Stock of the week - MicroStrategy (03.10.2024)

MicroStrategy shares are currently trading at $64.51, up 141% this year, reflecting the company's aggressive Bitcoin acquisition strategy and the cryptocurrency's price appreciation. This comes after the company reported Q2 2024 results and continued its Bitcoin purchases, solidifying its position as the largest corporate holder of the cryptocurrency.

Key financial data:

• Revenue: $111.4 million in Q2 2024, down 7.4% year-over-year and 6.9% on a non-GAAP constant currency basis
• Net loss: $102.6 million in Q2 2024, compared to a net income of $22.2 million a year ago

Quarterly earnings breakdown:

• Subscription Services Revenues: $24.1 million in Q2, up 21.1% year-over-year
• Product licenses and subscription services revenues: $33.4 million in Q2, down 5.7% year-over-year
• Product support revenues: $61.7 million in Q2, down 6.6% year-over-year
• Other services revenues: $16.3 million in Q2, down 13.7% year-over-year
• Digital asset impairment losses: $180.1 million in Q2, compared to $24.1 million a year ago

Key business metrics:

• Operating margin: -179.8% in Q2 2024 (calculated from provided data)
• Net margin: -92.1% in Q2 2024 (calculated from provided data)
• BTC Yield (new KPI): 12.2% year-to-date 2024
• Total Bitcoin holdings: 226,500 BTC as of Q2 2024
• Average cost per Bitcoin: $39,292
• Market value of Bitcoin holdings: $13.7 billion (at $60,000 per Bitcoin)

MicroStrategy, originally a business intelligence software company, has transformed into the world's first Bitcoin development company and the largest corporate holder of Bitcoin. The company's Q2 2024 results reflect its continued focus on its Bitcoin strategy, with significant year-over-year growth in Bitcoin holdings despite a decline in its core software business revenues.

The company's business model has shifted dramatically, with its value now primarily tied to its Bitcoin holdings. This strategy aims to leverage Bitcoin's potential as a store of value and hedge against inflation. The introduction of the "BTC Yield" metric, which measures the company's ability to grow its Bitcoin holdings faster than its share count, demonstrates MicroStrategy's commitment to this approach.

Financial Engineering and Capital Structure

MicroStrategy's financial position remains complex, with $66.9 million in cash and cash equivalents as of June 30, 2024. The company has been actively managing its debt, issuing $800 million in new convertible notes and redeeming $650 million in existing notes during Q2.

MicroStrategy's approach to financing its bitcoin purchases involves sophisticated financial engineering:

• Convertible Notes: The use of convertible notes allows MicroStrategy to access capital at lower interest rates compared to traditional debt, with the potential for conversion to equity if the stock price appreciates significantly. This structure provides flexibility and potentially reduces the cash burden of debt service.
• Senior Secured Notes: The issuance of senior secured notes, such as the 6.125% notes due 2028, provides MicroStrategy with non-dilutive capital for bitcoin purchases. However, these notes also represent a fixed obligation that must be serviced regardless of bitcoin's price performance.
• Equity Issuance: Through ATM programs and direct offerings, MicroStrategy can issue new equity when its stock price is high, effectively using market enthusiasm for its bitcoin strategy to fund further purchases.

The Evolution of MicroStrategy's Financial Strategy

The company's aggressive Bitcoin acquisition strategy, led by founder Michael Saylor, underscores its belief in the long-term value of the cryptocurrency. This approach has led to significant volatility in the company's financial results, with large impairment losses offset by potential gains from Bitcoin price appreciation.

This evolution can be broken down into several key phases:

1. Initial Bitcoin Acquisition (August 2020)

MicroStrategy's first bitcoin purchase of $250 million was seen as a bold move to protect the company's cash reserves from potential inflation. This decision, spearheaded by Michael Saylor, was based on the belief that bitcoin would serve as a more effective store of value than cash.

2. Debt-Financed Expansion (2020-2021)

Capitalizing on low interest rates, MicroStrategy began issuing convertible notes to finance further bitcoin purchases. This strategy allowed the company to leverage its balance sheet to accumulate bitcoin without diluting existing shareholders.

3. Equity Offerings and "At-the-Market" Programs (2021-Present)

As the stock price appreciated, MicroStrategy initiated equity offerings and at-the-market (ATM) programs to raise additional capital for bitcoin purchases. This approach allowed the company to take advantage of its increased market capitalization to further its bitcoin accumulation strategy.

4. Introduction of "BTC Yield" Metric (2024)

The introduction of the "BTC Yield" metric represents a new phase in MicroStrategy's strategy, focusing on increasing bitcoin holdings relative to the company's fully diluted share count. This metric aims to quantify the value creation for shareholders through the bitcoin accumulation strategy.

Bitcoin Price Correlation

The growing institutional interest in Bitcoin, as evidenced by the launch of Bitcoin ETFs and increasing corporate adoption, presents significant growth potential for MicroStrategy's strategy. However, the company must navigate ongoing regulatory uncertainties, potential volatility in Bitcoin prices, and the need to maintain its core software business. While MicroStrategy's stock price is highly correlated with bitcoin, it often exhibits higher volatility. This is due to the leveraged nature of the company's bitcoin holdings and market perceptions of the execution risk associated with its strategy. The significant premium at which MicroStrategy trades relative to its bitcoin holdings reflects several factors:

1. Execution premium for Saylor and the management team
2. Optionality value of future bitcoin purchases
3. Accessibility for institutional investors who cannot directly hold bitcoin
4. Potential for the strategy to compound returns over time

MicroStrategy's commitment to its Bitcoin strategy is evident in its continued acquisitions and financial engineering. The company's ability to raise capital through convertible notes and equity offerings has allowed it to pursue its Bitcoin accumulation strategy while managing its debt obligations.

While the current market valuation suggests strong investor confidence in MicroStrategy's Bitcoin strategy, investors should carefully consider the risks associated with this approach. These include potential regulatory challenges, Bitcoin price volatility, and the company's ability to service its debt obligations. MicroStrategy's future performance will likely depend on its ability to balance its Bitcoin strategy with the needs of its core software business while navigating the evolving cryptocurrency landscape.

Scenario Analysis: Potential Future Outcomes

Given the unique nature of MicroStrategy's strategy, it's crucial to consider various potential scenarios:

Bullish Scenario

• Bitcoin price appreciates significantly over the long term
• Institutional adoption of bitcoin accelerates
• MicroStrategy continues to execute its strategy successfully
• Outcome: Substantial appreciation of MicroStrategy's stock, potentially outperforming bitcoin due to leverage
• High levels of capital for acquisitions 

Bearish Scenario

• Bitcoin price declines or stagnates for an extended period
• Regulatory challenges emerge for cryptocurrencies
• MicroStrategy faces difficulties servicing its debt obligations
• Outcome: Significant decline in stock price, potential financial distress for the company

Moderate Scenario

• Bitcoin price appreciation moderates
• MicroStrategy's core software business stabilizes or grows
• The company successfully manages its debt obligations
• Outcome: Stock performance roughly tracks bitcoin, with the software business providing a valuation floor

Valuation:

We believe that MicroStrategy effectively functions as a call option, enabling investors to participate in the upside potential of Bitcoin's price. As a result, there is no clear DCF framework for cryptocurrency valuation applicable to the company. MicroStrategy is also a pioneer in terms of implementing Bitcoin into its assets, which makes it challenging to find peers with similar business models.

We believe that the current MicroStrategy business model is capitalizing on the upside of Bitcoin's price, which could later help the company acquire functioning businesses and act in a similar fashion to Berkshire Hathaway. That is why we will provide general information about Bitcoin's price growth potential, as we believe this is what the business model currently represents.

Firstly, Bitcoin ETFs have become a clear success and are among the fastest-growing in terms of AUM growth. This showcases that financial institutions are starting to believe in the future of cryptocurrencies. Flows into Bitcoin ETFs also show a recent uptick in interest due to lower interest rates. Lower interest rates also enable MicroStrategy to obtain debt at a lower cost and purchase more Bitcoin.

Additionally, Bitcoin tends to follow a seasonal structure, which could provide an opportunity to time purchases of MicroStrategy shares in "weaker" months.

We believe that MicroStrategy represents an option on the future growth of Bitcoin's price and cryptocurrency adoption. This perspective is grounded in several key factors:

1. Leveraged Exposure: MicroStrategy's strategy of using debt and equity to finance Bitcoin purchases provides investors with leveraged exposure to Bitcoin price movements. This amplifies potential returns (and risks) compared to direct Bitcoin ownership.
2. Institutional Access: As a publicly traded company, MicroStrategy offers a way for institutional investors to gain Bitcoin exposure through traditional equity markets, potentially capturing demand from entities that cannot or prefer not to hold Bitcoin directly.
3. Strategic Accumulation: The company's "Bitcoin yield" strategy aims to increase Bitcoin holdings faster than share dilution, potentially creating additional value for shareholders beyond mere price appreciation.
4. Optionality in Capital Deployment: MicroStrategy's substantial Bitcoin holdings provide it with significant optionality. As Bitcoin's price appreciates, the company gains more financial firepower to potentially acquire other businesses or invest in growth opportunities.

We also believe that the NAV premium of 2.17 is the price paid for being able to gain upside when MicroStrategy decides to deploy the capital received from Bitcoin price appreciation. This premium can be justified by several factors:

1. Management Expertise: The premium reflects investor confidence in Michael Saylor and the management team's ability to execute the Bitcoin strategy effectively and make value-accretive decisions with appreciated capital.
2. Financial Engineering: MicroStrategy's sophisticated use of convertible notes and other financial instruments to fund Bitcoin purchases at favorable terms adds value beyond simple Bitcoin ownership.
3. Potential for Value Creation: The premium incorporates the expectation that MicroStrategy will use its Bitcoin-backed balance sheet to create additional value, possibly through acquisitions or expansion into new business areas related to cryptocurrency and blockchain technology.
4. Liquidity and Accessibility: The premium compensates for the increased liquidity and ease of investment that MicroStrategy offers compared to direct Bitcoin ownership or other crypto investment vehicles.
5. Regulatory Arbitrage: For some investors, particularly institutions, holding MicroStrategy stock may offer regulatory or compliance advantages over direct Bitcoin ownership.
6. Upside Participation with Downside Protection: The company's core software business, although now a smaller part of its value proposition, still provides some cash flow and could offer a degree of downside protection in scenarios where Bitcoin prices decline significantly.

It's important to note that this premium also reflects the risks associated with MicroStrategy's strategy, including potential regulatory challenges, Bitcoin price volatility, and the company's ability to manage its debt obligations. Investors should carefully consider these factors when evaluating MicroStrategy as an investment option.

In essence, the NAV premium represents the market's valuation of MicroStrategy's Bitcoin strategy, management expertise, and potential for future value creation beyond simple Bitcoin price appreciation. As the cryptocurrency market evolves and MicroStrategy's strategy unfolds, this premium may fluctuate based on the company's execution and broader market perceptions of the value of its approach to Bitcoin investment.

Recommendations: MicroStrategy has 8 recommendations, with 8 "buy" and highest price of $289. The 12-month average stock price forecast is $202.88, implying a 23.2% upside potential from the current price.

Technical analysis: The price is currently trading near the 23.6% Fibonacci retracement level, which has repeatedly acted as both support and resistance. Additionally, the tightening of Simple Moving Averages (SMAs) suggests the potential for a larger price movement. The RSI indicates clear bullish divergence, with higher highs and higher lows, while the MACD is trending upwards with buy signals from last month. Both the 100-day and 50-day SMAs are positioned above the 30-day SMA, indicating a strong uptrend. MicroStrategy’s price has been in a longer consolidation phase between the 23.6% and 61.8% Fibonacci retracement levels. It currently appears to be forming a bullish pennant on both daily and weekly timeframes, which began in February this year, coinciding with the launch of Bitcoin ETFs trading.

Source: xStation