18 Sep 2022

Spending running wild: An analysis of the public bitcoin miners' administrative costs

Some public bitcoin miners spend more than half their revenue on administrative costs. This blog post explains why these companies' administrative costs are a problem and reveals who are the biggest spenders.
Bitcoin miners - share of revenue spent on administrative costs since 2021
Source: All these companies' 2022 (Q2, Q1) and 2021 Annual report
Like other commodity-based industries, bitcoin mining is a hyper-competitive industry where a company's only possible competitive advantage stems from achieving lower costs than its competitors. Only the most cost-efficient miners will survive in the long-term, as the bear cycles will gradually shave away the high-cost players.Most bitcoin mining investors understand the importance of cost minimization but have focused almost solely on the public miners' direct bitcoin production costs, disregarding their indirect costs like administration. As I will show in this blog post, non-revenue generating administrative expenses are generally much higher in the bitcoin mining industry than in similar industries. Bitcoin mining investors should consider these costs, as they can eat up massive shareholder value over time.
What are administrative costs, and why should miners strive to minimize them?
What I define as administrative costs are often referred to as “Selling, General, and Administrative Expenses (SG&A)” in financial statements. It describes the expenses incurred by a company not directly tied to generating revenue, like executive salary and stock compensation.
Administrative costs calculation
Source: Marathon's 2021 Annual Report
Administrative costs are one of two main categories of operating costs in the bitcoin mining industry. The other is called “Costs of Goods Sold (COGS)” in the financial statement. COGS is the direct cost of producing bitcoin and includes energy and salaries of on-site personnel.Most public bitcoin miners have historically been good at minimizing the COGS, proved by their excellent direct bitcoin production margins of 60 – 80%.
Bitcoin miners - direct bitcoin production margin since 2021
Source: All these companies' 2022 (Q2, Q1) and 2021 Annual report
The direct bitcoin production margin should cover depreciation and amortization of mining assets, administrative costs, and ideally a nice profit margin on top. Depreciation and amortization can hardly be avoided, meaning that minimizing administrative costs is the simplest way to increase profits as a miner.
Some public miners spend more than half their revenue on administration
If lowering administrative costs is the easiest route to increased profits, it may be a surprise that most public mining companies have historically booked massive administration costs. The chart below shows how large a share of their revenue some of the biggest public mining companies have spent on administration since January 2021.
Bitcoin miners - share of revenue spent on administrative costs since 2021
Source: All these companies' 2022 (Q2, Q1) and 2021 Annual report
Most public bitcoin miners have tended to spend between 20% and 50% of their revenues on administration. We see some companies who have been decent at cutting costs, like Argo, with administrative costs making up 16% of its revenue since 2021.Marathon sits at the other end of the spectrum after spending nearly 100% of its revenue on administration. Since 2021, the company has had revenues of $266 million and spent $259 million on administration.Marathon's massive spending on administration is a result of their very generous executive stock compensation program. Marathon gave its executives $161 million in stock compensation in 2021 alone due to its executives hitting all their performance targets. These performance targets were based on Marathon's market cap hitting and staying above certain levels for specific periods. Marathon's stock price surged in 2021, triggering all these share compensation bonuses.It's important to note that share compensation is a non-cash cost and therefore has no impact on a company's cash flows and balances. What it does, however, is dilute other shareholders' stakes in the company.
The administration spending is extreme in the bitcoin mining industry compared to similar industries
On average, public bitcoin mining companies spend 50% of their revenue on administration. This share is massive compared to what is usual in similar but more mature commodity-based industries. For example, the average in the oil and gas industry is 2%, while it’s 3% in the gold mining industry.
SG&A share of revenue by industry - bitcoin mining vs gold mining vs oil and gas
Source: Bitcoin miners', gold miners', and oil and gas producers quarterly and annual reports since 2021.
Why do bitcoin mining companies spend such a large share of their revenues on administration? It all comes down to the immaturity of the industry. The industry is rapidly growing, but the companies still have relatively low revenues. The potential for future revenue growth has led the companies to hire experienced executive teams that require competitive compensation packages, which naturally will be significant compared to these companies’ current low revenues.Still, a VanEck study found that the average bitcoin mining executive makes 390% more than the average IT executive. This tells me that the public bitcoin miners have tended to overcompensate its executives. Attracting talent is undoubtedly essential, but I don’t think having compensation programs potentially worth tens of million dollars creates more shareholder value than it consumes.If these massive executive compensation programs are not in the shareholder's best interest, why have they allowed them? Bitcoin mining is a capital-intensive industry. With all this capital on the balance sheet, it becomes easy to finance sizeable executive compensation programs or other non-revenue generating administrative costs. In addition, due to the industry's immaturity, many investors don't understand what is going on, and the shareholder oversight in these companies is weak compared to in more mature industries.
When investing in bitcoin mining stocks, be aware of these companies’ massive historical administration costs. These costs have tended to eat up a considerable portion of these companies’ income and have consisted mainly of executive compensation that has enriched the insiders at the expense of the shareholders.Most public miners have never made a profit, even after the super profitable profitable 2021, partly due to their high administrative costs. Cutting these costs should therefore be the top priority for these companies going forward, but it depends on shareholders being more active in their corporate governance efforts.As the industry matures, competitive forces will likely pressure the administrative costs down towards what is usual in other commodity-based industries like gold mining or oil and gas production. This cost mitigation will be positive for shareholders but might mean that the golden days for bitcoin mining executives might be nearing an end.This industry maturation will likely take several years, and in the meantime, investors should be aware that some public miners are bigger spenders than others.
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