Bit Digital: another hosted mining victim? (NASDAQ: BTBT)

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Bitcoin (BTC-USD) mining is a tough business to manage right now. In addition to the squeezed margins that continue to plague the entire space, additional risks can be added to a company’s operations depending on how it is modeled at the infrastructure level. Some choose the asset-light approach taken by a company like Marathon Digital (MARA) while others vertically integrate like Riot Blockchain (RIOT).

Asset-light refers to the use of hosting partners for mining services rather than managing mining directly on owned and operated sites. While I think asset-light probably makes a lot of sense when times are good, when times are bad, too many third parties theoretically add an element of risk that vertically integrated organizations don’t have to manage. Digital Bit (NASDAQ: BTBT) seems to learn this the hard way.

Digital bit

With a market capitalization of $90 million, Bit Digital is one of the smallest publicly traded Bitcoin mining companies. The company uses the asset-based approach to mining Bitcoin and has a geographic footprint in North America that includes New York, Texas, Georgia, and Nebraska.

For the month of August, Bit Digital generated 145.3 BTC from its operations and claimed a crypto cash balance of 919.2 BTC and 3,684 ETH – these stacks of crypto have a current market value of 17, $5 million in Bitcoin and $4.8 million in Ethereum. The company also has 38,594 Bitcoin miners, of which only 29% have been deployed with Bit Digital’s hosting customers.

Misfortunes of third parties

Late last week, the company revealed that Blockfusion, one of Bit Digital’s New York hosting partners, had been served a cease and desist by the City of Niagara Falls. This cease and desist is related to zoning requirements:

the notice directs a halt and desist from any cryptocurrency mining or related operations at the facility until Blockfusion complies with section 1303.2.8 of the City of Niagara Falls zoning

According to Blockfusion, the order took effect on October 1 and an application to renew the previous license could take months:

Blockfusion further indicated that it was preparing applications for new permits based on the new standards of the ordinance and that the processing of permits could take several months. Bit Digital management continues to monitor the situation.

Given New York State’s potentially adversarial approach to Bitcoin mining, it might be wise to assume that Blockfusion’s enforcement could take a considerable amount of time. The problem for Bit Digital is currently that 17% of its active mining fleet is hosted at Blockfusion. This is a production that can be difficult to migrate to another hosting site as Blockfusion is not the only provider facing issues.

Compute North is an even bigger customer for Bit Digital. Compute North recently filed for Chapter 11 bankruptcy:

The bankruptcy is perhaps the biggest bitcoin mining news to emerge in the 2022 bear market. Compute North provides hosting services for $700 million worth of equipment to some 84 mining entities, including publicly traded companies such as Marathon Digital Holdings.

Although Compute North has asserted that the bankruptcy filing will not have an immediate impact on operations, the reality is that there is now a risk to the company’s previous agreements. This could theoretically be an opportunity for some of the biggest players in the Bitcoin mining space. But in my opinion, any potential changes to previous agreements can have a significant impact on Bit Digital in particular. In Bit Digital’s Q2 filing, the company said that 20MW of its current hosting comes from Compute North with a total of 48MW from the hosting provider going forward:

As of June 30, 2022, Compute North provides approximately 20MW of capacity to our miners. Our planned aggregate future hosting capacity with Compute North is approximately 48 MW.

Given Bit Digital’s current fleet figure of 42 MW and the 123 MW capacity figure that announced purchases are expected to ultimately deliver, Bit Digital is heavily dependent on Compute North for its current and future mining operations.

MW projection

Digital bit

Just under half of Bit Digital’s current fleet is powered by a company that has just filed for bankruptcy and an additional 17% of Bit Digital’s non-Compute North capacity is now disabled without a true ETA to come back online. This should probably go without saying, but it is not a vantage point and the asset-light model is being seriously tested as the mining industry faces the double whammy of higher energy costs and lower prices for Bitcoin. For light asset miners, we are likely to see a greater portion of these energy costs passed on to host users than in previous Compute North deals.

Grand Challenges of BTC Mining

The sustainability of profitable Bitcoin mining depends entirely on BTC prices rising in perpetuity. The main reason for this is the block reward. With the block reward set to be halved in 2024, miners need higher Bitcoin prices to continue operating profitably if the cost of operation stays the same or even increases with higher electricity costs.

benefit of the miner

BitInfoCharts

As it stands, miner profitability is already at its lowest level in 24 months and this figure could drop further if the price of Bitcoin continues to fall while the hash rate increases.

New sources of revenue

To the company’s credit, Bit Digital seems to be aware that alternative revenue streams are needed in an industry that is currently facing change. For example, Bit Digital mined any Ethereum (ETH-USD) in August and said in its September investor presentation that it intends to start staking Ethereum for more stable rewards.

ETH Slide

Digital bit

But if Bit Digital is to transition to a model where a significant percentage of its revenue comes from Ethereum staking, it will likely need to increase ETH in its treasury to generate a meaningful return as a new revenue segment. I think there are other publicly traded companies that are better positioned to benefit from Ethereum’s move to proof-of-stake consensus and I shared one such idea with BlockChain Reaction subscribers in September.

Summary

The good news for Bit Digital investors is that the company doesn’t have a lot of debt and has plenty of cash on the balance sheet to pivot its model if it decides to.

assets

Digital bit

The company has thousands of mining machines that have yet to be powered. These are assets that could be liquidated or moved to a facility capable of handling capacity if there is an opportunity to do so. If I understand correctly, the whole point of the asset-light model is to be agile and to have options. This would seem to be the time when Bit Digital should exercise all the options it has with its assets and deals. I don’t think Bit Digital is a “sell” here. But I can’t call it a “purchase” either. I would like to see clear guidance from the company in its September production update in the coming days. If the price of Bitcoin goes up, there are other listed miners who will benefit more from this rise.

About Catherine Wilson

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