If the market cools down, some companies may be forced to sell Bitcoin at a discount, and even the companies themselves may be acquired by others.

Written by: André Beganski, Decrypt

Translated by: Felix, PANews

Numerous publicly traded companies, including brewers, cannabis producers, and energy storage firms, are increasingly adding Bitcoin to their balance sheets. However, observers indicate that this strategy faces significant risks if Bitcoin prices fall to a certain level or if their fundraising capabilities are restricted.

These companies may be forced to sell their Bitcoin holdings at a discount, or they may even sell the companies themselves.

Ben Werkman, Chief Investment Officer of financial services firm Swan Bitcoin, stated, "For high-reputation operating companies, this could be an opportunity to consolidate the industry and buy Bitcoin at a 10% discount if they get into trouble. This scenario could indeed happen if the bear market lasts for a long time."

As more companies build reserves based on Bitcoin and other digital assets, experts are expressing caution. This practice was pioneered by Strategy (formerly MicroStrategy) and has achieved great success. However, with Bitcoin prices soaring and the stock prices of some new Bitcoin-focused companies rising, the potential risks of this approach have largely been overlooked.

Earlier this month, Geoff Kendrick, head of digital asset research at Standard Chartered Bank in the UK, wrote in a report, "Currently, the Bitcoin reserve strategy has increased buying pressure on Bitcoin, but we believe that over time, this situation may reverse."

Against the backdrop of former President Trump's more cryptocurrency-friendly policies, the number of companies attempting to emulate Strategy's approach by borrowing to buy more Bitcoin has surged. Strategy began purchasing Bitcoin in 2020 and has funded its acquisitions over the years through the issuance of convertible bonds, common stock, and preferred stock—this strategy has been emulated by several emerging companies.

Since transitioning from a software development company, Strategy's stock price has soared over 2500%, and the company currently holds approximately 582,000 Bitcoins, valued at over $61 billion, accounting for 2.7% of the total Bitcoin supply.

According to Bitcoin Treasures data, among 130 publicly traded companies, none hold more than 21 million Bitcoins (0.25% of the total Bitcoin supply). The archived version of the site shows that at the beginning of this year, only 75 publicly traded companies held Bitcoin.

"If Bitcoin reserve companies go bankrupt, there could be a 50% loss (of principal)," said Matt Cole, CEO of Strive Asset Management. "I think the likelihood of risk in the future is very high. This is something to pay attention to."

Today, Matt Cole believes the risk of Bitcoin reserve companies going bankrupt leading to Bitcoin liquidation is low, stating that its potential destructive power on the market would not be greater than "a typical weekend derivatives liquidation event."

Matt Cole indicated that Strive, which manages over $2 billion in assets, may start to see actionable investment opportunities depending on market conditions. "I'm not sitting here today saying, 'We need to be ready to acquire 10 different Bitcoin reserve companies.' It's very likely that I will hold that view in the future, and we will be prepared for it."

In a recently released report, David Duong, head of global research at Coinbase, wrote, "In the short term, the pressure to sell off is not the issue," and refinancing methods may ultimately help leveraged companies avoid liquidating their Bitcoin holdings.

The Fate Controlled by Funders

Most publicly traded companies strive to maximize shareholder value by increasing revenue, improving operating margins, or optimizing capital efficiency. However, many companies adopting Bitcoin reserve strategies aim to maximize shareholder value by increasing the number of Bitcoins held per share. (Shareholders do not have direct claims to the Bitcoins in these companies' reserves.)

Strategy has historically favored using convertible bonds to purchase Bitcoin, holding $8.2 billion in outstanding debt that may convert to equity in the future. Ben Werkman, Chief Investment Officer of Swan Bitcoin, stated that while demand for Strategy's tools has surged, smaller companies adopting Bitcoin may take a long time to reach this level.

Werkman explained that for a company's convertible bonds to be popular on convertible arbitrage trading platforms (which tend to trade Strategy's debt), there first needs to be a strong options market, which depends on factors like stock trading volume.

"In the convertible bond market, you have to scale up to a meaningful size, and you first need to have a derivatives market so that buyers of the bonds can hedge their risks. Not all companies have an options market from the start."

Werkman noted that as another method of leveraging their balance sheets, some companies are using bank term loans, but under certain terms, this could force them to sell. "If they go borrow money from the bank, they are handing their fate over to others. At that point, you should be worried about these companies."

When assessing Bitcoin reserve companies, mNAV (market value to net asset value ratio) has become an informal but popular metric. As of last Friday's close, Strategy's mNAV was 1.7, indicating that its $107 billion market value exceeds the value of its Bitcoin reserves.

However, analysts, including Greg Cipolaro, head of global research at NYDIG, believe that this valuation metric is not ideal as a comprehensive indicator.

In a recent report, he wrote, "Metrics like 'mNAV' (market value compared to Bitcoin holdings) have serious flaws when comparing different types of Bitcoin reserve companies, failing to adequately account for differences in (operating companies) and capital structures."

When Premium Turns to Discount, Danger Follows

Werkman stated that when a company's stock price has a premium relative to its Bitcoin holdings, it is easy to increase the value of each Bitcoin per share by issuing common stock. However, he warned that if this premium turns into a discount, the company's prospects may change accordingly.

For an emerging Bitcoin reserve company, the value of its operating company, or its underlying business, is "very important" in the early stages. Not all companies buying Bitcoin are trying to replicate Strategy's strategy. Similar to the logic behind some state-level Bitcoin legislation, some companies choose to exchange cash and U.S. Treasury bonds for Bitcoin to maintain their purchasing power.

Ultimately, Werkman stated that Strategy's Bitcoin reserve strategy revolves around volatility. As the company's common stock price fluctuates, it can raise funds at a premium through products like convertible bonds, raising funds based on future value.

"They seized the arbitrage opportunity, and this arbitrage opportunity is the reason for the increase in the value of each Bitcoin per share for common stock shareholders. They leverage the capital markets and the incentives of all these different investor groups to create lasting value."

As more Bitcoin reserve companies emerge, Werkman believes that investors will begin to categorize them into "growth" and "value" companies based on the expected growth rate of each Bitcoin per share. While smaller companies may ultimately be acquired, their ultimate development direction may evolve into an asset class alongside Bitcoin.

"That's the magic of the moment." "They choose to exit the collapsing financial system and instead engage in what they believe is the future financial system, where there is a first-mover advantage."

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