Leonid Sukala
Stronghold Digital Mining, Inc. (NASDAQ:SDIG) is different from the majority of Bitcoin (BTC-USD) miners in that they have the option of cutting back on, or halting Bitcoin production, in order to sell energy.
This theoretically can mitigate revenue loss when the price of Bitcoin collapses and provide more growth when the company starts mining Bitcoin again.
In this article we’ll look at whether or not this is a sound strategy that has legs to it, or if it’ll collapse under the response of the market to the price movement of Bitcoin.
But before we get into that, let’s look at the latest earnings report numbers.
Latest earnings report
Revenue in Q1 came in at $28.7 million, up from $3.8 million year-over-year, and beating analysts’ estimates of $26, 2 million. Net loss in the quarter soared to $32.3 million, against the $0.2 million last year in the same reporting period.
Operating expenses in the quarter jumped to $58.3 million, up by 1,074 percent, from the $5.0 million year-over-year.
The company states, “the increase is attributable to a $12.2 million non-cash impairment on equipment deposits for MinerVa miners, an $11.8 million increase in depreciation and amortization from deploying additional miners and transformers, a $10.5 million increase in general and administrative expenses as the Company continues to scale operations, a $9.1 million increase in operations and maintenance expense primarily driven by the additional Panther Creek plant and one-time plant upgrades at Scrubgrass, a $7.2 million increase in fuel expenses driven by higher power generation and $2.5 million of non-cash impairment costs attributable to the declines in the price of Bitcoin.”
Consequently, net loss in the quarter increased to $32.3 million against the $0.2 million loss last year in the same quarter. Losses in the quarter jumped to $0.66 per share, far above the consensus of $0.04 per share.
As for its balance sheet, the company ended Q1 with about “$25.5 million in cash, $5.1 million in unrestricted digital currencies,” and close to $110.8 million in debt.
Total liquidity at the end of the reporting period was around $48.6 million, including the above numbers, and $18 million that is available via its existing equipment financing agreements. As of May 12, 2022, overall liquidity was $61 million based upon pro forma sales of Bitcoin miners and issuance of notes.
The company said, it “…believes its liquidity position, combined with expected operating cash flow, will be sufficient to meet all existing commitments and fund operations.” It “also believes that incremental liquidity can be created through proceeds related to Bitcoin miner fleet management and optimization, including potential miner sales and through additional equipment financing agreements, if necessary.”
This of course would be a big plus if it’s able to deliver on those assumptions while the price of Bitcoin remains subdued.
As of May 13, 2022, the company sold 635 Bitcoin.
Vertical integration and energy sales
Management correctly stated that the market at this time isn’t pricing in the value, differentiation and competitive advantage it believes vertical integration provides the company.
I agree with that assessment. For now, and I believe, long into the future, the only catalyst driving Bitcoin miners like Stronghold will be the price of the flagship cryptocurrency.
As for energy sales, the company provided an example of how it views the potential in the latest earnings report.
Using a Bitcoin price range of $20,000 to $30,000 as a baseline, it said that suggests a price from about $90 to $135 per megawatt hour. While the company was careful to say it isn’t offering guidance in any way, it did say that if over the next 12 months prices per megawatt hour exceed $100, it would suggest a Bitcoin price of about $22,000; the floor SDIG is working from. Under that scenario, if the price of Bitcoin falls below $22,000, the company would “pivot” from mining Bitcoin to selling energy to the grid.
This in theory should protect the downside while offering upside when the price of Bitcoin rebounds. The reason I say in theory is because, history has proven that the market predominately responds to the price movement of Bitcoin, and even if selling energy into the grid mitigates downside risk, the market isn’t pricing that in at this time.
Operationally this should be a good move by the company, but as it relates to its share price, it’s unlikely to have much effect. Management admits it’s likely to be some time before vertical integration is seen as a key differentiator against the majority of its peers.
In the upcoming earnings report on August 11, 2022, we should get a glimpse into the impact of selling energy into the grid. assuming SDIG did so when the price of Bitcoin dropped below $22,000. Since the price was below $22,000 from the middle of June to the middle of July, it offers a month of results for investors to look at.
At this time, I view energy sales as a temporary measure to generate better revenue in response to low Bitcoin prices. Its real value would be if the price of Bitcoin remains subdued for a prolonged period of time. If that were to play out, it would be in a superior position than the majority of its competitors, depending on what the market prices for energy was at the time of sales.
Conclusion
SDIG is an interesting company that appears to have a strong enough balance sheet with some protection to the downside to endure low Bitcoin prices over the next year or so.
If the price of Bitcoin does rebound in the last half, especially the last quarter of 2022 as I’m expecting it do, it will move up nicely with its Bitcoin mining peers.
On the other hand, if it takes a little longer for Bitcoin to sustainably move higher, the company does seem to have more downside protection than its peers. How much protection it has will be determined by the energy prices the market offers at the time.
SDIG, if it’s able to outlast the weak price of Bitcoin, has a much upside potential as most of its peers.
As for vertical integration and selling into the energy grid, it’s an interesting strategy, but until the market rewards it, I don’t see it as being a competitive advantage anytime soon.
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