HUT 8 Corp.

Moat: 1/5

Understandability: 2/5

Balance Sheet Health: 2/5

U.S. Data Mining Group Inc., a company operating under the name HUT8, is a publicly traded Bitcoin mining company focused on energy efficient operations.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview

HUT 8 Corp. is primarily engaged in Bitcoin mining, leveraging proprietary technology and high-performance computing infrastructure. They generate revenue through mining new Bitcoin and earn transaction fees from validating Bitcoin network transactions. The company’s operations involve the use of specialized mining machines at facilities in North America, primarily in Canada and the United States.

  • The company is also diversifying into high-performance computing (HPC) services, providing infrastructure, services, and machine learning applications, as well as AI. They target industries that can utilize massive amounts of computation power, such as generative AI.

This HPC segment could potentially be a source of moat in future but not currently.

  • Additionally, they offer managed services to other cryptocurrency miners.

HUT 8’s revenue stream is thus primarily tied to Bitcoin production and, secondarily, to provision of computing power and management services. Let’s break down the revenue streams:

  • Bitcoin mining: This is the primary revenue generator, directly linked to the price and quantity of bitcoin mined.
  • Managed services: This is more of a stable but lower-margin revenue stream, representing services for other bitcoin miners, and their HPC segment is also starting to generate some income.

Competitive Landscape

The Bitcoin mining industry is characterized by:

  • High competition: Many firms compete to mine Bitcoin, leading to intense rivalry. This includes several publicly listed companies and also several private firms.
  • Capital intensive: Significant investments are required in infrastructure, hardware, and energy.
  • Volatility: Bitcoin’s price is prone to rapid fluctuations which makes business unstable.
  • Reliance on specialized technology: Requires high upfront investment on equipment and specialized knowledge.
  • Energy usage and cost: Energy consumption is a major cost component and a key concern of government regulators and the public.

HUT 8 is not alone in Bitcoin mining, having to compete with other large companies that have more resources, a bigger footprint, or lower cost structures. Several major players like Marathon Digital, Riot, and CleanSpark, among others, are vying for market share. What is unique about HUT 8 is that they focus on energy-efficient operations, and have expanded into other industries, using HPC and AI. However, so far, it is difficult to identify a lasting and wide competitive advantage against competitors.

Moat Analysis

Moat Rating: 1/5

HUT 8 has not shown to possess a substantial economic moat at this time.

  • Intangible Assets: Although the company has expertise in Bitcoin mining and digital assets management, this know-how can be replicated in some capacity. The company does not have patents or strong brand assets that would grant it pricing power. In the field of technology, there aren’t really any moats, where technological progress quickly diminishes the moats, and new tech can outpace the old. The AI and High-Performance Computing side of the business is new, but shows potential.
  • Switching Costs: Customers using HUT 8’s mining and management services do not face significant switching costs. There are many different providers, each offering somewhat different terms, but the effort to move away from any provider to another, might not be significantly high. The managed services market is generally very competitive.
  • Network Effect: The network effects are quite weak at the business, since more miners don’t result in a better product for customers. This may evolve, and it might show network effects for AI, but as for now, these are not existent.
  • Cost Advantages: They may have advantages in energy procurement (as they have access to various sources of renewable energy) and operational efficiency (through their proprietary technology), but these are not significantly defensible, since competitors can try to replicate it, or have already found similar operational efficiencies.
  • While they emphasize on energy efficient mining, there’s no evidence that their technology is superior to their competitors.

Legitimate Risks That Could Harm the Moat and Business Resilience

  • Bitcoin Price Volatility: The most significant risk to HUT 8 is the extreme volatility of Bitcoin prices. The company’s revenue and profitability are directly tied to Bitcoin’s price. A sustained decrease in Bitcoin prices would severely impact their cash flows, profits, and balance sheet.
  • Regulatory Changes: The cryptocurrency industry is subject to rapidly evolving regulations. New or changing policies regarding mining could significantly affect the company’s operations.
  • Competition: The Bitcoin mining industry is highly competitive. Other competitors may be able to produce bitcoin more cheaply (through greater efficiency, economies of scale, or better energy costs), or provide similar services at lower costs, thus eroding HUT’s revenue base. This increased competition would force the company to lower prices.
  • Technological Advancements: Rapid technological advancements in mining hardware could render HUT 8’s infrastructure less efficient over time. Their technology needs constant improvement. The constant need to invest in newer infrastructure would mean large capex spending.
  • Energy Costs and Supply: Energy costs represent a large portion of HUT 8’s operational expenses, and an increase in these costs could significantly impact profitability. They need to be able to secure low and stable energy costs to stay afloat, and this might not be very easy in the changing landscape of the energy market.
  • Market Sentiment: A negative shift in market sentiment toward cryptocurrencies could severely impact not only HUT’s stock price but also the value of their assets.
  • Operational Execution: It is essential that they execute their strategy well. This means effective management of energy procurement, bitcoin mining, high performance computing, and infrastructure investments. A failure in execution could be detrimental to company.
  • Failure to develop HPC/AI: If their bet on their high performance computing and artificial intelligence businesses do not yield results, then it could damage the image and potential of the company.

Financial Analysis

HUT 8’s financial performance is intricately linked to the fluctuating price of Bitcoin and industry dynamics. Here’s an in-depth look based on their recent financial releases:

  • The latest numbers are from Q3 2023, which show the company has generated a revenue of 33.5 million, which was down from 54 million in the same quarter the previous year. The main reason given for this was that they sold less bitcoin in the quarter compared to previous year, and also the price of bitcoin has remained low.
    • They do however, mention that their mining equipment is more efficient and that they have mined more bitcoin that previous year- however, due to low bitcoin prices, they had to sell a higher quantity.
  • They also had a “Digital Asset Mining” revenue, which decreased by 56% to $7.8 million due to lower bitcoin prices.
  • The High Performance Computing colocation and cloud revenue is more promising, having increased by 315% YoY to $8.1 million.
  • This new segment makes up a small amount of their revenue, however it is quickly scaling.
  • From Q1 to Q3 2023, they have seen a net loss of $167 million. This is an improvement of $316 million, and is still in line with previous guidance. This is because of the volatile nature of their businesses.
  • As of Sept 30, 2023, they have a digital asset balance of 9136 bitcoin (471 million) and 114 million in cash.
  • The company also has a huge amount of debt, including unsecured notes of approximately 169 million at 10% interest.
  • They also have a share based compensation plan, that totaled $8.8 million in the latest quarter.
  • The company has seen volatility in its operational performance, due to fluctuating prices of cryptocurrencies, but has also shown signs of increasing diversity in revenue streams.

Key Observations on Financials

  • Volatile Revenue: Revenue is tied directly to the price of Bitcoin, making it volatile, and is highly unpredictable.
  • Increasing Non-Mining Revenue: The HPC segment has shown significant growth and represents diversification for the business.
  • Debt: HUT 8 has a fair amount of debt and interest expenses. It is essential that they make a profit and maintain cash balance to meet debt obligations.
  • High expenses: The company has high operation costs, which are also related to the volatile prices of bitcoin. Also they have large stock based compensation expenses.
  • Profitability: HUT 8 is highly unprofitable, and if it can’t improve profitability, it will face difficulty.

Understandability Rating

Understandability: 2/5

The core concept of HUT 8’s business is easy to grasp: It mines Bitcoin. However, other aspects of the business, such as evaluating their operational efficiency or the new segments involving HPC, the nature of contracts with other crypto mining companies, understanding their complicated financing schemes, makes it a moderately complex business to grasp.

Balance Sheet Health

Balance Sheet Health: 2/5

HUT 8’s balance sheet is moderately weak. Although they have a decent amount of bitcoin and cash on their balance sheet, they are weighed down by huge debts and operating losses.

  • A key strength is that most of their assets are in the form of cash (from their bitcoin holdings), meaning they are highly liquid.
  • However, the liabilities are high in proportion to total assets.
  • There are still material improvements necessary to make the balance sheet healthy.

Conclusion

Hut 8 is a bitcoin mining company with a unique approach of combining infrastructure in energy efficient bitcoin mining and offering high performance computing capabilities to customers. While it has shown ability to scale its mining operations and show growth in new segments, its core profitability and balance sheet still remain weak. The company needs to improve operational efficiency, control its costs, and improve on its financing schemes to be able to be a viable long term business.