Marathon Digital: It Is Now Better Than Ever To Just Own Bitcoin Instead

Summary Marathon Digital's stock has underperformed Bitcoin. MARA stock increased by 44.5% compared to 166.7% for BTC-USD. In 2023, Net Income hit a record $261.2 million, but most of it was due to one-time gains. In my opinion, the company is swimming upstream, as its efficiency gains need to overcome both the Bitcoin halving every four years as well as the nature of Bitcoin. There is a risk that Marathon Digital could have a dilution event, given that they essentially have to double their hash rate through capital expenditures. In my last article , I stated that Marathon Digital’s ( MARA ) stock would underperform the actual Bitcoin ( BTC-USD )asset. While the company’s stock had done pretty well for itself, the results indicate that you would have still been better off owning the actual Bitcoin. Marathon Digital Stock Underperforms BTC Using September 2023 as the starting point, as this was the bottom for Bitcoin prices, buying MARA stock would have seen an increase in your investment by 44.5% compared to the 166.7% increase in Bitcoin price. Data by YCharts The volatility in holding Bitcoin over the same period is a lot less as well. MARA stock traded as high as $34 in March only to crash and lose close to 50% of its value. The stock is currently trading at a share price of $17.4. This makes Bitcoin a much more superior asset compared to Marathon Digital’s stock as it has achieved a higher reward while being less volatile (i.e. less risky from a Modern Portfolio Theory standpoint). There are two major reasons why I believe that Marathon Digital and other Bitcoin miners will continue to underperform the actual Bitcoin asset class. The first is that I believe the reason for MARA stock’s meteoric rise late last year is liquidity from traders who wanted to get Bitcoin exposure without owning the asset itself. Before January this year, it was harder for the typical layman to gain exposure to Bitcoin in their portfolio. While opening an account with a crypto-exchange such as Coinbase ( COIN ) is simple for active traders, for the everyday layman with a basic 401K it can still be a daunting task. According to an article in NerdWallet, Peter Eberle chief investment officer of crypto investment firm Castle Funds mentions that “Many investors can’t currently get exposure. For example, many people with 401(k)s, IRAs, and similar accounts can’t easily access Bitcoin. These investors will be able to allocate funds going forward. This will drive demand in coming years”. According to that same article by NerdWallet, there are 11 Bitcoin spot ETFs available. Almost all of which are from major reputable firms and have relatively low expense ratios. Below is the information. Franklin Templeton Digital Holdings Trust ( EZBC ) - 0.19% fee Bitwise Bitcoin ETF ( BITB ) - 0.20% fee VanEck Bitcoin Trust ( HODL ) - 0.20% fee ARK 21Shares Bitcoin ETF ( ARKB ) - 0.21% fee iShares Bitcoin Trust ( IBIT ) - 0.25% fee Fidelity Wise Origin Bitcoin Fund ( FBTC ) - 0.25% fee WisdomTree Bitcoin Fund ( BTCW ) - 0.25% fee Invesco Galaxy Bitcoin ETF ( BTCO ) - 0.25% fee Valkyrie Bitcoin Fund ( BRRR ) - 0.25% fee Hashdex Bitcoin ETF ( DEFI ) - 0.90% fee Grayscale Bitcoin Trust ( GBTC ) - 1.50% fee The SEC announced the approval for Spot Bitcoin products in January 2024 coincides with the peak of MARA stock. The stock reached an all-time high at that time of around $31 and lost roughly half its value falling to as low as $15. There was another rally in late February but the stock failed to meaningfully break the resistance level of $31. It is my view that the availability of a multitude of Spot Bitcoin ETF options will decrease the demand for Bitcoin mining stocks as investors flock to gain direct exposure instead. In my view, this means that there should be less demand from retail traders as Marathon Digital is no longer the best proxy for Bitcoin. Looking at Marathon Digital as a Business The second reason that I believe that MARA stock will underperform is because the business itself has a lot of challenges. On the surface, Marathon Digital's business seems to be firing on all cylinders. The company achieved a 229% increase in revenue from $117.8 million in 2022 to $387.5 million in 2023. The number of Bitcoins mined hit a record of 12,852 BTC in 2023 compared to 4,144 BTC in 2022. The company’s Energized hash rate more than doubled from 7.0 EH/s in 2022 to 24.7 EH/s in 2023, an increase of 253%. As per the company presentation, management plans to further increase this operational hash rate to around 35 EH/s and 37 EH/s in 2024. The company plans to reach the ambitious target of 50 EH/s essentially doubling capacity. Its latest reported hash rate is at 28.7 EH/s as of the end of February. MARA Investor Presentation (MARA Investor Presentation) Now these are very ambitious targets, however a big elephant in the room is the Bitcoin halving event next week. In simple terms, Bitcoin halving is a periodic scheduled event where the number of new Bitcoin mined per block reduces by half. For holders of the actual Bitcoin asset, this isn’t a big deal as it makes the value of the Bitcoin one already owns even more valuable. However, for miners like Marathon Digital, the number of Bitcoins they can mine is cut in half therefore revenues are cut in half. This affects the company’s future revenues much more than the one-time bump they will see from an increase in Bitcoin price. As of March 2024, the company has 17,381 Bitcoin. Multiply that amount by a Bitcoin price of $70,000 and divide that by the 222.6 million shares number of shares outstanding. The approximate value per share of the company’s Bitcoin holding is only $5.46 per share. So even if the halving event isn’t fully priced in, and BTC has an increase in price, this translates to only a marginal increase in value for MARA stock from the company’s Bitcoin holdings. Meanwhile, the price of Bitcoin will have to roughly double from here Marathon to maintain its Revenue as the amount of Bitcoin it can mine drops by half. The Difficult Economics of Bitcoin Mining Apart from the halving event, in my humble opinion, Marathon Digital as a Bitcoin miner also suffers from difficult business economics. According to the company’s financials in 2023 , Net Income hit a record $261.2 million or $1.06 per share. This is in stark contrast to the Net loss of $694 million or $(6.12) per share in 2022. However, the bulk of this income comes from Gains on digital assets (i.e. Bitcoin that Marathon Digital holds) which were $331.4 million. This is a one-time gain from the rise in Bitcoin prices and the company’s adoption of ASU No. 2023-08 accounting standards. In other words, this Net Income cannot be projected in the future. Looking at the company’s Gross Income for 2023, we can see that Marathon Digital actually lost money by producing Bitcoin. The company has a total cost of revenues of $402 million against revenues of $387.5 million. Of the total cost of revenues, $223.3 million are for Energy and Hosting while $179 million are expenses related to the depreciation of mining rigs. MARA 10-K (MARA 10-K) This leads to the other issue I have with Marathon Digital’s business. Looking at the income statement, the company has very little operating leverage. For most manufacturing and mining companies, fixed costs or capital expenses for equipment are one-time investments that last for 10-20 years. However, for Marathon Digital, equipment, via the mining rigs, is rapidly used up and depreciated. Based on information from the 10-K, the company shortened the estimated useful life for its mining rigs from 5 years to 3 years in 2023. Therefore, the costs to replace its capital equipment can’t be spread over long periods and are expensed almost immediately in cost of revenues. The company is also operating its mining operations at close to full capacity. So there is very little left to be squeezed out of its current equipment. Per the latest earnings transcript . By the end of the fourth quarter of 2023, we were operating near full strength after Garden City was fully energized in October, following several months of regulatory delays. In December, we averaged 90% capacity across all sites and at the same time, we benefited from a huge surge in transaction fees on the Bitcoin network. Putting all these together, what I am saying is that the company will have to continuously spend money to increase Marathon Digital’s number of Bitcoin mined. The company has various initiatives such as its “Two-Phase Immersion Cooling System ” and its “Industry-leading firmware and a control board” to boost efficiency. However, the company is swimming upstream in my opinion as these efficiency gains need to overcome both the Bitcoin halving every four years as well as the nature of Bitcoin which gets harder to mine as time goes on. To examine whether the company has the reserves to continue its expansion, we can examine the Balance Sheet. Marathon Digital as of March 2024 has a combined unrestricted cash and cash equivalents of $324.3 million and 17,381 bitcoin. Last year, the company reduced its debt load from $748 million to $331 million, a reduction of 56%. However, this was off the back of massive shareholder dilution, which I discussed in my last article. In total, cash and bitcoin holdings at $70,000 is roughly $1.2 billion. In my view, there is a risk that Marathon Digital could have a dilution event given that they essentially have to double their hash rate through capital expenditures. Conclusion It may seem unfair that I am picking on Marathon Digital here given that other Bitcoin miners will be facing the same issues. However, I like using Marathon Digital as a benchmark because it is one of the leaders in this space. The company is not profitable on the Gross Income level as it faces the challenges of Bitcoin mining. While it is true that the company could achieve profitability if Bitcoin prices continue to increase from here wouldn't it be better to just gain exposure through a spot Bitcoin ETF instead? As discussed, unlike actual physical metals miners, companies like Marathon Digital have low levels of operational leverage. Given the challenges that the company is facing and the easy availability of actual Spot Bitcoin ETFs in my view, it is more advantageous for the average retail investor to simply buy a Bitcoin ETF for the exposure.