Scientific Core Stock: A Solid Bitcoin Mining Play (NASDAQ:CORZ)

Although Core Scientific (NASDAQ:CORZ) decided to sell much of its Bitcoin holdings over the past few months, it remains well positioned for when the price of Bitcoin returns to its upward growth path.

A lot of which is attributed to its reluctance to take on more debt, cost-cutting measures, access to capital and its highly successful production performance which is projected to reach approximately 2,000 Bitcoins per day by the end of 2022, according to management.

With the share price of CORZ collapsing through 2022, the risk/reward dynamic is very favorable for investors taking a position at this time or averaging down to lower the cost basis.

In this article, we will look at the various factors that make CORZ a good speculative play for long-term investors.

Recent production performance

In its latest release, CORZ reported mining 1,213 Bitcoin in September, down 9 percent from the previous month.

CEO Mike Levitt said the decline in the number of Bitcoin mined was related to some electrical equipment defects from producers, along with severe weather in some of the mining jurisdictions, which caused it to temporarily shut down some of its mining operations.

Even under the difficult circumstances, the company was able to increase its EH/s from 12.69 EH/si in August to about 13 EH/si in September. It was the result of the company expanding the number of self-mining servers from 127,716 to close to 130,000 during that period.

In terms of sales, CORZ sold 1,576 BTC in September at an average price of $20,460 per Bitcoin, for a total revenue of $32.2 million. In contrast, the company sold 1,125 BTC in August for an average of $23,014 per Bitcoin for a total of $25.9 million in revenue. As a result of the sales, CORZ had 1,051 BTC and $29.5 million in cash at the end of September, compared to 1,406 BTC and $47.2 million in cash at the end of August.

When CORZ first sold its BTC in earnest, it worried me because I liked the strength it added to the balance, and the future potential of the value of the Bitcoins it had before implementing the strategy.

However, with the company able to produce so much BTC on a monthly basis, it won’t take long for the company to build up its BTC reserves once the price of Bitcoin starts to rise again.

And as production levels continue to increase significantly over the next 3 months or so, it will be able to both grow its holdings and sell out if the price of Bitcoin justifies these actions.

At the end of September, CORZ was operating around 232,000 ASIC servers for self-mining and co-location, generating 22.5 EH/s. By the end of 2022, CORZ plans to add 38,000 more self-mining ASIC servers.

In terms of colocation services, the company added around 8,400 new servers to further serve its 102,000 customer-owned ASIC servers. Colocation accounts for approximately 9.5 EH/s, or 42 percent of total EH/s, which not all investors are aware of; that’s what brings the total to 22.5 EH/s.

Balance sheet and access to capital

At the end of Q2, CORZ had total debt of about $960 million, not including accounting reserve adjustments of just under $200 million. Of the total debt, just over $500 million was privately placed convertible notes, which mature in April 2025. They won’t have much of a cash impact on the company because they bear interest in cash at a rate of 4 percent. They include a non-cash salary of 6 percent with no principal to be paid before maturity. Management stated that it was “very comfortable” with the due date. Assuming the price of Bitcoin recovers and the share price rises, the company should be able to convert its debt into equity.

CORZ also has a debt obligation to B. Riley of $57 million that is due to be paid over the next eleven months. It has already paid off $18 million of the original $75 million loan. Management stated that it is also comfortable with its ability to pay what it owes B. Riley.

As for the financing of the equipment, CORZ plans to have 170,000 self-mining servers operational by the end of 2022, with just over half (86,000) “currently encumbered with debt or leases”, representing around $330 million at the end of Q2 . The management said once again that they also see no problem with continuing to service equipment debt.

In terms of funding, the company has $100 million in equity that it can tap into whenever it wants over the next couple of years. Presumably, unless absolutely necessary in the near term, management said “we don’t think it makes sense to increase our debt.”

In an effort to reduce expenses, the company cut 10 percent of employees and is getting out of non-core businesses.

Something that investors should consider with regard to the company’s balance sheet and service of its overall debt is the projected increase in the number of Bitcoins produced on a monthly basis.

If it actually comes close to the 2,000 monthly Bitcoins mined, that’s a big increase from where production stands today. On average, there will be approximately 700 to 800 more Bitcoins mined per month by the end of 2022. Even at a modest average price of $19,000, that would generate $38 million in revenue per month. It is easy to see the impact this will have on the performance of the company if the price of Bitcoin resumes its upward trajectory. That in turn will significantly improve CORZ’s balance sheet due to its ability to pay off debt and use proceeds from Bitcoin sales to finance its needs. I also believe that the company will eventually start building up its Bitcoin reserves again, further strengthening its balance sheet. It won’t happen in the short term, but when inflation starts to shrink on a sustainable basis, the price of Bitcoin will provide a lot more options for the company than it has today.

What to look for with the Federal Reserve

My thesis is that when inflation starts to show signs of abating, the price of Bitcoin will initially rise, which I believe is the first time CPI has any meaningful fall. I don’t think that the first month it slows the rise in the price of Bitcoin will stay at high levels, rather it will likely shoot up and then retreat to higher lows, with investors looking to increase their positions if inflation falls for two months in a row.

At that time, I think the Federal Reserve will be under pressure to stop rate hikes, depending on the level of the fall in inflation. If it is modest, it is likely to reduce the size of the increases, but likely to increase it by 25 basis points. Under that scenario, the price of Bitcoin should find support but be limited to the upside until the market is convinced that inflation is under control.

When I say under control, I don’t mean it will be anywhere near the Fed’s stated goal of getting it down to two percent. I think it will fall enough to convince investors that the worst is over, and over time it will continue to fall, even if it’s two steps forward and one back.

My belief is that by the end of the year we will have much more clarity on this and the market will react accordingly. Barring a Black Swan event, the most likely scenario is that by the end of 2022, inflation will begin to reverse direction as momentum slows, paving the way for more positive sentiment to start the year.

I know some in the financial world are starting to use the word recession, but based on the metric used for the last seventy years (two straight quarters of a decline in GDP), we are already in a recession. I think the reason the definition is being played with is because of the mid-term elections in the US

The reason it matters is because if we really are already in a recession, it could trigger investors to sell decent assets based on the financial media suddenly declaring a recession, as if it has just begun.

As for CORZ, it will participate in any negative catalyst that triggers another sell-off in riskier assets if a recession is announced at some point in the near future as official.

However it goes, I think over the next few months we are more likely to see inflation start to come down in response to Fed rate hikes, and that should result in a big rally in the price of Bitcoin if it happens more than one month in a row.

Conclusion

With its increasing monthly Bitcoin production, along with equity credit, I believe CORZ has the ability to fund its operations through at least the end of 2023.

Since it has invested heavily in mining equipment to quickly increase the number of Bitcoins it produces on a daily and monthly basis, it could surprise on the upside if the price of Bitcoin rises sustainably through 2023.

On the other hand, if for some reason inflation remains more stubborn than I think it will, it will cause the company to find more ways to finance its operations until it turns around. I don’t think it’s likely, but it’s a possibility.

The bottom line is that by the end of the year, CORZ is going to increase the number of Bitcoins mined by quite a lot, and that will generate a lot more revenue. How that will affect the bottom line and help it through 2023 will be determined by how the price of Bitcoin moves in response to inflation. CORZ’s ability to produce the amount of Bitcoin it does sets it apart from most of its competitors. That is one of the reasons why I am not worried about the large debt burden, because it has resulted in a rapid increase in production figures.