Coinbase Global (COIN) is a high-risk, high-return investment, with near-term risks skewed negatively. This is because we are in a bear market for cryptocurrencies, which should dampen trading activity. However, consensus estimates remain high, despite the lack of insight into Coinbase’s business model. While I’m bullish on cryptocurrencies in the long-term, Coinbase may see its higher fee competition from big central exchanges like Binance, startups and decentralized finance.
This article will discuss COIN’s business, finances, trading and valuation, and risk so that readers can reach their own informed decisions.
(Note: Unless otherwise noted, all projected financial statements refer to consensus estimates and all historical financial statements come from the company.)
The company is the fifth largest cryptocurrency exchange by volumes traded globally, and the preeminent trading platform for cryptocurrency in the United States. The company acts as an online broker, exchange, and custodian for trading cryptocurrency through Coinbase, Coinbase Pro, Coinbase Wallet and other products.
As a broker, Coinbase provides accounts for retail and institutional clients to deposit fiat or cryptocurrency. Coinbase securely holds these crypto assets, including protecting the private keys, which can control the flow of these assets. Clients can then trade on a cryptocurrency or fiat exchange.
While the company is aggressively diversifying its business, more than 85% of its revenue comes from trading commissions. Coinbase facilities are trading around 65 different cryptocurrencies around the clock, which means that anxious investors can panic selling Bitcoin (BTC-USD) and most major cryptocurrencies at 2 AM on Christmas.
Historically, trading commissions are closely related to the price of Bitcoin. For example, in the first quarter of 2018, the quarter in which the last Bitcoin bubble burst, $56 billion was traded on the Coinbase platform. By the first quarter of 2019, only $7 billion had been traded on the platform, a drop of nearly 90%.
There is an ongoing issue with Coinbase. After reaching a peak in April 2021 at around $64,000, Bitcoin has fallen below $35,000 in May and has been trading below that level for most of the past 30 days. Any asset that has been halved and is trading in a bearish channel is considered to be in a bear market. While we are currently seeing a small rally, the positive momentum should continue to attract additional capital again. According to thecryptoblock.com, Coinbase’s 7-day average trading volume has fallen from a peak of about $9 billion in May 2021 to about $1.5 billion as of July 25, 2021 — a drop of more than 80%.
The volatility and valuation of cryptocurrencies causes the exchange’s earnings to fluctuate. This is why Coinbase is diversifying into other products and services. These new revenue streams were reported as new products and services and generated $56 million in sales in the first quarter of 2021 (out of total revenue of $1.8 billion).
Diversification also supports COIN’s goal of becoming the primary financial account of the crypto-economy for users. One way to become the primary financial account is through Coinbase Wallet, a sub-custodian product that allows customers to control cryptocurrencies with access to a private key. The company can monetize this product by helping users to route trades to exchanges that offer the best rates while taking fees on top of any such trades. Crypto Wallet MetaMasks has done exactly that and is already working on a $100,000 in revenue per day rating.
Coinbase Wallet can also connect to third-party applications such as those in decentralized finance (or “defi”). More integrations mean more stable customers and assets in the Coinbase ecosystem, as it increases the cost of transfer.
Another significant new product is staking, with over 1 million customers already participating. The store’s value proposition is that customers can get much higher returns with their cryptocurrency than they can using traditional savings tools like CDs, and Coinbase makes the process easy for retail investors. The upcoming launch of Ethereum 2.0 is a big catalyst for hoarding, which will enable ETH-USD holders to earn a return. There is currently a waiting list for Coinbase customers eager to do so.
Other interesting revenue opportunities include charging institutional investors for custodial services and licensing revenue from Coinbase Analytics.
Finance, Trade and Valuation
The sell-side consensus expects revenue to grow 384.3% this fiscal year, to $6.2 billion, and to shrink 9.2% the following fiscal year, to $5.6 billion. The main driver of this dynamic is the massive growth in users and trading volume until the first quarter of 2021 when the cryptocurrency market reached its peak. First-quarter revenue of $1.8 billion is more than full-year 2020 revenue of $1.3 billion. However, we are currently in a bear market for cryptocurrencies, and businesses are going to be tough, making continued growth difficult in the near term. Additionally, I think the 2021 estimates are too high, given the significant drop in volume.
The consensus expects EBIT margin to expand 923 basis points this fiscal year to 41.2% and shrink 879 basis points the following fiscal year to 32.5%. The company plans to dramatically increase sales and marketing to 12-15 percent of revenue, from about 5% historically. If the trading commission drops due to a bear market, the company is unlikely to meet consensus expectations for an expansion of profit margins this year.
Going forward, the consensus expects EPS to increase 414.4% to $8.11 for the current fiscal year and decrease by 34.4% to $5.32 in the following fiscal year. Again, meeting this estimate will largely depend on the company’s trading commissions.
The company is in an excellent financial position with approximately $2 billion in cash and no debt. Note: The company has loans in cryptocurrency but is offset by crypto assets.
The stock pays no dividend compared to the 1.3% dividend yield for the S&P 500.
The shares went public on 4/14/2021, the stock has been trading for less than a year, and business sentiment is weak. The stock is trading 11.5% below its 200-day moving average, 48% below its 52-week high at $429.54, and 8% above its 52-week low of $208.00 per share. Selling interest is moderate at 3.6% but rising quickly.
For a stock expected to grow earnings per share of more than 400% in 2021, the stock is only trading at 34 times earnings. However, due to the bearish cryptocurrency market, it may be difficult to achieve consensus estimates. Due to the staggering volatility of Coinbase’s earnings, valuation metrics can fluctuate significantly.
Competition is fierce, which may lead to material fee pressures as the industry matures. For example, Robinhood offers free cryptocurrency trading, while Coinbase charges retail investors roughly 1.5% on average. (Note: You can only transfer your cryptocurrency from Robinhood to Self-custodianship if you are an approved investor.)
Although Coinbase is a giant among American crypto investors, Coinbase is a relatively small player globally. For example, the leading central exchange, Binance, is making nearly 10 times the daily volume of Coinbase. In addition, there is an emerging threat from decentralized exchanges such as Uniswap and Sushiswap. Uniswap daily volume is about 2/3 of Coinbase, and the gap is closing fast.
Centralized exchanges like Coinbase threaten one of the important functions of cryptocurrency: giving people a decentralized, unauthorized, self-protected Internet of value. Coinbase is like a traditional financial institution that acts as an intermediary that collects rents on the cryptocurrency economy while fully complying with governments issuing orders that cryptocurrencies are trying to disrupt.
Besides being good both on and off the platform for securities, centralized exchanges like Coinbase may not be an attractive option for cryptocurrency holders. Decentralized exchanges like Uniswap execute trades through smart contracts on the blockchain and embody the true vision of cryptocurrencies. In addition, Uniswap offers very attractive swap fees, which can be as low as 0.05% for popular pair trades such as ETH and USDC (USDC-USD).
Another major risk is the uncertain regulatory environment. Recently, China cracked down on cryptocurrency activities, especially mining, while most major countries are planning to introduce more regulations to tame the industry. However, Coinbase has an advantage here by having a strong relationship with regulators, which gives them a role in shaping the regulatory environment. In particular, Coinbase has a competitive regulatory advantage in the Anglo-sphere, where the US and UK have cracked down on its biggest competitor, Binance.
Trading volumes fell sharply, making it difficult for the company to meet the high consensus estimates. In the long run, competition is likely to put pressure on the company’s higher fees.
I look forward to discussing the COIN issue with you in the comments section below. thank you for reading!