This is a response to this article here….
Headline: Should you buy Coinbase? The valuation is ridiculous, based on this math
Response: This math leaves a LOT out of the equation, let’s discuss
Let’s get right do it, shall we?
Even though Coinbase’s revenue surged over the past 12 months, the company has little to no chance of meeting the future profit expectations that are baked into its ridiculously high expected valuation of $100 billion.
Let’s be clear from the get-go, I think $100,000,000,000 is a baseline valuation for Coinbase and think it will be (barring regulation*) a trillion dollar company within the decade, if it isn’t already.
I’ll draw a quick parallel to support that validation, one that didn’t really exist a week ago…but here we are. BNB. BNB is a general transaction paying token on Binance, the world’s largest crypto exchange. I don’t know if Coinbase (CB) is second, third, or what, but I think they are in the same space.
Binance, due to regulation, is not a direct competitor of Coinbase in the US (and don’t mention Binance.US, it is…not the same). If that changes….this whole thing changes. All major regulation makes this entire discussion reset.
Back to Binance (BNB) vs Coinbase (COIN):
Coinbase does not have a token. It is the token. Let me explain: Coinbase is a centralized exchange. You exchange within it on the trading pairs it supports. You pay, essentially, in the token you are trading. Most of this is ETHEREUM. But you don’t see that, because Coinbase hides a lot of what is going on behind the scenes.
Back to Binance and BNB. You pay for exchanges/swaps on Binance with BNB, you pay for exchanges/swaps on Coinbase by being on Coinbase. There is no exposed direct fee. It’s baked into each transaction in the fine print. The very public fine print.
BNB’s current valuation? As of 4/12/2021: 8:35pm MT: $90,090,333,732. Ninety-billion dollars. (valued at 580.65/per)
Within crypto spitting distance of the 100B valuation for Coinbase. That’s today, real money, but it’s contained within a different centralized exchange model, one where the token BNB holds the value, not the stock COIN. The valuation’s justification however, is right there for all to see.
As the cryptocurrency market matures, we expect Coinbase’s transaction margins to drop precipitously.
The race-to-zero phenomenon that took place in late 2019 with stock trading fees will likely make its way to the crypto trading space. We expect Coinbase competitors to cut their trading fees to zero in an effort to increase market share.
This would be…VERY INTERESTING TO DO. Because of the nature of cryptocurrency, if you reduce “on-ramp” fees to 0…you increase the liquidity of crypto into gaseous form. Coinbase can’t do this, right now. Gas fees are TOO DAMN HIGH!
This goes into the nature of blockchain transactions and how they differ in their execution and ultimate path to immutability. Their cost can’t be reducded to zero. But they can be reducded significantly, as we’ll see in a moment.
Coinbase’s expected valuation of $100 billion implies that its revenue will be 1.5 times the combined 2020 revenues of two of the most established exchanges in the marketplace, Nasdaq Inc. NDAQ, -0.01% and Intercontinental Exchange ICE, +0.46%, the parent company of the New York Stock Exchange.
Our calculations suggest Coinbase’s valuation should be closer to $18.9 billion – an 81% decrease from the $100 billion expected valuation.
This is where I think the article demonstrates a fundamental misunderstanding of the role of a centralized exchange in the crypto world. No one directly trades Microsoft stock for Google stock on the Nasdaq. Or cross exchange trades. I can’t pool 100,000 penny stocks and directly exchange it for a share of Amazon. On a traditional stock exchange, it goes to dollars first, then the other things, and everything is valued in the one thing.
Crypto is different. I can directly exchange whatever for whatever, and the role of facilitating that transaction is the utility provided by the exchange. That’s what I’m paying them for. Anything for anything, with little risk. However, as a centralized exchange, what they bring in is limited, as is the speed with which they can do it.
According to data analytics firm CivicScience, 66% of U.S. adults are “not interested in” crypto and 18% have “never heard of it.” Similarly, CivicScience finds that while the number of people investing in cryptocurrencies is rising quickly, it still remains low at just 9% of U.S. adults. For reference, Pew Research Center estimates 90% of U.S. adults used the internet in 2019.
The answer to this question is Web3. You may remember Web 2.0, when everything got rounded and interactive and you no longer had to refresh web pages to see new data. Web pages and apps became alive and a new interactive internet was born. This was a generation ago now.
This is done in decentralized manner, that is both permissionless (no one controls it ) and trustless (you only have to trust the network, not the people in it).
So…Web3 adoption with happen at the same logarithmic rate as Web 2.0 (this is a prediction), and in 10 years, we won’t even think about it. Paying for stuff with integrated crypto wallets with be commonplace.
If given the regulatory approval, Facebook could likely integrate these wallets in their next dev cycle and allow users to do things like pool resources for fundraisers or sell/buy stuff with the click of an integrated wallet button. Instant global currency, used by 2,000,000 people. This is what is coming, and very soon now, in one form or another.
Web3 is a competitor to FB in this sense, and the race is on.
As the cryptocurrency market matures and more firms inevitably pursue Coinbase’s high margins, the firm’s competitive position will inevitably deteriorate. For example, if stock trading fees are any indicator for crypto trading fees, we should expect them to quickly go lower if not to zero.
To be clear…stock trading fees are not any indicator for crypto trading fees. They are very different beasts. There is a living functionality to crypto fees that doesn’t exist in the retail space. Dividends would be an example. Many crypto currencies now pay interest in a similar manner, in that it’s computed as APR and calculated by how much of that entity you own. Unlike IRL dividends, however, many currencies calculate and compound interest every block (every six seconds to 10 minutes or so, depending on that blockchain’s/smart contract’s code), instead of every month/quarter or profitable year. These returns are programmed into the token’s smart contract. How they work is as variable as there are companies listed on an exchange. And what makes them work is the same currency used to trade for them, Ethereum.
The payments associated with their ownership are programmed into the code of the currencies themselves. They aren’t based on some other metric like company profits**.
To give an example how this affects Coinbase’s long term valuation and profitability…ATOM is currently paying 5% interest on Coinbase. Which is to say, for all the ATOM you hold on CB, after a certain period of time, you get 5% APR returns deposited to your account. ALGO is currently paying 6%, and DAI, a stablecoin pegged to the Dollar, pays 2%.
What is material about this situation relative to CB’s long-term profit potential is that, when “staked” on other wallets, ATOM pays 10%, ALGO pays 8%, and DAI can be staked for upwards of 20% APR on various DeFi platforms. The difference is pocketed by CB.
This gives them direct returns on user’s capital by the nature of holding it on a centralized exchange.
The NASDAQ can’t do that, nor can the NYSE. Robinhood does that. Making their revenue on user’s activity. CB can do all of it, passively, with no cost but the transactions fees to collect earnings.
A centralized cryptocurrency exchange and a stock market are different beasts, offering different utility.
Similarly, if traditional brokerages begin offering the ability to trade cryptocurrencies, they will most certainly cut down on the unnaturally wide spreads in the immature cryptocurrency market.
This is unlikely, because it is unneeded. I would also say it is…a bit off in the sense of maturity. The Decentalized Finance applications and functions I’ve been alluding to throughout this response are the real competitors to centralized exchanges. Currently all that is holding them back as a pure replacement are Gas Fees.
Coinbase currently insulates users from gas fees associated with trading. This is an incredibly useful in the current environment.
The big threat, question, risk for CB going forward is how well positioned they are to take advantage/mitigate the risks of an Ethereum 2.0 world. Where anyone can offer those close to zero transaction fees, as Proof of Stake algorithms relieve the Nonce Problem.
Even when simply functioning as a trusted on and off/ramp to DeFi or real world money (a debit card that gives cash from ATMs), combined with the role that being a central “staking” player in a soon to be $100,000,000,000,000 space….all of this is compounded annually.
And that’s “soon” when measured in decades. It’s $2T already, Moore’s Law would put it at 8T in 3 years, 32 in 6, and over 100 in 9).
If Coinbase maintained its fees at 0.46% of trading volume (as outlined above), this scenario implies that trading volume on Coinbase’s platform would be $4.6 trillion by 2027, which would equal 97% of the total cryptocurrency trading volume in 2020.
I’m not sure what numbers y’all are looking at, but I see over $340,000,000,000 in trading volume in only the Top 10 Cryptocurrencies in the last 24 hours in 2021. The referenced article on Reuters claims current volume is one-sixth that, so I think there might be a whole shadow market (DeFi) that some folks don’t quite realize exists just yet.
I’ll finish on one final thing and then do some editing and try to get this out before the IPO tomorrow…
In 2020, bitcoin and ethereum accounted for 56% of Coinbase’s trading volume and an equal percentage of transaction revenue. Should demand for these two cryptocurrencies decline without an offsetting increase in new cryptocurrencies, Coinbase could see significant cuts to its trading volume and transaction revenue.
CB will be expanding just like everyone else if someone solves the gas fee issue on another blockchain. Binance Smart Chain (BSC) has largely resolved this using the Proof of Stake aspects of the Tendermint core. PoS algorithms push the transaction fees down to more where they were theorized when crypto was conceptualized (i.e. pennies to transfer billions in seconds). This technology is also what will likely be powering the Internet of BlockChains (the Interchain).
How CB will adapt to those innovations is a good guess, but so far, they have been right on top of every change. To be sure, even that .05% fee can be cut to .03% by simply moving the Coinbase Pro. They are already offering *their own* lower fee service. Lower fees, higher complexity. Lower complexity, higher fees. This is the way. You are paying for *utility* and *liquidity*.
Here’s the thing, the crypto software ON ALL LEVELS is maturing into the next generation of tech, CB is at the forefront of that. This IPO will be spawning and funding a whole new generation of technology in this space, and it will be very fun to watch.
Happy trading and HODL!
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