Coinbase Global Inc (COIN) was one of the most anticipated IPOs of 2021. However, it has been struggling to keep up with an upward price momentum like many other market debutants of last year. Investors this year have been abandoning risky assets in favour of safe bets amid rising uncertainties and heating inflation. This took a toll on prices of cryptocurrencies like Bitcoin and Ethereum which are down about 35% and 45%, respectively, so far this year.
Why has the Coinbase stock fallen from its highs of last year?
Besides a major sell off in the crypto market, weak first-quarter earnings and a dull company outlook are an additional drag on the share price of Coinbase which is trading around 83% below its first day trading peak of $429. In this article, we will look at the business model of Coinbase, its competition, first-quarter earnings and the future outlook of the company.
Exhibit 1: Coinbase Global (COIN) Stock Performance Since April 2021 IPO
Data as of last close on 17 May, 2022
How does Coinbase make money?
Coinbase was founded in 2012 to facilitate the exchange of Bitcoins anytime, anywhere in the world. Today, it has over 98 million users trading about $309 billion worth of quarterly transactions – ranking it among top crypto exchanges globally.
Exhibit 2: Coinbase’s business model
Coinbase makes money by charging a fee on transactions made on its platform. Here are different fee charges of the company:
- Buying and selling cryptocurrency: 0.5% spread + Coinbase fees
- USD loans offered by Coinbase with bitcoins as collateral: 2%
- Coinbase debit card transaction fee: 2.49%
- Cryptocurrency to fiat currency conversion charges: up to 2%
- Commission on staking crypto assets: 25%
- Subscription and custodial fee
Correlation between cryptocurrency prices and Coinbase revenue
The trade volumes and volatility in the crypto market are the major drivers for Coinbase revenues. The more transactions that take place on the exchange platform, the more fees Coinbase earns. So, when the Bitcoin price goes up, it creates volatility and generates higher trade volumes. The same strategy applies when the crypto asset prices go down as traders engage in panic selling or trade more frequently.
Therefore, regardless of the direction of crypto price movement, volatility results in higher trading volumes. However, extended periods of asset price correction result in lesser volatility and thus, lesser volumes, unlike in times of prolonged upcycle in crypto prices.
Exhibit 3: Comparison between crypto asset volatility and total Coinbase trading volume (quarterly)
Source: Coinbase Shareholder Letter, 10 May, 2022
The crypto-exchange market is dominated by few big players
The crypto exchange market is a highly concentrated one as the top-level exchanges grew their market share to 96% in February this year from 89% in August 2021, as per data compiled by CryptoCompare show. The 78 top-ranked exchanges include Coinbase Global, Binance, Bitstamp and Gemini Trust.
While the top-tier exchanges traded $1.5 trillion in February, lower-tier exchanges traded $62 billion in the same month. The lower-ranked smaller exchanges also have different issues related to insufficient security, know-your-customer programmes, crypto insurance, etc.
Competition
The biggest edge that Coinbase has over other crypto exchanges is that it is one of the only few regulated exchanges and reports its transactions to the U.S. Internal Revenue Service (IRS). While Kraken and Binance are unregulated, Bitflyer is its closest regulated competitor.
Here’s a list of leading cryptocurrency spot exchanges with their respective 24-hour volumes, weekly visits and number of coins traded:
Source: coinmarketcap.com, Data as of 18 May, 2022
A weak first quarter for Coinbase
The first-quarter earnings of Coinbase came in disappointing to investors at a time of a major sell-off across the crypto market. Revenue for the quarter fell 27% to $1.16 billion, below market expectations of $1.48 billion. The company reported net loss of $429.7 million or $1.98 per share for the first quarter of 2022, compared with net income of $387.7 million or $3.05 a share in the year-ago quarter. Total operating expenses more than doubled to $1.72 billion.
Exhibit 4: Coinbase quarterly key business metrics
Source: Coinbase Shareholder Letter, 10 May, 2022
Reduced trading volumes in the first quarter
The quarter ending 31 March, 2022 saw multiple signs of a decline in usage of the Coinbase exchange. Overall trading volumes on the platform decreased from $335 billion a year ago to $309 billion in the first quarter. As investors lost their risk appetite, retail trading plunged 38% to $74 billion while institutional trading rose 9% to $235 billion. In addition, the monthly transacting users reduced to 9.2 million from 11.4 million seen during Q4 2021.
Bitcoin’s lower trading volumes saw an impact on the revenues
Bitcoin accounted for 25% of transaction revenue in the first quarter this year, as against 41% in the same period last year. Its contribution to trading volumes fell to 24% in the quarter from 39% last year. The price of the world’s largest digital asset has almost halved from its record high in November 2021 due to a regulatory crackdown around the world on privately operated currencies.
Exhibit 5: Share of cryptocurrencies in trading volume and transaction revenue
(1Q2021 vs 1Q2022)
Source: Coinbase Shareholder Letter, 10 May, 2022
Coinbase forays into NFTs to diversify income stream
Non-fungible tokens or NFTs, as they are popularly called, are the latest assets from the crypto world to have gathered a lot of traction since last year. Many big brands, ranging from McDonalds (MCD) to Starbucks (SBUX) to Nike (NKE), have dipped their toes into the NFT world. In April this year, Coinbase also entered the NFT space with the launch of its NFT trading platform – Coinbase NFT.
NFTs are digital assets with unique identification codes stored on a blockchain that distinguish them from each other. Non-fungible tokens, as the name suggests, cannot be exchanged for something exactly similar like a currency coin. In simpler terms, buying an NFT is like buying an art piece virtually – though anyone can copy a painting, only one can own the original.
On Coinbase NFT, users can create a profile to buy and sell NFTs at no Coinbase transaction fees for a limited time. In addition, they can make connections, join communities and explore and create new NFTs on the platform.
The company is working towards diversifying its income source in order to shield itself from the vagaries of cryptocurrency prices. Given the rising investor interest in NFTs, Coinbase NFT has the potential to draw more users to the platform and eventually add to the revenue stream when it starts charging transaction fees.
Outlook – challenging times ahead
Coinbase sees tougher times ahead as it expects lower monthly transacting users and trading volumes in the second quarter than in the first quarter of 2022. It also forecast “modestly lower” subscription and services revenue in the second quarter compared to the first quarter. The company expects technology and development and general and administrative expenses to be in the range of $1.1-$1.3 billion for the second quarter.
For the full year, Coinbase aims to keep its adjusted EBITDA losses to $500 million. Amid a downturn in the crypto market, Coinbase took a U-turn on its aggressive hiring plans for the year. The company had earlier announced plans of hiring 1,000 people at its India hub but recently said that it needs to slow down future hiring and reassess headcount.
The times ahead are indeed challenging for Coinbase, especially if the downturn in crypto asset prices prolongs. This will negatively hurt its trading volumes and revenues. Diversification into other assets like NFTs is good, but not enough to cushion the losses of the cryptocurrency market in the short term. The NFT market in itself is new, and hence comes with uncertainties, and Coinbase is yet to start charging commission fees on it. Amid all this, Coinbase indeed stands on a shaky base.
