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Coinbase
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==Fixed cost base likely to result in volatile margin profile== More than 90% of COIN’s revenues come from transaction revenues with very limited variable costs (transaction costs average low double digit percentages of transaction revenue). Thus, COIN’s margin profile is characterized by relatively high fixed costs, largely derived from technology and headcount related expenses. This factor, when combined with a volatile revenue stream, is likely to lead to a high degree of earnings volatility over time. Coinbase management operates the company under an assumption of continued volatility of crypto prices with large positive and negative pricing trends over time, resulting in highly variable margins. Because of this dynamic, the company has messaged that they expect to run the company at breakeven over time through a pricing cycle, with episodes of relatively higher pricing resulting in elevated profitability (such as now) and episodes of lower pricing (“crypto winters” per the company) potentially driving operating losses. That said, our model does not take an explicit view on crypto prices and assumes flat crypto prices over time, resulting in much more steady profitability than is likely to occur. We expect that the market will likely take a mark-to-market approach with crypto prices, which is likely to result in significant estimate volatility over time. * Tech and development costs: Tech and development are associated with costs related to engineering and product development and the operating costs of keeping the platform running. We believe the majority of these costs are fixed in nature but expect some variability given the platform-driven costs, which likely have some sensitivity to activity on the platform. * General and administrative: G&A costs include general support costs and other non-operating expenses such as back office, legal, HR, executive comp and other miscellaneous costs laid out in the company’s S-1. We consider these costs largely fixed in nature, although there is likely some variability in incentive compensation related to firm performance. * Sales and marketing: Marketing costs includes customer acquisition expenses and advertising costs. Historically the company has not spent a large amount on sales and marketing (just 8% of expenses in 2020) but going forward, the company has guided to a significant increase in marketing costs to accelerate customer acquisition and stimulate its verified user base. We believe this ramp is ongoing and believe the exit run rate of sales and marketing into 2022 will likely exceed the full-year guidance of 12-15% given elevated revenues in 1Q21 and back-loaded builds in expenses. Note this assumes a moderation of revenues from 1Q consistent with the middle scenario of guidance for the top line. Transaction costs are likely to vary with transaction volumes: Coinbase’s transaction costs consist of account verification fees, payment processing fees, and fraud loss expenses. As we show in Exhibit 54 and Exhibit 55, these have been a relatively consistent share of volumes and revenues over time. We primarily model transaction costs as a percentage of transaction revenues, where this level has historically represented a low to mid teens share of transaction revenues over time. That said, we believe institutional volumes are likely to carry a lower cost to execute than retail volumes (more efficient payments, lower fraud cost, greater volume per account), so a continued mix shift towards institutional volumes could lead to a continued downdraft in transaction costs relative to volume over time. '''Breakeven analysis: we see breakeven levels of profitability in a down 50% scenario relative to our estimates''' While it is difficult to directly map changes in the level of crypto prices to COIN’s top line given the volatility of prices as well as the fact that the absolute level is highly impactful on volumes, in the following exhibit we attempt to illustrate roughly the sensitivity of the model to prices relative to our base case. We use the historical relationships derived in Section 2 to sensitize transaction revenues across various price and volatility environments. To account for the potential drop-off in retail interest levels in a severe down scenario, we include an additional 25% cut to MTUs in our down 50% scenarios in addition to using the historical relationship. For expenses, we assume that sales and marketing and transaction costs, as well as ~25% of technology costs will vary with revenues while the remainder of the expense base is unaffected. This results in roughly breakeven levels of profitability at the down 50% scenario, which would imply BTC prices in the ~$20k range.
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