Is strategy (MSTR) a problem?
Previously led by Executive Secretary Michael Saylor, the company known as MicroStrategy has vacuumed 506,137 Bitcoin (BTC), now worth around $44 billion at the current price of BTC over roughly five years. For casual observers, the company appears to have a magical, unlimited pool of funds that attracts to buy more Bitcoin. However, the strategy has earned a significant harvest by issuing billions of dollars of stock and convertible banknotes (debt securities that can be converted to stock under special conditions), and recently through the issuance of preferred stock, a type of stock that offers dividends to investors.
However, since peaking above $109,000 two months ago, Bitcoin’s price has been pushed down by around 20%. And while such price fluctuations are far from anomaly, the particularly aggressive recent purchases at the average acquisition price of Saylor and Team Mean Strategy have risen to $66,000. The company actually swings once more, as the purchase turned red.
Which one is asking questions. Can all the financial magic of strategy backfire the company whether Bitcoin should go lower?
Quinn Thompson, founder of Crypto Hedge Fund Lekker Capital, said, “It’s rarely a scenario in which (the strategy) has to settle a bundle of bitcoin to call the margin. “In most cases, debts are very likely to be refinanceable due to convertible memos. And (the company) has begun issuing this permanent preferred share, which doesn’t have to be repaid.”
In other words, not only is it unlikely that strategy will suffer from the kind of explosion that will shake crypto companies and projects (such as Genesis and the three-arrow capital) in 2022, but it even refrains from posting Bitcoin possessions as collateral for loans, except for loans from Silvergate, which were re-claimed in 2023.
Still, that doesn’t necessarily mean that it’s a blue sky for MSTR investors. Because in various scenarios, Saylor could be forced to issue more equity than the market can handle to maintain the course.
“If he doesn’t pay dividends in the strategy’s cash flow, he’ll issue more shares and destroy the stock price. But that’s no different to what he’s already doing. Every time the retailer bids it on, he’ll destroy the stock price by issuing more shares.
Saylor’s balancing act
The strategy currently employs three different methods to raise capital. It can issue stocks, convertible memos, or preferred stocks.
Equity issuance means that the strategy creates new MSTR stocks, sells them in the market, and uses the revenue to buy Bitcoin. Naturally, there could be sales pressure on MSTR, pushing inventory down.
The Convertible Notes allowed a strategy to raise funds quickly without diluting MSTR stocks. Investors who prefer these notes usually benefit from solid yields, making them profitable in cases of stocks surges and can usually be redeemed in cash for an amount equal to the original investment in addition to interest. However, the incredible volatility of the strategy-transformable notes allowed the company to issue them primarily at zero percent interest rates, meeting the high demand from sophisticated market participants who made banking transactions volatile.
Finally, the strategy began rolling out preferred stocks. These are products that tend to appeal to investors who are looking for low volatility and more predictable returns through dividends. Currently, there are two products. STRK offers an annual return of 8%. and STRF pays 10% per year.
But why is the strategy issuing all these different types of investment instruments? The idea is to create demand for strategies for all types of investors that may have different tolerances for risk, Jeffrey Park, head of Alpha Strategy for Cryptocurrency, told Coindesk in an interview.
“Convertible bond investors and common equity investors were generally in line with them because they both wanted a structure,” Park said. “Preferred stocks are different. In fact, they are preferred by investors who want to minimize volatility at any cost due to stable, reliable and high coupons that feel worthy of credit risk.”
“The capital structure of strategy is like a playground seesaw,” Park added. “The ordinary shareholders and converts are on one side, and the preferred stockholders are on the other side. As emotions change, the weight moves around and the value between these securities tilts. But how does seesaw move?
risk
Still, the strategy is now in a situation where you need to pay an 8% dividend on STRK and a 10% dividend on STRF, making it a blend of 0.4% interest rates on convertible bonds.
With the strategic software business providing little cash flow, it can be difficult to find the funds to pay for all these dividends.
Thompson said the company would likely need to continue issuing MSTR shares to pay interest. “Stock prices hurt. In the most extreme scenario, stocks could be traded at a discount (from their Bitcoin holdings) because he has to pay interest and issue shares to cover his cash flow.”
“A truly dramatic scenario is that discounts are very wide, such as 20% or 30% like Grayscale’s GBTC (before conversion to ETFs). “Now, he’s adding shareholder value by selling stocks at a high price and buying Bitcoin, but in the future the opposite may be true. The best way to add shareholder value is to sell Bitcoin and buy stocks. But that’s quite far.”
Saylor lost its authority to manage the company’s voting rights in 2024 due to the ongoing issuance of MSTR shares. This means that the above scenarios can occur in theory, especially when activist investors decide to engage.
Another potential risk for MSTR holders is that the double-length strategic exchange trade funds (ETFs) issued by T-Rex and Defiance, MSTX and MSTU saw strangely sustained demand despite stock drawdowns. Every time an investor wants to gain or increase his exposure to these ETFs, the issuer must purchase twice the MSTR shares. The popularity of these ETFs has helped to create constant purchasing pressure for MSTR. So far, MSTR exposures have accumulated over $3 billion.
The problem is that the music might stop one day. And if these ETFs start selling MSTR stocks, the stock price response could be violent.
“I don’t know where the infinite capital came from to buy dip. These ETFs have disappeared. They are huge,” Thompson said. “So this is not a structural movement with the demand curve you should expect. It’s not something you really should burn into a 10-year forecast of Bitcoin’s price, but as long as it exists, it’s important for Bitcoin.
