MicroStrategy: Valuation Significantly Decoupled From Its Bitcoin Holdings

Summary MicroStrategy’s stock price has decoupled from its Bitcoin holdings, indicating overvaluation of its software business. MicroStrategy’s software business valuation has surged to $16.6 billion from just $1.79 billion one year ago, raising concerns. Insider sales of MicroStrategy stock, along with liquidity issues surrounding its Bitcoin holdings, suggest a “Sell” recommendation at this time. MicroStrategy Incorporated (MSTR) (“MicroStrategy”) has been widely considered as an investment vehicle to gain leveraged exposure to Bitcoin. However, the recent rise in MicroStrategy’s stock price has resulted in a decoupling from its Bitcoin holdings, suggesting an overvaluation of MicroStrategy’s software business. As a result, I recommend a “Sell” at this time on MicroStrategy’s stock. Introduction Founded in 1989 in the United States, MicroStrategy has been providing enterprise analytics software solutions to various sectors in multiple countries (mainly the United States) for the past 30 years. Its software business is performing well and steadily, but not exceptionally compared to other tech giants of the world. MicroStrategy has been cash-flow-positive for many years. However, MicroStrategy seemed to be limited in its growth potential and had to allocate excess cash to either repurchase its common stock or invest in other marketable securities. Between 2014 and 2019, MicroStrategy generated about $340 million in cash from operations. With this excess cash, including the funds that were already on hand in 2014, MicroStrategy purchased about $320 million in other marketable securities and repurchased about $180 million worth of its common stock. MicroStrategy turned almost into an asset management company. In its 2018 and 2019 fiscal years, MicroStrategy’s investment income was $12 million and $11 million respectively, while its operating income from the software business was only an income of $4 million and a loss of $1 million respectively. Then, the strategic pivot came in August 2020 when MicroStrategy decided to focus on Bitcoin rather than repurchasing its common stock or other marketable securities with excess cash. In addition, MicroStrategy went all out to raise funds specifically for the acquisition of bitcoins. As a result, in 2019 and 2020, MicroStrategy sold off its investment portfolio for a total of $474 million, raised $497 million in debt, and issued $154 million worth of common stocks to purchase the initial tranche of bitcoins worth $1.125 billion in 2020. MicroStrategy was quite lucky that it started acquiring Bitcoin immediately after the previous halving event around May 2020 and the price of Bitcoin was rising sharply. From August 2020 to December 2020, the price of Bitcoin tripled from about $10,000 each to about $30,000 each. With this windfall and the heightened attention (free marketing) MicroStrategy received from the world, MicroStrategy doubled down on its Bitcoin strategy. In 2021, MicroStrategy raised about $2.6 billion in debt and equity and purchased $2.63 billion worth of bitcoins. From there on, MicroStrategy’s business became intertwined with Bitcoin. Its software business’s valuation starts to fluctuate based on the price of Bitcoin. 31-Mar-24 31-Dec-23 31-Dec-22 31-Dec-21 31-Dec-20 31-Dec-19 31-Dec-18 Market Capitalization (Billions) 28.34 11.20 1.60 6.23 3.60 1.44 1.35 Number of Bitcoins Held 214,278.00 189,150.00 132,500.00 124,391.00 70,469.00 – – Bitcoin Price 71,333.65 42,265.19 16,547.50 46,306.45 29,001.72 N/A N/A Long-Term Debt Used to Acquire Bitcoin (Billions) 3.56 2.18 2.38 2.16 0.50 – – Bitcoin Holdings Value (Billions) 11.73 5.81 – 0.19 3.60 1.54 – – Software Business Value 16.61 5.39 1.79 2.63 2.06 1.44 1.35 Cash from Operations (Millions) 28.6 12.70 3.20 93.80 53.60 60.90 10.60 Multiple Over Cash Flows N/A 424.06 N/A 28.04 38.36 23.65 127.36 EBITDA without Bitcoin (Millions) – 9.80 0.90 10.30 46.10 57.10 – 1.00 4.00 Multiple Over EBITDA N/A 5,983.93 N/A 57.05 36.01 N/A 337.50 On December 31, 2018, and December 31, 2019, MicroStrategy’s software business was valued at about $1.4 billion as shown above. After the pivot into Bitcoin, without substantial change, its software business was valued at about $2.06 billion on December 31, 2020, and $2.63 billion on December 31, 2021. In 2021 and 2020, MicroStrategy spent about $160 million and $149 million in sales and marketing while generating similar levels of revenue ($511 million in 2021 and $481 million in 2020). As a result, compared to $191 million and $206 million spent on sales and marketing in 2019 and 2018, MicroStrategy was able to generate more cash from operations ($54 million in 2020 and $94 million in 2021). However, this marketing effect goes both ways. In 2022, when the price of Bitcoin was declining drastically, MicroStrategy’s revenue declined, too. In 2022, MicroStrategy only generated $3 million in cash from operations as seen in the table above. It could be said that due to the heightened market attention, MicroStrategy generated more revenue with fewer sales and marketing dollars spent, which helped increase its software business’ valuation. Current Valuation of MicroStrategy’s Software Business Now let’s look at what’s happening recently with MicroStrategy. Another Bitcoin halving event just took place in April 2024, pushing the price of Bitcoin to its historical high. For the fiscal year ended December 31, 2023, MicroStrategy generated just $12.7 million in cash from operations. For 2024 Q1, MicroStrategy generated about $3.9 million in cash from operations, which is similar to prior years for its software business. Revenue for 2024 Q1 declined slightly from $122 million to $115 million compared to the same quarter last year. Its gross profits and operating income from the software business declined accordingly. When diving deeper into its revenue composition, it appears that its Product Licenses revenue dropped sharply while its Subscription Revenue increased. As explained by MicroStrategy’s management, this is due to MicroStrategy’s push to convert customers from a perpetual Product Licenses model to a cloud-based subscription model. While the way that MicroStrategy charges its customers may be different, the business fundamentals for its software business remain the same. However, the value of MicroStrategy’s software business has exploded to $5.4 billion as of December 31, 2023, and $16.6 billion as of March 31, 2024, led by the rise in Bitcoin price. While MicroStrategy’s software business headcount went down from 2,123 employees on March 31, 2023, to 1,851 on March 31, 2024 (a 13% headcount decrease) with lower revenue, profitability, and uncertainty on the change to the subscription model, it seems quite unreasonable to believe that the software business is worth $16.6 billion at this time compared to $1.79 billion just about one year ago. It may be reasonable to justify the valuation of MicroStrategy’s software business back in 2021 and 2020 due to the marketing effect of the Bitcoin strategy, I am not certain the multiple of 424 times (as shown in the table above) cash from operations as of December 31, 2023, can be justified at this time. It appears that the higher Bitcoin’s price rises, the higher the market values MicroStrategy’s software business. As of March 31, 2024, MicroStrategy held 214,278 bitcoins in total, quite remarkable indeed, representing over 1% of total bitcoins mined to date. MicroStrategy is still raising funds to purchase more bitcoins. In 2024 Q1, MicroStrategy raised $782 million in proceeds from the 2030 Convertible Notes and $592 million in proceeds from the 2031 Convertible Notes. Then in 2024 Q2, MicroStrategy is looking to raise another $700 million in proceeds from the 2032 Convertible Notes. Together with the issuance of some common stock, this is about $2.35 billion worth of bitcoins (about 34,000 bitcoins or 15% of the bitcoins owned so far) added to MicroStrategy’s bitcoin holdings in 2024 Q1 and Q2 alone. $2.35 billion is such a large amount of funds that when poured into the market, it should have some level of influence over the price of Bitcoin. If Bitcoin’s price keeps rising, its software business would likely increase further in valuation, providing MicroStrategy with the ability to raise more funds to purchase more bitcoins. However, without significant change to MicroStrategy’s software business, when Bitcoin’s price starts to decline, MicroStrategy would be in trouble, likely more severe than what happened in 2022. Insider Sale In 2024 Q1 and Q2, MicroStrategy insiders have been selling a significant number of shares, much more than in 2021. In 2022, when bitcoin price and MicroStrategy’s stock price were low, there was no insider sale of stock at all. This is an indicator that the management team believes that MicroStrategy may be overvalued at this time. www.marketbeat.com/stocks/NASDAQ/MSTR/insider-trades/ MicroStrategy’s Bitcoin Liquidity Even though MicroStrategy has $11.73 billion (as shown in the table above) worth of bitcoins net of the long-term debt, the $11.73 billion bitcoin is far from liquid. MicroStrategy has received so much attention on its long-term view of Bitcoin and its commitment to never sell Bitcoin . The moment MicroStrategy starts to liquidate Bitcoin, it may trigger a collapse in Bitcoin price. Given the transparency on any bitcoin-related activities, even if MicroStrategy wants to liquidate its bitcoin holdings, it may not be able to realize the full $11.73 billion. Conclusion While MicroStrategy’s pivot to Bitcoin initially yielded significant gains and attracted market attention, the recent decoupling of its stock price from Bitcoin’s value signals a significant overvaluation of its software business. Despite being profitable, MicroStrategy’s software business has not had significant growth or fundamental change warranting such an increase in its valuation. With insiders selling a large volume of shares in the past several months and the potential liquidity issues surrounding its Bitcoin holdings, the current valuation appears unsustainable. As a result, I recommend a “Sell” on MicroStrategy’s stock at this time.

Source: Seeking Alpha