What is the role of bitcoin in a corporate treasury? During the AFP 2021 Treasury Management track session titled, “Why Corporate Treasurers May Consider Bitcoin,” president and CFO of MicroStrategy, Phong Le, and the head of digital investments for Fidelity Investments, Tom Jessop, asked attendees to think like a vanguard-led company and consider the high return to adding bitcoin to the corporate balance sheet.
Given the macro conditions that have come in the wake of the coronavirus pandemic and the monetary and fiscal response to it, including palpable monetary inflation, people are starting to think about the role of Bitcoin in traditional portfolios. One of the corporations that has received a lot of attention for the addition of bitcoin as its primary treasury reserve asset is MicroStrategy, Inc.
A business intelligence software company that was founded 32 years ago by CEO Michael Saylor, MicroStrategy primarily serves Fortune 500 companies. “We're founded on seeking the best technology and the best innovations when it comes to business intelligence,” said Le.
MICROSTRATEGY’S EXPLORATION OF BITCOIN
In March of 2020, according to Le, three things happened. First, the money MicroStrategy was spending on sales and marketing went to zero as the world went into lockdown. This meant their cashflow increased.
The second thing that happened was that the Fed cut their short-term interest rates to zero, which meant that the $550 million the company had in short-term T-bills, getting about 225 basis points, went to zero. “Not only were we making more money, but we were building up our treasury more and more,” said Le. The company held zero debt on its balance sheet.
And the third thing that happened is, the U.S. started printing money for the purposes of bolstering the economy, quantitative easing. “Pretty much every three months, they decided to print $2-3 trillion. Now, when you have a monetary supply of $20 trillion and you print $5 trillion, that basically means that the dollar is worth 25% less,” said Le. “So, while we're making more cashflow, our cash isn't earning us anything. And now it's worth 25% less.”
So MicroStrategy talked to the best of the financial services industry, attorneys, the big four accounting firms, and decided everything was on the table. That led them to bitcoin. At first, everyone said no, it didn’t make sense. “But it kept coming up again and again and again, and at some point, we had to really look at it,” said Le.
Ultimately, they were infatuated with the idea. “It’s the best technology we've seen in decades when it comes to the financial services industry. Every time we looked at it, we were like, this thing is awesome. It's just fantastic. It's superior. It's digital gold, and when we went in, we went in a pretty big way,” he said.
DIGITAL GOLD EXPLAINED
For those who are not familiar with bitcoin, the first thing to know is that the supply is limited to 21 million coins. No one can ever change that. If you look at the reason gold has held its value for so long, and in inflationary times has actually increased in value, it’s because the supply is limited.
Second, it's a proof of work network, meaning to create more coin, you have to mine it. Just like with gold, you can't create it chemically; you can't fabricate it. And the more gold that gets mined, the harder it is to mine. The idea is the same with bitcoin.
Third, there is an interest in network effect with bitcoin. There's a technology here that, because of its finite supply, the more people who hold bitcoin, the more it's worth, and the more people that want bitcoin, the more it's worth.
Fourth, it’s in a blockchain, which means that everything that happens, every coin that gets moved from address to address is 100% transparent and 100% secure.
The last important fact to know about bitcoin is that it is fully decentralized. This is probably one of the more important points. There is no country, corporation, government or CEO that controls the bitcoin network; it is controlled by the miners and the people who own bitcoin. This makes it extremely hard money and extremely smart money.
“And by 2140, every last bitcoin will be mined,” said Jessop. “You've got the network effect of essentially a social media platform where the value of the network is a function of the number of wallets or nodes on the network. And that's a very interesting setup. If you think about the value today as digital golden inflation hedge, but also the value of this asset as some sort of transactable currency, which is really quite interesting and, in the context of digital assets, it's quite unique.”
STEPPING UP THE INVESTMENT
“It took us about five or six months to figure out how to do this,” said Le. The “figuring out” refers to how to onboard to bitcoin in terms of actually taking U.S. dollars, getting onto an exchange, and then finding someone to custody it all in a compliant manner.
The company decided to take nearly all of its treasury that wasn’t being used for day-to-day working capital purposes and put it into bitcoin, which was $425 million. “We knew this was going to be controversial with some of our shareholders,” said Le. So, at the same time, they announced that they were going to do a Dutch tender auction. For anyone who was not interested in their corporate strategy, they would buy back their stock at a 15% premium. MicroStrategy bought $660 million back.
“The number of high-net-worth individuals, corporations and cryptocurrency folks who came out and said, we were waiting for someone to do this, was actually surprising and very positive,” said Le.
In the fourth quarter, MicroStrategy saw enough interest that they raised additional capital through a convert and bought $600 million more bitcoin. At the same time, Mass Mutual announced about $100 million investment into bitcoin, PayPal announced that people who have their app could now buy bitcoin, and then Elon Musk announced that $1.5 billion of Tesla's corporate treasury had gone into bitcoin.
MicroStrategy ran a bitcoin for corporations conference as part of its world conference, and over 8,000 people showed up. “Given the energy that was out there, we announced another convert to raise more money to put in bitcoin,” said Le.
Every quarter since, the company has looked for ways to acquire more capital to purchase more bitcoin. In August 2020, the company bought 114,000 bitcoin at a cost basis of $3.2 billion. As of October 11, 2021, it was worth about $7.2 billion, increasing their treasury by basically 225%. “We've created this idea that corporate treasuries should be considering bitcoin on their balance sheet,” said Le.
“I'm not sitting here suggesting you all want to put 100% of your corporate treasuries into bitcoin, but it’s also remiss to put 0% of your treasury into bitcoin,” said Le. “In 5-10 years, this will be a no-brainer. I think we’re in that place now. And so the question is: as a corporate treasurer, how do you get ahead of that?”
GETTING TO THE POINT OF ALLOCATION
It starts with education — yours, your CFO, CEO, the board, everyone will have a lot of questions. The good news is that there is a ton of reputable information out there. MicroStrategy has a site called hope.com where they curate some of what they feel is the best bitcoin information available. Fidelity is another excellent resource for educational materials.
“Education is a starting point, because everyone comes in differently in terms of what they know about cryptocurrency,” said Le. “Some people put money in, it made a huge return, and yet they still don’t know that much about the fundamentals. And then you will run into people who are like, hey, didn't Warren Buffet call this rat poison? Why would I want to be part of this? So, the first step is to educate folks, open their minds.”
Step two is to bring in advisors, custodians, exchanges, the big four consultancies — they have cryptocurrency experts now because they've had to. Bring in attorneys, bring in investment banks, do your research and get some advisors in place.
The next step is to have the conversation with your board, your CFO and CEO, and to decide whether it is something the company wants to do. If yes, then you have to change your investment policy or your treasury policy.
Next, figure out who you want to do this with. There are two things you need: an exchange and a custodian. Who's going to hold it for you. “I do not recommend self-custody,” said Le. “It just won't work if you're a publicly traded company. It may work for yourself as an individual, but in those cases, work with a company that provides institution-grade SOC compliance.”
“Figure out who you're going to work with, and then just go do it! Without a doubt, it’s been the most fun thing I've done in my career,” said Le.
PRACTICAL ACCOUNTING CHALLENGES
“I won't sugarcoat this one,” said Le. The accounting treatment is not up to snuff. “The FASBI knows it, and the SEC knows it, and our shareholders know it,” he said.
Bitcoin is accounted for as a long-lived and tangible asset because there is no other accounting guidance for digital securities. What that means is you can only write it down every quarter, based on the low point of bitcoin on your primary exchange in that quarter. For example, MicroStrategy has $3.2 billion of bitcoin on its balance sheet, so the book basis they’ve had a write down is about $600 million. They actually have $2.6 billion in bitcoin on their balance sheet, but you can only show appreciation and gains on that when you sell the bitcoin.
“We have a non-gap disclosure that shows the cost basis of our bitcoin, $3.2 billion, a book failure of 2.6 billion, and the market value of 7.2 billion. Everyone understands the market value of bitcoin,” said Le. “It takes a little time for them (FASBI, SEC) to move, as you know, and your shareholders will quickly understand. They'll just do a non-gap reconciliation and take that.”
GOVERNMENT REGULATION OF BITCOIN
The biggest concern over bitcoin came in February 2021, which is when the U.S. government was talking about how to regulate bitcoin. China took major steps to make it very difficult for anyone in their country to hold or mine it by making it illegal to mine bitcoin. They have also said you can’t really exchange it, which was probably the largest drive of bitcoin prices going down, from about $64,000 in March to about $30,000, as all of the Chinese holders got off the network.
At that point in time, about 50% of bitcoin capacity came out of China, so it mathematically made sense. Half of the demand dropped out and the price dropped in half. What you've seen happening since then is mining capacity moving to countries that are considered more trustworthy, like the U.S. The U.S. regulatory environment in the last six months has really started to resolve itself. It has become much clearer where it stands on cryptocurrency and bitcoin, which is: We're not regulating bitcoin. All the U.S. wants is to make sure it’s done in a way that’s legal, and taxes are paid.
“I also agree that there's a base level of regulation that needs to be applied to this asset class,” said Jessop. “It's not unique. There should be tax rules and reporting requirements.”
“There's a reason why the United States is a leader in technology, why MicroStrategy exists, why the largest internet stocks in the world are U.S. companies — because we had a bit of a constructive regulatory environment when people were still trying to figure out what the internet was,” said Jessop. “And the good news is that despite a lot of the negative sentiment around this topic, negative attention is actually good attention because it's forcing discussions around how we can use this as a force for good.”
“In the last year, the U.S. went from being very behind China in the area of cryptocurrency to being pretty much on the vanguard,” said Le. “This is not something that's going away, and it's actually going to be great and very progressive. And if you want the U.S. to be competitive in the financial world, it has to have a pro-cryptocurrency position.”
Listen to the full discussion about bitcoin here.