Tevarak
Crypto winter is here. At a recent price of $20,444, Bitcoin (BTC-USD) is trading for less than 1/3 its 52-week high. Bitcoin miners have faced lower margins due to the combination of low Bitcoin prices and high energy prices. At a recent price of $4.55, Argo Blockchain (NASDAQ:NASDAQ:ARBK) is trading for less than 25% of its 52 week high. This article looks at Argo Blockchain PLC 8.75% Senior Notes due 2026 (NASDAQ:NASDAQ:ARBKL). The ARBKL baby bonds now yield 12.2% and trade at only 72 cents on the dollar. This article makes the positive case for why income investors should consider ARBKL and also provides some discussion of the major risks.
What is ARBKL?
ARBKL is a par $25 unsecured baby bond with a generous 8.75% coupon maturing on 11/30/2026. Quarterly interest payments of 54.7 cents are paid on 1/31, 4/30, 7/31 and 10/31 to holders of record on 1/15, 4/15, 7/15 and 10/15. ARBK is headquartered in England and trades in London as well as on NASDAQ. For U.S. investors there is no withholding tax on the ARBKL interest payments
ARBKL can be called at par $25 starting on 11/30/2025 and matures on 11/30/2026. See prospectus for additional details. At a recent price of $18.10, ARBKL is trading at a cash yield of 12.2% and a 28% discount to par. ARBKL is a small issue with just 1.6 million shares outstanding ($40 million par value). The average daily trading volume is only about 3K shares. Use limit orders and patience when trading.
1. Strong liquidity
Strong liquidity is always an important consideration for high yield investors. This is especially true given the recent volatility of the broad markets as well as the price of Bitcoin. As of the Q2 2022 earnings report, ARBK had total current assets of $167 million as compared to current liabilities of just $65 million for a very healthy current ratio of 2.6X. Current assets included cash of $9 million and holdings of Bitcoin and other digital currencies valued at $28 million.
2. Debt is well covered by assets
As of Q2 2022, ARBK had total assets of $304 million as compared to total liabilities of just $139 million. ARBKL and other debt are well covered by assets.
3. 1.6X interest coverage
Interest was fully covered even with very low Bitcoin prices. Adjusted Q2 2022 EBIDTA was $3.2 million as compared to interest costs of $2.0 million. Note that interest costs will drop significantly in Q3. Debt increased temporarily in Q2 2022 due to a new loan to finance the purchase of mining equipment:
Obtained up to $70.6 million (£56.3 million) of additional financing from NYDIG secured by certain Bitmain S19J Pro machines at Helio.
Bitcoin sales (including a major reduction in long-term Bitcoin holdings) was used to reduce debt. That NYDIG debt was reduced to $22 million by the end of Q2 with a further reduction to just $6.7 million by the end of July.
4. Access to capital
Even with recent weakness in the ARBK common stock, the equity market capitalization of ARBK is still about $200 million. Additional capital could easily be raised selling equity if necessary. An equity capital raise would reduce risk for debt holders. For the 6 months ended on 6/30/2022, stock sales only generated cash of 116K. Equity sales can be a major source of cash at times. Equity sales generated $50 million for the 6 months ended on 6/30/2021.
5. Excellent green credentials
Including carbon credits, ARBK had negative net carbon dioxide emissions in 2021. Their Bitcoin mining locations in Quebec use electricity produced from hydroelectric power. Their new Texas location is primarily powered by surplus wind power. See their 2021 Sustainability Report for details. ARBK is a member of the UNFCCC Climate Neutral Now Initiative and claims to be the first climate-positive crypto miner. This is an important consideration for all investors given the recent regulatory focus on reducing the climate impact of Bitcoin mining.
6. Low electrical costs
ARBKL has low electrical costs in Quebec (primarily hydro-electric power) of about 4 cents per kwh and is targeting long term electrical costs in Texas (primarily wind power) of about 3 cents per kwh. Having multiple mining locations in different regions helps to reduce risk. Spot electrical prices can rise at times even at locations selected for historically low electrical rates. The August 2022 operational update showed that mining margins were squeezed in Texas due to unusually high electrical rates:
In August 2022, spot power prices in West Texas averaged nearly $0.09 per kWh, which is nearly three times the average price during the month of August in prior years.
7. Technology leader
ARBK is a technology leader. They use state-of-the-art immersible cooling systems to reduce power costs and equipment wear. ARBK is deploying new Intel® BlockscaleTM ASIC chips in custom proprietary machine designs. ARBK recently received a contract to host equipment for another Bitcoin miner in exchange for 25% of their mining profits. This type of contract award illustrates the value of their new facility in Helios Texas.
8. Hedging reduces risk
The price of Bitcoin has been very volatile. Fortunately, ARBK has been successfully hedging to reduce risk. As noted in the Q2 earnings report:
In response to the challenging market environment, we have adjusted our treasury management strategy. Throughout the period, we have been steadily selling Bitcoin, utilizing derivatives to obtain a higher realized price than simply selling into the market. In Q2 2022, we sold Bitcoin at an average realized price of approximately $28,500, realizing hedge gains in excess of $1,500 per Bitcoin.
9. Experienced management team
See the company’s September Investor Presentation for more details. ARBK has grown substantially since it went public in 2018 as a Bitcoin mining company. Management has grown the company with a focus on low costs, technical leadership and a strong balance sheet. ARBK has also been a leader in the movement towards sustainable Bitcoin mining.
10. 2.1X interest coverage even under adverse conditions
ARBK is an investor friendly company that provides monthly operational updates. The August 2022 update reported that ARBK mined 235 Bitcoin in August and generated mining revenues of $5.23 million. Mining margins dropped from 37% in July to only 20% in August due to high spot electrical costs in Texas (see item #6). Bear in mind that the mining margin excludes non-cash costs such as depreciation costs for mining equipment.
Even with this very tough combination of low Bitcoin prices and unusually high spot electrical prices ARBKL interest payments are still being covered. If these tough August conditions persisted for a full quarter then the quarterly operating margin would be ($5.23 million X 3 X 20%) = $3.1 million. Given the recent debt reduction (see item #3), quarterly interest costs should be about $1.5 million going forward for 2.1X coverage.
But what happens if margins are temporarily squeezed even further? Fortunately ARBK has strong liquidity (see item #1) and access to capital (see item #4). ARBK would survive a period of even tighter mining margins based on their hedging, current liquidity and ability to sell equity and / or other assets.
What are the major risks?
See page 120 of the ARBK annual report for a more detailed discussion of risks. I have briefly highlighted some of the major risks here. Even with a strong balance sheet and hedging, ARBK would be hurt if Bitcoin dropped in price substantially for an extended period of time. As noted in item 9 above, ARBK would not fully cover interest costs with Bitcoin at $10,000. While ARBK is already a leader in sustainable Bitcoin mining, it could still be impacted by new U.S or Canadian regulations in this area. Ethereum is migrating from a “Proof-of-Work” system to a “Proof-of-Stake” system. Such a transition appears very unlikely for Bitcoin, but would adversely impact ARBK and other Bitcoin miners in the event that it did happen,.
Conclusions
Despite the recent volatility in the crypto sector, high yield investors should consider ARBKL for its 12.2% yield and potential capital gains. The ARBKL baby bonds have less risk and volatility than equity plays such as the ARBK common stock. ARBK is well established as a Bitcoin miner. They stand out due to their low mining costs, advanced technology and leadership on ESG issues.
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