Analysis of MicroStrategy Incorporated (NASDAQ: MSTR) using a parts valuation sum, I think the company is overvalued by more than 60%. Even if one is bullish on Bitcoin (BTC-USD), there are a multitude of ways to gain exposure without having to pay the exorbitant premium to NAV on MSTR shares. Bitcoin is unlikely to recover sustainably until macro risk appetite improves. Investors can monitor this by looking at the ratio of the ETF Invesco S&P 500 High Beta (SPHB) to the Invesco S&P 500 Low Volatility ETF (SPLV) ETFs.
Brief overview of the company
MicroStrategy Incorporated, led by its Mercurial Chairman Michael Saylor (formerly CEO), is a business intelligence software company that also owns around 130,000 Bitcoin.
MSTR, once a sleepy little capital survivor of the dot-com bust, famous adopted its Bitcoin strategy shortly after the COVID pandemic. First, he spent some of his cash reserves to acquire ~21,000 Bitcoin in August 2020 at ~$11,600/Bitcoin. After exhausting its liquidity reserves, MSTR went even further, issuing over $2 billion in debt to acquire even more Bitcoin (Figure 1).
Ultimately, the company acquired around 130,000 Bitcoin for $4 billion, funded by multiple debt issuances.
The stock price has mounted the Bitcoin rocket
MSTR stock price rode the Bitcoin rocket, hitting a high of $1,315 in early 2021, nearly 10 times its pre-pandemic range of $115-$165 (Figure 2).
MSTR’s rise was even more remarkable, given that the price of Bitcoin only rose from around $11,000 when MSTR first bought them, to $45,000 when MSTR peaked at $1,315. .
Part of the reason for MSTR’s meteoric rise was scarcity. At the time, MSTR was one of the few vehicles investors could use to speculate on the price of Bitcoin. In effect, MSTR was trading like a Bitcoin ETF, with a significant premium to its “net asset value”.
However, as 2021 progressed, crypto investors began to have more investment options. First, ETFs like the Purpose Bitcoin ETF (BTCC:CA) that hold Bitcoin have started trading on Canadian exchanges. Additionally, crypto exchanges such as Coinbase (COIN) have become popular, giving investors direct access to crypto assets. Finally, ETFs like the ProShares Bitcoin Strategy ETF (BITO) were launched on US exchanges which gave investors exposure to Bitcoin through futures contracts.
With so many ways to gain exposure to crypto and bitcoin, why would anyone need to buy MicroStrategy stock?
The valuation of the sum of the parts suggests that the stock is overvalued by 60%
Value MicroStrategy using a sum-of-the-parts analysis, assuming the Enterprise Software business is trading at 2.75x Price/Sales (the company was trading between 2.5 and 3.0x Price/Sales). Sales before adopting the Bitcoin strategy), I find an equity value of $139/share. With stocks currently trading at $226/share, I believe they are overvalued by more than 60%.
Bitcoin strongly correlated with risk appetite
Leaving aside the bull case for Bitcoin, since we believe it or we do not believe it, we can see from factual evidence that Bitcoin prices are strongly correlated with risk appetite, as measured by the ratio of the Invesco S&P 500 High Beta ETF to the Invesco S&P 500 Low Volatility ETF. Figure 4 shows Bitcoin’s ebb and flow price as the SPHB/SPLV ratio rises and falls.
Currently, risk appetites are still on the downside, hampered by Fed interest rate hikes and tighter financial conditions. Until the macro situation changes, Bitcoin is unlikely to experience a sustainable rally.
Risk to my call
The risk to my cautious call is obviously that if the Bitcoin price rises sustainably, then my bearish MicroStrategy view will prove incorrect. I think investors can protect themselves from this risk by trading MSTR pairs against an asset that has a positive leverage effect on Bitcoin prices. For example, if we take a long position on the BITO ETF (BITO is trading close to its net asset value) and a short position on MSTR, we can hedge most of the Bitcoin risk and only bet on the drop in premium from MSTR to NAV over time.
Investors who are bullish on Bitcoin may even want to bet on the Grayscale Bitcoin Trust (OTC:GBTC), as it is currently trading at a 37% discount to NAV (Figure 5). Historically, when Bitcoin was in a bullish phase, GBTC traded at a premium to NAV of up to 30% (January 2021). However, GBTC has a problem in that the trust currently does not have a built-in mechanism to close its remittance to NAV. There was hope that GBTC offers converting to an ETF would close the rebate, however, to date, the SEC has rejected GBTC’s conversion proposal.
Investors should note that any pair trading strategy will involve short selling MSTR, which may introduce idiosyncratic risks associated with short selling meme stocks such as MSTR.
I think MSTR is overvalued by more than 60% if we analyze the company using a coin valuation sum. Even if one is bullish on Bitcoin prices, there are plenty of ways to gain exposure without having to pay the exorbitant NAV premium on MSTR shares. For example, investors can choose the BITO ETF which trades at NAV, or the GBTC Trust which trades at a 37% discount to NAV.
In my view, Bitcoin is unlikely to recover sustainably until macro risk appetite improves. Investors can monitor this by looking at the ratio of ETF SPHB to SPLV.