Strategy: The Rising Cost To Common Stockholders

Summary Strategy continues its aggressive capital raises via new preferred share ATMs, fueling ongoing Bitcoin purchases. Common stock dilution and rising preferred dividends are costs for shareholders, as annual preferred dividends now exceed $315 million. MSTR trades at a significant premium to its Bitcoin holdings, making direct Bitcoin or Bitcoin ETF exposure potentially more attractive. When you think of Bitcoin USD (BTC-USD), one of the first companies that comes to mind is MicroStrategy Incorporated ( MSTR ). Once a small software firm that was relatively unheard of, now the company is one of the leading holders of the world’s most prominent cryptocurrency. As management has continued to find new ways to raise capital to purchase more Bitcoin, the costs are starting to rise for those that hold the common stock. Previous coverage of the name Back in March, I took a look at where things stood with the company after its first major issuance of preferred stock . I detailed the history of Bitcoin purchases from Strategy, along with its decision to issue preferred shares in addition to its common stock at-the-market (“ATM”) sales program in order to bring in fresh capital to buy more Bitcoin. Strategy shares have done quite well since my previous article, rallying almost 50%, whereas the S&P 500 has only gained about 11%. The large rally has been mostly due to a more than 30% rise in the value of Bitcoin, which has led to a large gain in the value of the company’s Bitcoin holdings. The surge in shares also may be due to investors betting on the potential for S&P 500 inclusion, which I’ll discuss later. A new preferred stock ATM When I looked at Strategy back in March, the company had one class of preferred stock, called MicroStrategy Incorporated SERIES A PERP PF ( STRK ). This preferred class featured an 8% annual dividend, and the company filed an ATM to issue up to $21 billion in STRK shares. This value matches the current ongoing ATM of common shares that was established in early May, as detailed in the latest business update filing . Since my previous article, Strategy has come up with two additional classes of preferred shares, MicroStrategy Incorporated SER A PFD STK ( STRF ) and Strategy Series A Perpetual Stride Preferred Stock ( STRD ). Both of these preferred classes each pay 10% annual dividends. An ATM program was launched for STRF back in May with a $2.1 billion value, and just this week, the STRD shares saw a $4.2 billion ATM plan announced . As of July 6th, between the four outstanding share sale programs, Strategy could issue another nearly $45 billion worth of common and preferred stock. Preferred dividends are no longer immaterial As detailed in the business update linked above, each of the three preferred classes had more than 10 million shares outstanding at the end of June, with STRK having the most at a little more than 12.2 million. Given these numbers as well as their 8% and 10% respective annual dividend rates, the chart below shows how annual run rate dividend payments have risen since the start of these programs earlier this year. The numbers are based on the share counts at the end of each respective quarter. Strategy Preferred Stock Dividend Payments (Company Filings) From the end of Q1 to the end of Q2, the annual run rate went from roughly $146 million to $316 million. As the company has previously detailed , it has used the common stock ATM to raise money for dividend payments. Strategy only had around $60 million in cash at the end of Q1 according to its quarterly filing , while the above business update detailed over $8.2 billion in total debt at the end of June. The company really doesn’t produce any meaningful free cash flow, and any cash it did generate was going to Bitcoin purchases. With a market cap of about $110 billion currently between its Class A and B common stock, dilution of more than $300 million a year to pay preferred dividends doesn’t seem like that much. However, the number is certainly rising, as seen above, and it could be even more material if Strategy shares were to drop. Don’t forget that the company is also paying commissions of up to 2% of the gross value of shares it sells to brokers, another cost of raising funds to purchase more Bitcoin. At the end of Q2, there were more than 261 million Class A shares outstanding, up almost 15 million during the quarter. As a reminder, this number was under 96 million at the end of 2022 before the company really started diluting investors. Trading at a premium valuation At the end of June, the total value of Strategy’s two common share classes and its three preferred share classes was a little over $117 billion. At that time, the value of its Bitcoin holdings was about $64 billion. If we subtract out the three preferred classes, the value of the common shares came down to around $113.5 billion. That leaves a roughly $50 billion difference to its Bitcoin holdings value. The rest of the business is certainly not worth the remainder of that, given it is showing a large revenue decline currently and is expected to report less than half a billion dollars in software sales this year. Most software companies that show decent growth can go for about 10 times revenue, but those with limited growth or even declining revenues usually go for the low-to-mid-single digits. That means the software business is worth just a couple of billion dollars at most, so investors here are basically paying about 1.7 times the value of the company’s Bitcoin pile. As a pure Bitcoin play, buying the iShares Bitcoin Trust ETF ( IBIT ) would seemingly be the better option. I mentioned in my previous article that new accounting rules were set to allow the company to recognize gains related to its Bitcoin holdings, which would mean the potential to report large amounts of net income. Strategy reported a more than $14 billion unrealized gain on its digital assets in Q2. Reporting positive net income could allow the stock to become a member of the S&P 500 index, which should trigger a sizable amount of institutional borrowing. Some of the premium that Strategy shares trade at currently could be due to those betting that S&P 500 inclusion will come rather soon. Final thoughts and recommendation Strategy this week announced a third ATM program for preferred shares, allowing it to raise even more capital to fund its Bitcoin purchases. However, this comes with a rising cost, as preferred stock dividend payments are now running at a more than $300 million annual pace. Selling common stock is a one-time hit to shareholders in the form of dilution, but this preferred plan has a fixed cost each and every year. If Strategy completed all three of the current preferred stock ATMs, that would result in roughly $2.3 billion in annual dividend payments. At the moment, I continue to rate the common stock as a hold. If you are a long-term believer in Bitcoin, it seems likely that Strategy shares would rise over time, but you might be better off than just buying Bitcoin directly or through one of the ETFs like IBIT. I believe that Strategy is going to continue to sell a lot of shares to purchase more Bitcoin, which likely will provide a headwind to the possible upside here. Should we see Bitcoin prices hold steady or even head higher in the next few quarters, Strategy may be worth a speculative short-term buy then if you believe the S&P 500 committee will add it to the index. However, after that potentially positive catalyst, one must wonder if the premium shares trade at its Bitcoin holdings value will eventually compress.

Source: Seeking Alpha