Coinbase’s Q3 Report Shows Continued Deterioration

Summary Coinbase’s Q3 earnings were not very good. The subscription and services revenue guide for Q4 supports a bearish view of the stock. Its correlation to Bitcoin prices may save the stock in Q4 if Bitcoin breaks out, but the earnings outlook and valuation support a bearish view on the stock. Crypto exchange Coinbase ( COIN ) posted third quarter earnings last night, and to my eye, they’re quite underwhelming. The stock had been flying into the earnings report, with a rally from $146 to $212 in the space of less than two months. Shares are down pre-market off the earnings report, and we’ll see how it trades in the next few days, but I’m not excited about owning Coinbase here. Innocent until proven guilty That’s how I’d view the chart of Coinbase right now, with the post-earnings indicated price at about $208. That means shares are holding the rising 20-day exponential moving average (in red below), and unless and until that’s broken, it’s still in a primary uptrend. StockCharts If Coinbase were to trade below that line, I’d become much less constructive on it technically. The momentum indicators are supporting the bulls right now, with the PPO well into positive territory, and still very much rising. The RSI is less bullish in my view, as we have a lower RSI reading from earlier this week as price made a new local high. That’s a divergence that isn’t of primary importance, but is a relevant factor in terms of waning short-term momentum. The other extremely important thing with Coinbase is its correlation to the price of Bitcoin. Obviously, Coinbase’s fortunes are quite literally tied to that of the masses wanting to own and trade cryptocurrencies, with Bitcoin being the OG in that space. It makes sense that Coinbase would derive a benefit from higher crypto prices, as that generally leads to more activity from retail traders. StockCharts The 20-day rolling correlation between Coinbase’s share price and Bitcoin’s price is staggering at 0.90. That implies they’re moving almost in lockstep with each other, although we do see this relationship ebb and flow at times. For now, Bitcoin is trying to make new all-time highs, and as long as this relationship holds, it may not matter short-term to investors what Coinbase’s fundamentals are showing. To that end, let’s take a look at the report, and why I am cautious on Coinbase looking ahead. A tough report, and more warning signs emerge Coinbase has pretty much always traded with nosebleed valuations, and that sort of thing is totally fine so long as the fundamentals support it. However, I don’t see it at the moment. Let’s start with analyst expectations heading into the report, which I’m sure will move in the coming days. Seeking Alpha Earnings are much more mature than they were in prior years, but the problem is that there’s a huge lack of confidence Coinbase can grow earnings in the years to come. Revisions have also been hugely negative in recent months, with 83% of moves being down. This is not a great backdrop, and the report itself supports this weak view. On a headline basis, Coinbase saw $1.21 billion in revenue, which was up almost 80% year-over-year, but still missed estimates by $40 million. EPS came to 28 cents, but that missed widely on estimates of 38 cents. Investor relations The fact that Coinbase is at a point where it’s looking like it can consistently earn meaningful profits is a big shift from prior years where it was spending a lot more than it brought in. But is this good enough? In my view, it’s tough to make the case for Coinbase, and even tougher after the third quarter report. Investor relations Consumer revenue is the big pot for Coinbase, and it’s been awful this year. Third quarter consumer revenue was down almost 50% from the first quarter of this year. It’s been extremely volatile so it’s totally possible we get another big number for Q4. But it’s been really terrible in the last two quarters and Q3 was another big deterioration. On the plus side, subscription revenue is on the move higher, although the sequential move was lower for Q3. If Coinbase can continue to grow its subscription revenue, the volatility of the consumer segment will become less important. All-in, revenue was off more than $400 million from Q1 of this year, and as long as that persists, the case for Coinbase is not a bullish one, in my view. Coinbase noted lower average crypto prices in its commentary as driving subscription and services revenue lower. Bitcoin has rallied strongly since the end of September so it’s possible Q4 is off to a roaring start, particularly as we saw with the relationship between Coinbase’s price and Bitcoin. Coinbase’s business is much more than just Bitcoin, obviously, but as a proxy for crypto in general, Bitcoin is terrific. Operating costs were down 6% quarter-over-quarter, which is positive given the move in revenue. Coinbase’s business requires constant investment in technology to stay relevant in a rapidly evolving industry, so periods of revenue declines are doubly painful given the negative operating leverage it creates. In other words, it’s difficult to flex operating costs up and down as rapidly as Coinbase sees its revenue move around, so higher revenue is absolutely critical for operating margins. The other impact on earnings was a $121 million pre-tax loss on the company’s crypto asset investment portfolio, which it notes were largely unrealized. Again, given the price action in cryptos in the past four weeks since the quarter ended, it’s possible we get a nice bullish reversal for Q4, but it’s another negative factor for now. Trading volume was $185 billion in Q3, about 1% lower than analyst consensus, and way off from $226 billion in Q2. That’s to be expected given the weak transaction revenue number. In a somewhat curious move, the board authorized a $1 billion share repurchase program. I say curious because Coinbase is still heavily investing in growing its business, so spending money on buying back a stock that’s trading at ~40X earnings is odd. It implies the company cannot find a better use for that $1 billion than to buy a very expensive stock. We’ll see how it pans out but I’m not a huge fan of this at the moment. Subscription and services revenue was guided to $505 million to $580 million for Q4, against consensus of $580 million. That’s a miss, plain and simple, and is another arrow in the quiver of bears here. An expensive stock with questionable fundamentals Given the relative newness of Coinbase being a profitable company, we cannot use a traditional price-to-earnings ratio for historical comparison. We can, however, use EV to revenue, which is below for three years. TIKR The stock ended the day yesterday at ~9X forward revenue (not trailing). That’s definitely not the highest multiple we’ve seen, but it’s elevated to be sure. That implies a strong fundamental outlook in this particularly valuation metric, and I’m concerned about that given what we saw in the Q3 report. If we look back at this table posted above, we can see what I believe is further reason to be concerned about the valuation. Seeking Alpha Shares are at 39X times this year’s earnings, but 47X 2026 earnings on what analysts expect to be much lower EPS in the coming years. It’s totally possible Coinbase is going to blow past these estimates, particularly if Bitcoin goes to $100k or more. I’m not suggesting that’s going to happen, but that, in my opinion, is what it would take for Coinbase to beat these estimates. You must then decide if that’s a risk you’re willing to bet on. The bottom line for me right now is that Coinbase’s share price appears to be pricing in a lot of optimism that I don’t see cause for. That puts the odds in the favor of more consolidation and/or a bearish move over the medium term. In short, the weight of the evidence is not bullish in my view, and that includes a weak Q3 report. I’m putting a hold on Coinbase as it looks to be in no-man’s land at the moment, and unless either the fundamentals improve or it gets a lot cheaper, I’m just not interested.

Source: Seeking Alpha