) $5 million and (B) the aggregate fees paid by the Trust to
the Coinbase Custodian in the 12 months prior to the event giving rise to the Coinbase Custodian’s liability; and (iv) in respect
of any incidental, indirect, special, punitive, consequential or similar losses, the Coinbase Custodian is not liable, even if the Coinbase
Custodian has been advised of or knew or should have known of the possibility thereof. In general, the Coinbase Custodian is not liable
under the Custodial Services Agreement unless in the event of its negligence, fraud, material violation of applicable law or willful misconduct.
The Coinbase Custodian is not liable for delays, suspension of operations, failure in performance, or interruption of service to the extent
it is directly due to a cause or condition beyond the reasonable control of the Coinbase Custodian. In the event of potential losses incurred
by the Trust as a result of the Coinbase Custodian losing control of the Trust’s ether or failing to properly execute instructions
on behalf of the Trust, the Coinbase Custodian’s liability with respect to the Trust will be subject to certain limitations which
may allow it to avoid liability for potential losses or may be insufficient to cover the value of such potential losses, even if the Coinbase
Custodian directly caused such losses. Furthermore, the insurance maintained by the Coinbase Custodian may be insufficient to cover its
liabilities to the Trust.
With respect
to the BitGo Custody Agreement, BitGo and its affiliates, including their officers, directors, agents, and employees, are not liable for
any lost profits, special, incidental, indirect, intangible, or consequential damages resulting from authorized or unauthorized use of
the Trust or Sponsor’s site or services. This includes damages arising from any contract, tort, negligence, strict liability, or
other legal grounds, even if BitGo was previously advised of, knew, or should have known about the possibility of such damages. However,
this exclusion of liability does not extend to cases of BitGo’s fraud, willful misconduct, or gross negligence. In situations of
gross negligence, BitGo’s liability is specifically limited to the value of the digital assets or fiat currency that were affected
by the negligence. Additionally, the total liability of BitGo for direct damages is capped at the fees paid or payable to them under the
relevant agreement during the twelve-month period immediately preceding the first incident that caused the liability.
With respect to
the Anchorage Custody Agreement, except for Anchorage’s bad acts, confidentiality obligations under the Anchorage Custody Agreement,
indemnification obligations under Anchorage Custody Agreement, or obligations with respect to rights to or limits on use under the Anchorage
Custody Agreement, Anchorage is not liable for any losses, whether in contract, tort or otherwise, for any amount in excess of fees paid
by the Trust in the twelve (12) months prior to when the liability arises. Moreover, Anchorage is not liable for (i) losses which arise
from its compliance with applicable laws, including sanctions laws administered by OFAC; or (ii) special, indirect or consequential damages,
or lost profits or loss of business arising in connection with Anchorage Custody Agreement. In addition, Anchorage is not be liable for
any losses which arise as a result of the non-return of digital assets that the Trust has delegated to Anchorage or a third party for
on-chain services, such as staking, voting, vesting, and signaling, unless such losses occur as a result of Anchorage’s fraud or
intentional misconduct.
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Similarly, under the Prime
Broker Agreement, the Prime Broker’s liability is limited as follows, among others: (i) other than with respect to claims and losses
arising from spot trading of ether, or fraud or willful misconduct, or the PB Mutually Capped Liabilities (defined below), the Prime Broker’s
aggregate liability shall not exceed the greater of (A) the greater of (x) $5 million and (y) the aggregate fees paid by the Trust to
the Prime Broker in the 12 months prior to the event giving rise to the Prime Broker’s liability, and (B) the value of the cash
or affected ether giving rise to the Prime Broker’s liability; (ii) in respect of the Prime Broker’s obligations to indemnify
the Trust and its affiliates against third-party claims and losses to the extent arising out of or relating to, among others, the Prime
Broker’s gross negligence, violation of its confidentiality, data protection and/or information security obligations, violation
of any law, rule or regulation with respect to the provision of its services, or the full amount of the Trust’s assets lost due
to the insolvency of or security event at a Connected Trading Venue (as defined below) (the “PB Mutually Capped Liabilities”),
the Prime Broker’s liability shall not exceed the greater of (A) $5 million and (B) the aggregate fees paid by the Trust to the
Prime Broker in the 12 months prior to the event giving rise to the Prime Broker’s liability; and (iii) in respect of any incidental,
indirect, special, punitive, consequential or similar losses, the Prime Broker is not liable, even if the Prime Broker has been advised
of or knew or should have known of the possibility thereof. In general, with limited exceptions (such as for failing to execute an order),
the Prime Broker is not liable under the Prime Broker Agreement unless in the event of its gross negligence, fraud, material violation
of applicable law or willful misconduct. The Prime Broker is not liable for delays, suspension of operations, failure in performance,
or interruption of service to the extent it is directly due to a cause or condition beyond the reasonable control of the Prime Broker.
These and the other limitations on the Prime Broker’s liability may allow it to avoid liability for potential losses or may be insufficient
to cover the value of such potential losses, even if the Prime Broker directly caused such losses. Both the Trust and the Prime Broker
and its affiliates (including the Coinbase Custodian) are required to indemnify each other under certain circumstances.
Moreover, in the event of
an insolvency or bankruptcy of the Prime Broker (in the case of the Trading Balance) or the Custodians (in the case of the segregated
accounts in which the Custodians will custody all of the Trust’s ether from time to time (the “Vault Balances”) in the
future, given that the contractual protections and legal rights of customers with respect to digital assets held on their behalf by third
parties are relatively untested in a bankruptcy of an entity such as the Custodians or Prime Broker in the virtual currency industry,
there is a risk that customers’ assets — including the Trust’s assets — may be considered the property of the
bankruptcy estate of the Prime Broker (in the case of the Trading Balance) or the Custodians (in the case of the Vault Balance), and customers
— including the Trust — may be at risk of being treated as general unsecured creditors of such entities and subject to the
risk of total loss or markdowns on value of such assets.
The Coinbase Custodial Services
Agreement contains an agreement by the parties to treat the ether credited to the Trust’s Vault Balance at the Coinbase Custodian
as financial assets under Article 8 of the New York Uniform Commercial Code (“Article 8”), in addition to stating that the
Coinbase Custodian will serve as fiduciary and custodian on the Trust’s behalf. The Coinbase Custodian’s parent, Coinbase
Global Inc., has stated in its most recent public securities filings that in light of the inclusion in its custody agreements of provisions
relating to Article 8 it believes that a court would not treat custodied digital assets as part of its general estate in the event the
Coinbase Custodian were to experience insolvency. However, due to the novelty of digital asset custodial arrangements courts have not
yet considered this type of treatment for custodied digital assets and it is not possible to predict with certainty how they would rule
in such a scenario. If the Coinbase Custodian became subject to insolvency proceedings and a court were to rule that the custodied ether
were part of the Coinbase Custodian’s general estate and not the property of the Trust, then the Trust would be treated as a general
unsecured creditor in the Coinbase Custodian’s insolvency proceedings and the Trust could be subject to the loss of all or a significant
portion of its assets. Moreover, in the event of the bankruptcy of the Coinbase Custodian, an automatic stay could go into effect and
protracted litigation could be required in order to recover the assets held with the Coinbase Custodian, all of which could significantly
and negatively impact the Trust’s operations and the value of the Shares.
With respect to the Prime
Broker Agreement, there is a risk that the Trading Balance, in which the Trust’s ether and cash is held in omnibus accounts by the
Prime Broker, could be considered part of the Prime Broker’s bankruptcy estate in the event of the Prime Broker’s bankruptcy.
The Prime Broker Agreement contains an Article 8 opt-in clause with respect to the Trust’s assets held in the Trading Balance.
The amount of ether that may
be held in the Trading Balance will be limited to the amount necessary to process a given creation or redemption transaction, as applicable,
or to pay for Trust Expenses not assumed by the Sponsor in consideration for the Sponsor Fee.
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The Prime Broker is not required
to hold any of the ether or cash in the Trust’s Trading Balance in segregation. Within the Trading Balance, the Prime Broker Agreement
provides that the Trust does not have an identifiable claim to any particular ether (and cash). Instead, the Trust’s Trading Balance
represents an entitlement to a pro rata share of the ether (and cash) the Prime Broker has allocated to the omnibus wallets the Prime
Broker holds, as well as the accounts in the Prime Broker’s name that the Prime Broker maintains at Connected Trading Venues (the
“Connected Trading Venue”) (which are typically held on an omnibus, rather than segregated, basis). If the Prime Broker suffers
an insolvency event, there is a risk that the Trust’s assets held in the Trading Balance could be considered part of the Prime Broker’s
bankruptcy estate and the Trust could be treated as a general unsecured creditor of the Prime Broker, which could result in losses for
the Trust and Shareholders. Moreover, in the event of the bankruptcy of the Prime Broker, an automatic stay could go into effect and protracted
litigation could be required in order to recover the assets held with the Prime Broker, all of which could significantly and negatively
impact the Trust’s operations and the value of the Shares.
Under the Trust Agreement,
the Trustee and the Sponsor will not be liable for any liability or expense incurred, including, without limitation, as a result of any
loss of ether by the Custodians or Prime Broker, absent willful misconduct, gross negligence, reckless disregard or bad faith on the part
of the Trustee or the Sponsor or breach by the Sponsor of the Trust Agreement, as the case may be. As a result, the recourse of the Trust
or the Shareholders to the Trustee or the Sponsor, including in the event of a loss of ether by the Custodians or Prime Broker, is limited.
The Shareholders’ recourse
against the Sponsor, the Trustee, and the Trust’s other service providers for the services they provide to the Trust, including,
without limitation, those relating to the holding of ether or the provision of instructions relating to the movement of ether, is limited.
For the avoidance of doubt, neither the Sponsor, the Trustee, nor any of their affiliates, nor any other party has guaranteed the assets
or liabilities, or otherwise assumed the liabilities, of the Trust, or the obligations or liabilities of any service provider to the Trust,
including, without limitation, the Custodians and Prime Broker. The Prime Broker Agreement and Coinbase Custodial Services Agreement provide
that neither the Sponsor, the Trustee, nor their affiliates shall have any obligation of any kind or nature whatsoever, by guaranty, enforcement
or otherwise, with respect to the performance of any the Trust’s obligations, agreements, representations or warranties under the
Prime Broker Agreement or Custodial Services Agreement or any transaction thereunder. Consequently, a loss may be suffered with respect
to the Trust’s ether that is not covered by the Coinbase Custodian’s insurance and for which no person is liable in damages.
As a result, the recourse of the Trust or the Shareholders, under applicable law, is limited.
Lack of recourse.
The Custodians have limited
liability, impairing the ability of the Trust to recover losses relating to its ether and any recovery may be limited, even in the event
of fraud. In addition, the Custodians may not be liable for any delay in performance of any of their custodial obligations by reason of
any cause beyond its reasonable control, including force majeure events, war or terrorism, and may not be liable for any system failure
or third-party penetration of its systems. As a result, the recourse of the Trust to Custodians may be limited.
Under the Coinbase Custody
Agreement, the Coinbase Custodian’s liability is limited to the greater of (i) the market value of the Trust’s ether
held by the Coinbase Custodian at the time the events giving rise to the liability occurred and (ii) the fair market value of the
Trust’s ether held by the Coinbase Custodian at the time that the Coinbase Custodian notifies the Sponsor or Trustee in writing,
or the Sponsor or the Trustee otherwise has actual knowledge of the events giving rise to the liability.
Under the Trust Agreement,
the Trustee and the Sponsor will not be liable for any liability or expense incurred absent gross negligence or willful misconduct on
the part of the Trustee or the Sponsor or breach by the Sponsor of the Trust Agreement, as they case may be. As a result, the recourse
of the Trust or the Shareholder to Trustee or the Sponsor may be limited.
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The Index Provider has limited
liability relating to the use of the Index, impairing the ability of the Trust to recover losses relating to its use of the Index. The
Index Provider does not guarantee the accuracy, completeness, or performance of the Index or the data included therein and shall have
no liability in connection with the Index or index calculation, errors, omissions or interruptions of the Index or any data included therein.
The Index could be calculated now or in the future in a way that adversely affects an investment in the Trust.
Under the BitGo Custody Agreement,
BitGo and its affiliates, including their officers, directors, agents, and employees, are not liable for any lost profits, special, incidental,
indirect, intangible, or consequential damages resulting from authorized or unauthorized use of the Trust or Sponsor’s site or services.
This includes damages arising from any contract, tort, negligence, strict liability, or other legal grounds, even if BitGo was previously
advised of, knew, or should have known about the possibility of such damages. However, this exclusion of liability does not extend to
cases of BitGo’s fraud, willful misconduct, or gross negligence. In situations of gross negligence, BitGo’s liability is specifically
limited to the value of the digital assets or fiat currency that were affected by the negligence. Additionally, the total liability of
BitGo for direct damages is capped at the fees paid or payable to them under the relevant agreement during the twelve-month period immediately
preceding the first incident that caused the liability.
In addition, BitGo shall not
be liable for delays, suspension of operations, whether temporary or permanent, failure in performance, or interruption of service which
results directly or indirectly from any cause or condition beyond the reasonable control of BitGo, including, but not limited to, any
delay or failure due to an act of God, natural disasters, act of civil or military authorities, act of terrorists, including, but not
limited to, cyber-related terrorist acts, hacking, government restrictions, exchange or market rulings, civil disturbance, war, strike
or other labor dispute, fire, interruption in telecommunications or Internet services or network provider services, failure of equipment
and/or software, other catastrophe or any other occurrence which is beyond the reasonable control of BitGo.
Under the Anchorage
Custody Agreement, except for Anchorage’s bad acts, confidentiality obligations under the Anchorage Custody Agreement, indemnification
obligations under Anchorage Custody Agreement, or obligations with respect to rights to or limits on use under the Anchorage Custody Agreement,
Anchorage is not liable for any losses, whether in contract, tort or otherwise, for any amount in excess of fees paid by the Trust in
the twelve (12) months prior to when the liability arises. Moreover, Anchorage is not liable for (i) losses which arise from its compliance
with applicable laws, including sanctions laws administered by OFAC; or (ii) special, indirect or consequential damages, or lost profits
or loss of business arising in connection with Anchorage Custody Agreement. In addition, Anchorage is not be liable for any losses which
arise as a result of the non-return of digital assets that the Trust has delegated to Anchorage or a third party for on-chain services,
such as staking, voting, vesting, and signaling, unless such losses occur as a result of Anchorage’s fraud or intentional misconduct.
In addition, Anchorage shall not be liable for the failure to perform
or delay in the performance of its obligations under the Anchorage Custody Agreement to the extent such failure or delay is caused by
or results from a circumstance beyond its reasonable control and that could not have been prevented or avoided by the exercise of due
diligence, as long as the fact of the occurrence of such event is duly proven or is reasonably provable, including, but not limited to
natural catastrophes, fire, explosions, pandemic or local epidemic, war or other action by a state actor, public power outages, civil
unrests and conflicts, labor strikes or extreme shortages, acts of terrorism or espionage, Domain Name System server issues outside Anchorage’s
direct control, technology attacks (e.g., DoS, DDoS, MitM), cyberattack or malfunction on the blockchain network or protocol, or governmental
action rendering performance illegal or impossible. Anchorage Custody Agreement shall not be held liable by the Trust for such non-performance
or delay.
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Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.