Summary of the thesis
Coinbase Global, Inc. (NASDAQ:NASDAQ: CURRENCY) recently rebounded strongly, following positive news and a strong rally in Bitcoin (BTC-USD). Looking at analyst forecasts, it seems clear that Coinbase is undervalued, which is why I expect it. rally strongly, especially as we enter a new crypto bull market. Even with the regulatory uncertainty surrounding crypto, I am bullish on COIN and calculate its fair value of at least $260.
Coinbase is one of the largest exchanges in the world. It was founded in 2012 by Brian Armstrong and began listing on Nasdaq in April 2021. It was at the height of market valuations and Coinbase shares started trading at $250, with a valuation of $86 billion. dollars.
As we can see in the chart above, Coinbase traded as high as $360 in November, but has since fallen significantly along with most Nasdaq stocks. At the low, COIN was trading at just over $40. However, we have seen a major rally over the past month with Coinbase making headlines for good and bad reasons.
On the unfortunate news side, Coinbase was accused by the SEC to trade in non-registered securities. Of course, this debate spills over into that of what cryptocurrency is. On top of that, a former Coinbase official has been charged with insider trading. Apparently different wallets were used for buy tokens before public listings in Coinbase.
As these headlines dampened the price of Coinbase, the stock rallied on the news that it was partnering with BlackRock to provide institutional investors access to cryptography. Needless to say, this is huge for Coinbase.
Over the past few weeks, COIN has rallied strongly ahead of the Ethereum (ETH-USD) merger, which many see as good news for Coinbase. The company could benefit from Ethereum staking.
How does Coinbase make money?
As we can see from this excerpt from Coinbase’s annual report, around 90% of revenue comes from transaction revenue, and in turn, the bulk comes from retail. Every time you make a transaction, Coinbase charges a small fee, much like a stockbroker or payment processor. Coinbase also derives revenue from subscriptions and services like custody.
Coinbase has seen significant revenue growth since 2019, growing from $533,735 million to nearly $8 billion in 2021. Granted, this happened during an epic crypto bull run and the growth for 2022 will be probably much lower.
Another important metric for Coinbase is the number of users, which has also grown at a steady pace:
The number of users transacting monthly increased by 307%, almost three times as many verified users. This shows the dynamic of retail traders becoming more active at the height of the bull market.
The not-so-secret formula for Coinbase to increase revenue is simple. More transaction users and higher crypto prices go hand in hand.
What about profitability?
The next natural question to ask is what about profitability?
Unlike many growing businesses that rely on high earnings-based inventory or have low margins due to high marketing spend, Coinbase is highly profitable. Net income grew 10x from 2020 to 2021. The company posted EBITDA of over $4 billion in the last reported year. This brings COIN’s EBITDA margin to 42.45%
This kind of profitability is quite remarkable for a company that is growing so quickly, and I expect such a margin to be sustainable in the long term.
Forecast and evaluation
Those who bought COIN during its IPO would have suffered heavy losses, but so did the market. Poor share price performance is not indicative of Coinbase’s future potential and valuation.
Coinbase is the go-to exchange for retailers, and it has so many potential growth opportunities. Institutional trading will surely be a great source of income, especially after the BlackRock deal.
Besides that, crypto is a growing market with many other areas of interest. DeFi, NFT, synthetic assets. Coinbase only scratches the surface.
Now let’s take a look at analyst forecasts for Coinbase.
As we can see, 2022 is set to be a bad year, with revenue halving. This is possible, given that crypto prices are much lower, and they could still take a few months to recover and even longer to break past previous highs. However, as we move into a more favorable crypto environment, Coinbase will thrive. Even Wall Street analysts believe that by 2025, Coinbase will have nearly $7 billion in annual revenue. Based on the dynamics of previous Bitcoin cycles, 2025/26 could be the peak of the next bull run, so I will make an assessment for those years.
Below we can see a 5 year old DCF model provided by Finbox.
I used analyst estimates as a benchmark, although I was slightly more optimistic in my forecast that COIN will hit $9 billion in revenue by 2026. This aligns with my belief that prices for crypto are expected to surpass previous highs by at least a multiple of 2-3. This is a very conservative estimate, given that Coinbase hit nearly $8 billion in 2021. Once Bitcoin recovers to new all-time highs and interest increases, Coinbase should easily surpass its 2021 revenue. Now, I’ve forecast a substantial margin contraction in terms of EBITDA margin, assuming competition intensifies.
Even with what I consider to be a moderate forecast, the fair value obtained in this model is $172.4, which implies a juicy upside potential of +100%.
Of course, even with a bullish crypto market, Coinbase faces multiple risks, the biggest of which is regulation. While individual crypto holders may escape regulation to some extent, Coinbase is a listed crypto exchange and is in many ways at the mercy of regulators. We have already seen this with the recent SEC investigation. While there is no real risk of Coinbase shutting down, the company will likely face increased regulatory scrutiny, and compliance with the new rules will weigh on profitability.
In addition, profitability and growth will also be affected by competition. As crypto enters a new bull run, interest will rise again, and with money on the table, new companies and exchanges will quickly attempt to offer Coinbase-like services. One could even argue that decentralized exchanges are likely to take over COIN’s market share, but that misses an important point.
Indeed, DEXs are superior to centralized exchanges but are flawed in a fundamental way; boarding. Crypto veterans assume that retailers prefer a decentralized exchange, where you control your keys and can benefit from lower fees. However, for the average crypto beginner, the ease of use offered by Coinbase far outweighs the possible benefits of having your own wallet and controlling your keys, which is a moderately complex process.
This, combined with the fact that Coinbase is already a household name, will be key to the company’s success. People want to invest in crypto but are still very worried about it. Investing through a well-known, publicly listed and regulated company gives them the reassurance they need to take the plunge.
Coinbase is showing strong signs of reversal, and with what I think is a crypto bull market ahead, it could prove to be a great investment. It won’t necessarily outperform cryptos, but it is, in my opinion, a great addition to a well-diversified crypto portfolio.