Coinbase (“COIN”) – The Investor Weekly Stock Report

Summary
The Investor Weekly is neutral on this stock at current levels. We are, however, willing to take a small position and wait on positive 2022 EPS and revenue revisions before scaling up. In doing so, I believe that crypto is in its infancy and Coinbase has established itself as a trusted service.

We believe that Coinbase is a worthwhile buy if you can stomach the volatility of the underlying assets.

The company reported Q2 2021 results as cryptocurrency prices continue to weave through steep highs and lows.

Investors are weighing the prospect of new regulations and industry crackdowns against signs of mainstream support.
 
Coinbase has the potential to benefit from market volatility in Q3 2021 and beyond. The company is like to continue to report strong user growth and revenues as market volatility boosts transaction revenue.

There are many risks. The just-passed Senate infrastructure deal includes new IRS reporting requirements for cryptocurrency transactions.

Company Overview
Coinbase (“COIN”) provides financial infrastructure and technology for the cryptoeconomy. The Company was founded in 2012 and provides a platform to invest, store, spend, earn, and use crypto assets. It serves retail users, institutions, and ecosystem partners.

COIN charges several percentage points to deposit funds and trade, which is one of the main ways the company makes money. Roughly 90% of the company’s revenue comes from transaction fees from trading and services like storage. Therefore, the Company’s growth is tied to the public’s interest in cryptocurrencies, drawing revenue from transaction fees earned from cryptocurrency trades on its platform. The exchange had 68 million verified users on its platform as of the end of the second quarter.

Shareholders and potential investors want to know if COIN has plans to add NFTs (non-fungible tokens). An NFT is a digital asset that represents real-world objects like art, music, in-game items and videos. Those tokens use crypto technology to render things like art as verifiable pieces of property that can be sold as digital goods. Additionally, they want to know how will Coinbase’s Prime service be geared toward more sophisticated and institutional investors? And how will this be different from other service providers.

Leadership
Brian Armstrong, CEO.

Ownership Structure

Market
COIN is an online marketplace for hedge funds, money managers, and corporations. The marketplace shows continual growth in monthly transacting users (MTUs). MTUs increased by a factor of 5x to 6.1 million in Q1 2021 and 7x to 8.8 million in Q2 2021. This has occurred as cryptocurrency has gone mainstream. The combined market capitalization for the crypto market now exceeds $2 trillion.

The Company offers an attractive and easy to use product as a gateway into the crypto world for most people. COIN is the largest U.S. cryptocurrency exchange. It lists nearly 50 cryptocurrencies for trading, led by Bitcoin and Ethereum. Bitcoin is the largest digital coin by market value and is up just 2% this year after falling sharply in recent months. Ethereum has more than doubled in 2021.

COIN saw its trading volume sore last year. The transaction volume processed through the platform was $335B in Q1 21, representing an 11x increase year-over-year and a 4x increase quarter-over-quarter. The Company processed $462 billion in Q2 21.

We believe that institutions are going to play a larger role for Coinbase’s growth in the future.

COIN has only been a publicly traded company for three months. COIN came public at a good time since Bitcoin volume exploded with the move to $60,000 in 2020. In 2017, bitcoin had a high of $20,000. Bitcoin, as a percentage of COIN’s total volume has declined from 50% in March 2020 to 40%, as of March 2021.

The crypto giant launched its listing on the Nasdaq on April 14, pricing at $250 a share. Coinbase stock shot up nearly 70% to $429 before closing its first day of trading at $328, up 31%, for a valuation of $87 billion. Shares of the cryptocurrency exchange disappointed after the firm’s direct listing. That being said, the Company has reported strong platform metrics in both Q1 and Q2 this year.

Coinbase is well regarded as a trusted and secure online trading platform for cryptocurrencies. COIN has an asset hub, which allows for the integration of new digital assets with the goal of expanding the platform. The platform aims to keep attracting institutional investors, which represent a large growth opportunity for the Company. At present, retail traders represent the majority of COIN’s transaction revenues, but institutional adoption is on the upswing. At Q1 2021, institutional assets totaled $122 billion and retail assets totaled nearly $100 billion.

Risks
COIN faces a number of challenges.

1. The risk to transaction fee erosion is the biggest risk to the stock and company. Morningstar came out with an intrinsic value estimate at $194.00 on COIN, which assumes a 50% decline in transaction fees by 2030.
   
2. Cryptocurrency faces broader challenges coming from new regulations. Industry groups have expressed dismay at the Senate’s decision not to rework an item in the infrastructure bill that was intended to strengthen transaction-data reporting requirements and tax enforcement on the industry. At issue has been how the bill defines cryptocurrency-transaction “brokers.” These brokers would be subject to the reporting requirements. The crypto industry is concerned that the definition of brokers is too broad. The definition could end up applying to people like miners and others that don’t directly handle crypto transactions and are unable to collect user information.
   
   The tighter rules would raise an estimated $28 billion over the next decade to fund the bill. The Senate passed the bill, which now goes to the House.
   
3. Cryptocurrency is still susceptible to “hacking”. As I write this article, the PolyNetwork hack, which happened this morning, amounted to more than $600 million.
   
4. COIN tends to rise and fall with the underlying cryptocurrency. This week, Bitcoin topped $46,400 on Monday, August 9, the highest since mid-May. That comes after the Bitcoin price tumbled below $30,000 in late July. COIN has forecast lower trading volume and active users for the third quarter, following a drop in crypto prices and trading action, even as second-quarter results beat expectations. As a caveat to this, COIN gets fees when crypto goes up or down.
   
5. Bitcoin has been under pressure amid a crackdown in China on cryptocurrency-related activity.

Peers
Marathon Digital Holdings (“MARA”) and MicroStrategy (“MSTR”)

Financials and Valuation
Ahead of the company’s debut, Coinbase issued estimates for its first quarter ended March 31 and an outlook for the full year ending Dec. 31, 2021. The company expected verified users of 56 million with $223 billion assets on platform, representing an 11% crypto asset market share.

On May 12, Coinbase reported Q1 results that slightly missed estimates. The company showed total revenue of $1.801 billion on EPS of $3.05. Wall Street expected Coinbase to earn $3.07 a share on revenue of $1.81 billion. Earnings soared 2,350%, while sales spiked 845% vs. the year-ago period.

Coinbase is a highly profitable company and had operating margins of 59% and net income margins of 37% in Q1 2021. Remember that many recent technology IPOs are companies that remain far from profitable.

Q1 March 2021 was a miss for both earnings and revenue, whereas Q2 June 2021 was a beat for both earnings and revenue. COIN’s forward EPS estimates and revenue projections remain mixed.

The stock has corrected 50% since April 21 even as EPS and revenue estimates continue to rise. It trades at 33X and 40X the current 2021 and 2022 EPS estimates. At $68 billion, the stock is very richly valued, but EPS and Revenue revisions continue to remain positive.

As per the balance sheet, COIN had no long-term debt on its Q1 2021 balance sheet. COIN has since issued $1.25 billion in Convertible Senior Notes due in 2026. The proceeds of this debt are meant to support the development of Coinbase’s ecosystem and fuel the marketplace’s growth. Coinbase also had $2 billion in cash giving the Company adequate growth CAPEX to support new product development.

What were the Q2 results? Today is the second earnings report for COIN. And the key technical to watch is $261, which is the highest level the stock has hit after the April to May 2021 drop from $430 to $225. Analysts were expecting $2.33 to $2.57 in earnings per share on $1.75 to $1.81 billion. Revenue growth is sizable since the estimate is $1.74 billion versus $186.3 million in Q2 2020.  Q2 2021 revenue came in at $2.03 billion. The company earned $6.42 per share.

Retail monthly transacting users grew to 8.8 million during the quarter, a 44% gain over Q1 2021. The exchange now has 68 million total verified users on its platform. The subscription and services business should show consistent high margin growth.

“As volatility and crypto asset prices are highly correlated with trading revenue, the crypto market environment heavily influenced our Q2 financial results,” the Company said.

The (COIN) CFO, Alesia Haas, explained that other types of investment only represent 5% of its total revenue, but that they are growing faster than its transaction business. Haas noted that trading in Ethereum (ETH-USD) outpaced Bitcoin (BTC-USD) in its latest quarter for the first time ever, thanks largely to the growing popularity of NFTs.

Looking ahead, Haas believes that Coinbase will “shift into more institutional money” over time. She said companies and investment funds seek out Coinbase because of its security record and its trading operations. Asked about regulatory environment, Haas said the company would have to “educate” the Securities and Exchange Commission about the industry and does not believe that every crypto should be treated as a security.

Analyst Coverage
On April 22, Mizuho analyst Dan Dolev initiated coverage on the stock with a neutral rating and a $285 price target. “Over time, Coinbase pricing — and industry pricing in general — may face downward pressure from platforms like PayPal and Cash App,” Dolev commented. “This is because PayPal and Cash App primarily use their crypto trading products as engagement tools, whereas Coinbase relies on its crypto trading products as its main source of revenue and profitability.”

On May 24, Goldman Sachs initiated coverage with a buy rating and a $306 price target. Goldman analyst Will Nance said in a note to clients that Coinbase is the best way to gain exposure to cryptocurrency ecosystems.

On May 25, JPMorgan initiated coverage on Coinbase with an overweight rating and a $371 price target. In response, Coinbase stock surged 7.6%. On June 16, Canaccord Genuity started the stock with a buy rating and a $285 price target.

COIN Investment Strategy
The Investor Weekly recommends building a very small position in the stock and then watching next year’s EPS and revenue estimates before building larger positions. Buying shares of COIN is the most direct bet you can make on the cryptocurrency market without directly owning Bitcoin or other leading digital currencies. The Company is the front-runner among American crypto exchanges has unique attributes that make it a safer investment than any individual cryptocurrency. COIN’s platform can continue to accept new digital assets, while the crypto market evolves around it.

Therefore, COIN shares are a good way to get started in the cryptocurrency sector without picking long-term winners among different digital tokens. As long as the broader crypto market is headed upward (working through slow patches and terrifying drops on the way but always getting back on track again), this stock should serve you well. On top of all that, COIN shares are roughly 20% below their all-time high on April 14, the stock’s first day of trading ($342 to $270).

The Company can become a better long-term investing option if it can demonstrate optionality beyond trading Bitcoin.

References

Coinbase
https://investor.coinbase.com/home/default.aspx

Motley Fool Premium
https://www.fool.com/premium/company/NASDAQ/COIN/

Seeking Alpha Premium
https://seekingalpha.com/symbol/COIN

StockCharts.com
www.stockcharts.com


Disclosure
I am/we are long Coinbase (“COIN”) either through stock ownership, options, or other derivatives. 

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Nothing on this site nor any published commentary by The Investor Weekly is intended to be investment, tax, or legal advice or an offer to buy or sell securities. Information presented is believed to be factual and up-to-date, but we do not guarantee its accuracy and should not be considered a complete discussion of all factors and risks. Data quoted represents past performance, which is no guarantee of future results. Investing involves risk. Loss of principal is possible. Please consult with your investment, tax, or legal adviser regarding your individual circumstances before investing.