Sibani Das
The article below will detail my thoughts on Riot Platforms (NASDAQ:RIOT), one of the largest Bitcoin (BTC-USD) miners, after the recent release of its recent earnings report. The report was met with some skepticism as the equity skidded lower at the close of trading.
Bitcoin Ecosystem
Before delving further into RIOT’s prospects, an overview of the BTC ecosystem is necessary to better understand the importance of the role of the mining community. Simply stated, the integrity of the BTC blockchain is guaranteed by the relentless increase in the network’s hash power, which renders the possibility of a 51% attack more remote as the network expands. Hash power is not ubiquitous as the provider is burdened with real costs to add value to the network. In my view, the optimal comparison is the costs incurred by the Gold Miners (GDX) to extract gold from the earth.
Some of the disconnect revolves around the ephemeral nature of BTC. BTC does not have a physical form, yet it lives in the abstract, which I believe causes many to disavow it or view it as a scam. The network offers miners remuneration in the form of a block reward for every block mined. Depending on the value of BTC at the time the reward is earned, it can be very lucrative, similar to the late 2021 timeframe, or barely covering costs such as the 4th quarter of 2022.
Enter Riot Platforms
The BTC mining industry remains highly fragmented, yet two clear dominant firms are beginning to emerge based on market cap. RIOT’s market cap is nearly identical to its primary rival, Marathon Digital (MARA). I recently covered the opportunity in MARA and their unique strategy for building their hash power. Please click the link for those not familiar with the work. RIOT is embarking on a radically different strategy than MARA, which, given ample time, will clearly differentiate between the two. Basically, depending on how the strategy works out, one will become the king of the miners while the other will fall off.
Why is the strategy radically different? It depends on how you view events unfolding in the industry, with the coming halving cycle a key catalyst. A halving cycle occurs in BTC once 21,000 blocks from the last halving cycle are mined. Once the threshold is triggered, the block reward is cut in half, with the current reward of 6.25 BTC per block reduced to 3.125 BTC. A halving cycle is typically a bullish event as it decreases the new supply of BTC, thus creating a positive feedback loop that has triggered some outstanding runs. The reduction of supply and subsequent increase in price is the classic boom-bust commodity cycle that seems promising.
RIOT’s strategy revolves around building and controlling two massive facilities in western Texas, the home of abundant cheap power. Cheap power is the proverbial lifeblood of a BTC miner, as the lower the power price, the more certain you are of your ability to weather a downcycle in the commodity. RIOT has built out its first facility in TX, dubbed Rockdale, with a deployed hash rate of 10.9 EH/s as of the Q3 earnings report. Once the Corsicana facility comes online beginning in early 2024, EH/s should nearly double to 20.2 EH/s.
The Power of Hash Rate
In my view, the key to becoming the dominant BTC miner is to have as much Hash installed and mining prior to the halving while retaining as much coin post expenses. I believe post the halving, some of the smaller miners may not be able to keep up or invest in more efficient machines, thus seeding additional market share. Eventually, I firmly believe BTC mining will consolidate among a few well-capitalized players.
RIOT has the potential to become one of the dominant players, with an average cost to mine BTC of $14k prior to curtailment credits or $5,537 with the credits. Remember that the credits equal basically no mining activity for the majority of the day as the TX grid requires the energy as mandated by ERCOT. There is an opportunity cost involved as you ceded production. To add some numerical context, RIOT mined 1,108 BTC in Q3 vs 1,775 BTC in Q2. Q3 also has a bump in the hash rate of 0.2 EH/s, making the numbers even worse. The strategy is numerically sound, yet is the steep drop in production what most investors crave when investing in a BTC miner?
Risk Factors
RIOT has significant geographical risk as its operations are all based in Texas. I view the lack of diversity as a potential source of concern as inclement weather, whether a massive snowstorm similar to Feb of 2021 or the typical scorching summer heat that is typical of West Texas summers. Hash rates will be negatively affected, with RIOT believing the power credits will offset the loss in mining revenue. I am sympathetic to this argument. However, the next expansion should be in a different geographical location in the US, with the colder border states such as South Dakota as an excellent example.
RIOT faces a bit of a time crunch via the construction of its Corsicana facility, which should lead to a doubling of its hash rate. The current price per hash rate via the AntPool site is 0.08 cents per TH. So, for every 100 Th machines, you can expect to generate approximately $8 less cost of electricity. In the case of RIOT, let’s use 2 cents per Kw/h. You can expect a profit of $6 per machine prior to depreciation and amortization. The rate per TH is one of the best in the past two years, and miners are flocking to come online to capture this attractive rate. The network Hash Power has now exceeded 504 EH/s, a nearly 25% jump from the end of September 2023!!!
Concluding Thoughts
RIOT is an interesting way to gain additional exposure to the BTC ecosystem. Using the AntPool numbers discussed above, we can understand how levered the miners are to a higher net BTC price. The recent run-up in the BTC price post the excitement of a potential BTC spot ETF has emboldened the BTC bulls to come out of hibernation and push prices higher. Some are hesitant to back the miners out of fear of the upcoming halving, yet I do not view the event as a negative for the larger, more well-capitalized players such as RIOT or MARA. Any drop in hash power will allow both to gain a larger share of overall block rewards, with the real payoff coming if the typical boom-bust commodity cycle plays out again. A successful investment in the miners will require a bit of patience to allow the full cycle to play out, assuming history will repeat, which is not guaranteed. I am looking for RIOT to double if BTC can eclipse its all-time high after the halving in April 2024. Good luck to all!!!
