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Numerous publicly traded companies, including breweries, cannabis producers, and energy storage firms, are increasingly adding Bitcoin to their balance sheets. However, observers indicate that this strategy may face significant risks if Bitcoin prices fall to a certain level or if their fundraising capabilities become constrained.
These companies may be forced to sell their holdings of Bitcoin at a discount, or even divest themselves entirely.
Ben Werkman, Chief Investment Officer of financial services firm Swan Bitcoin, stated: “For high-reputation operating companies, this could be an opportunity; if they get into trouble, they could consolidate the industry and purchase Bitcoin at a 10% discount. If the bear market lasts a long time, this situation could indeed occur.”
As more companies establish reserves based on Bitcoin and other digital assets, experts express caution. This practice was first adopted by Strategy (formerly MicroStrategy) and has achieved significant success. However, as Bitcoin prices soared and the stock prices of some new Bitcoin-focused companies rose, the potential risks of this practice have largely been overlooked.
Earlier this month, Geoff Kendrick, the head of digital assets research at Standard Chartered Bank, wrote in a report: “Currently, the Bitcoin reserve strategy has increased buying pressure on Bitcoin, but we believe this situation may reverse over time.”
In the context of U.S. President Trump’s more cryptocurrency-friendly policies, the number of companies attempting to emulate Strategy’s approach by leveraging debt to purchase more Bitcoin has surged. Strategy began acquiring Bitcoin in 2020 and has funded its purchases over the years by issuing convertible bonds, common stock, and preferred stock—a strategy that several emerging companies have since emulated.
Since transitioning from a software development company, Strategy’s stock price has soared over 2500%, and the company currently holds approximately 582,000 Bitcoins, valued at over $6.1 billion, accounting for 2.7% of the total Bitcoin supply.
According to data from Bitcoin Treasures, among 130 listed companies, none hold more than 2.1 million Bitcoins (0.25% of the total Bitcoin supply). Archived data from the website shows that only 75 listed companies held Bitcoin at the beginning of this year.
“If Bitcoin reserve companies begin to fail, they could lose 50% (of principal),” stated Matt Cole, CEO of Strive Asset Management. “I think the likelihood of future risks is quite high. This is something to keep an eye on.”
Today, Matt Cole believes that the risk of Bitcoin reserve companies failing and leading to Bitcoin liquidations is relatively low, claiming that its potential disruptive effect on the market would not be greater than “a typical weekend derivative liquidation event.”
According to Cole, based on market conditions, Strive, which manages over $2 billion in assets, may begin to see actionable investment opportunities in the future. “I’m not sitting here today saying, ‘We need to be prepared to acquire 10 different Bitcoin reserve companies.’ It’s quite possible that we’ll hold this view in the future, and by then, we’ll be ready for it.”
In a recently released report, David Duong, Head of Global Research at Coinbase, wrote: “In the short term, the pressure to liquidate is not the issue,” and that refinancing methods may ultimately help leverage companies avoid liquidating their Bitcoin holdings.
Controlled by Financial Backers
Most publicly traded companies strive to maximize shareholder value by increasing revenue, improving profit margins, or optimizing capital efficiency. However, many companies adopting Bitcoin reserve strategies aim to maximize shareholder value by increasing the amount of Bitcoin held per share. (Shareholders do not have direct claims on the Bitcoin held in these companies’ reserves.)
Strategy has historically favored using convertible bonds to purchase Bitcoin. The company holds $8.2 billion in outstanding debt, which may convert to equity in the future. Ben Werkman of Swan Bitcoin stated that while demand for Strategy’s tools has surged, smaller companies adopting Bitcoin may take a long time to reach this level.
Werkman noted that for a company’s convertible bonds to be popular on convertible arbitrage trading platforms (which tend to trade Strategy’s debt), there first needs to be a strong options market, which depends on factors such as stock trading volume.
“In the convertible bond market, you have to scale up to meaningful volumes, and you first need to have a derivatives market so that bond purchasers can hedge their risks. Not all companies have an options market from the outset.”
Werkman indicated that as another method of leveraging their balance sheets, some companies are utilizing bank term loans, but certain terms may force them to sell. “If they borrow money from the bank, they are handing over their fate to others. At that point, you should be concerned about these companies.”
In assessing Bitcoin reserve companies, mNAV (market value to net asset value ratio) has become an informal yet popular metric. As of last Friday’s close, Strategy’s mNAV was 1.7, indicating its $107 billion market value exceeds the value of its Bitcoin reserves.
However, analysts including Greg Cipolaro, Head of Global Research at NYDIG, believe that this valuation metric is not ideal as a comprehensive indicator. In a recent report, he wrote: “Metrics like ‘mNAV’ (market value compared to Bitcoin holdings) have serious flaws when comparing different types of Bitcoin reserve companies, failing to adequately consider the differences in (operating companies) and capital structures.”
Dangers Arise When Premium Turns to Discount
Werkman stated that when a company’s stock price is at a premium relative to its Bitcoin holdings, it is easy to increase the value of Bitcoin per share by issuing common stock. However, he warned that if this premium turns into a discount, the company’s outlook could change accordingly.
For an emerging Bitcoin reserve company, the value of its operating company, or its underlying business, is “very important” in the early stages. Not all companies buying Bitcoin are attempting to replicate Strategy’s strategy. Similar to the logic behind some state-level Bitcoin legislation, some companies choose to exchange cash and U.S. Treasuries for Bitcoin to preserve their purchasing power.
Ultimately, Werkman stated that Strategy’s Bitcoin reserve strategy revolves around volatility. As the company’s common stock price fluctuates, the company is able to raise funds at a premium through products like convertible bonds, raising capital for future value.
“They seized the arbitrage opportunity, and this arbitrage opportunity is exactly why the value of Bitcoin per share for common shareholders has increased. They leverage the capital markets and the incentives of all these different investor groups to create lasting value.”
As more Bitcoin reserve companies emerge, Werkman believes that investors will start to categorize them into “growth” and “value” companies based on the expected growth rate of Bitcoin per share. Although smaller companies may ultimately be acquired, their ultimate trajectory may evolve alongside Bitcoin into an asset class.
“That’s the magic of the moment.” “They choose to exit the failing financial system and embrace what they see as the future financial system, where there are first-mover advantages.”
This article is collaboratively reprinted from: PANews
Further Reading: Bitcoin Surges 30 Times? Analyzing How Companies Use “Bitcoin” to Propel Stock Prices Skyward