Why is MSTR's "Financial Alchemy" Destined to Fail? [New York Talk25]

“New York Talk · Season 2 Wall Street Frontline Insights” Featured Guest Introduction: Content of This Issue · Competition among Crypto Treasury companies (also known as DAT) Let’s talk about the competitive landscape—some important variables start from 2024. When MSTR pioneered this business model in 2020, there were almost no similar companies in the market; it was essentially the only one, and even if there were others, their scale was extremely small. Since then, such companies have gradually increased in number, with Japan’s Metaplanet being one of the more well-known examples. Originally operating in the hotel business, it was hit by the pandemic and decided to emulate MicroStrategy’s model, transitioning into a Bitcoin reserve company and becoming what is known as a DAT. The company's stock price surged dramatically—from just over two dollars to more than ten dollars—thanks to recognition of its new model and the rally in Bitcoin, though it later fell back to just over two dollars, still up modestly on the year. This is one of its traits, and in fact, the stock’s market cap is not small. There is also France’s Blockchain Group, which has adopted a similar business model. This was originally a tech company, though I don’t know their operations in detail. In reality, as soon as a company’s main business pivots to crypto assets or becomes a crypto financial company, the analysis should focus more on its balance sheet and the financing instruments it uses, which is also the core of this report. However, the current competitive landscape has changed, with many companies pursuing similar businesses emerging. For example, as mentioned in previous discussions on Gamma squeeze, GameStop and Trump Media. When the latter went public last year, its stock price rose sharply but has pulled back recently. They are all engaging in roughly similar activities, and if you search, you’ll find the number of these companies is increasing. · Companies Operating Ethereum When discussing these companies, I usually analyze those related to Bitcoin, Ethereum, and Solana. One well-known investor is Tom Lee, who frequently comments in mainstream media and is regarded by many as a perennial bull. As a Korean-American, he is quite prominent in the industry. About two or three weeks ago, I attended his lunch session at a TCFA conference, focusing mainly on Ethereum. Many people asked about my market views at the time—I noted that although the future model was worth watching, I saw certain issues at this stage. Afterwards, we indeed saw a noticeable drop in related cryptocurrency prices. Let’s look at this stock now. This company only went public this year; its stock once soared past $100 but has now dropped to about $26. Its business model doesn’t revolve around Bitcoin but focuses on Ethereum due to its richer ecosystem. At present, we’re discussing the competitive landscape. This competition is actually expanding, not even taking into account the entirely new area of stablecoins—which, while beneficial to the overall financial system, falls outside our current focus: the financing instruments of specific companies and the competitive pressures they’re under. Clearly, firms like MicroStrategy face intensifying competition. · The Scale of Some Bitcoin ETFs I believe the most significant competition now comes from ETFs themselves. The previously discussed models—where companies use financing to create higher valuation multiples, push the stock price up, and then refinance, forming a cycle—have given way in 2024 to a market flooded with ETFs. When I spoke about ETFs last summer, the scale of these Bitcoin-related ETFs was still quite small. According to a table found online, BlackRock’s iShares Bitcoin ETF is one of the earliest products launched. There’s also Fidelity and Grayscale’s Bitcoin Trust—all set up mostly at the start of 2023, so their histories are short. But after entering 2025, these ETFs are growing very rapidly, especially post-election, with institutions heavily promoting them, causing massive expansion in scale. iShares’ Bitcoin ETF is now around $72.7 billion, Fidelity’s is $18 billion, and Grayscale and several others together total about $20 billion. The chart demonstrates that a vast pool of investors—especially institutions and traditional ETF investors—are allocating capital into these products. These ETFs are, in fact, forming direct competition with MicroStrategy’s model, or, put differently, with investing in MicroStrategy stock. What’s more, if you look closely at the numbers, even 2x Bitcoin ETFs are of considerable size, reaching several billion dollars. There are also Ethereum ETFs, though these are smaller. The existence of these products has diverted significant capital from other channels, creating a fiercely competitive market environment. · Current Status and Outlook: Bond-like Financing in 2025 After analyzing the competitive landscape, let’s return to MicroStrategy itself. One key point in this report is to explain why convertible bonds are advantageous for the company. And as noted in early-stage reports, post-2024, the company has actually issued a large amount of perpetual preferred stock. Preferred stock essentially has bond-like properties—I’ve compiled this year’s perpetual preferred stock and bond issuances from online information. We see several main issuances: In January, they issued perpetual preferred shares under the name STRK, followed by other series. Early-year issuances had a coupon rate of 8%, which was much higher than the yield on treasury securities at the time. Because it’s perpetual preferred shares, investors don’t benefit from stock price appreciation; some products theoretically have conversion rights, but the conversion price is set extremely high, so it can be ignored in practice. There are also some clauses that allow the company to skip interest payments. Even though such clauses could save the company interest temporarily, if a payment stop actually occurs, there would be a seriously negative impact on the stock price. We won’t go into those details here. The company did issue convertible bonds again in February, but by March, it resumed issuing perpetual preferred stock, now with coupon rates rising to 10% and including specific compensation terms if interest is not paid. These details need dedicated investor study; my focus is the shift among different financing assets. Later, in June, they issued perpetual preferred shares yet again. Notably, these later issuances essentially lack a conversion feature. All were sizable, with interest rates between 8% and 10%. This is significantly different from the convertible bonds. · New Round of Stock Financing by End of 2024 Now let’s look at stock financing. On October 30, 2024, the company announced the “21/21 Plan,” planning $21 billion in both equity and debt financing. By May this year, the plan was updated to the “42/42 Plan,” raising both equity and debt targets to $42 billion—a total of $84 billion. After unveiling the plan last October, the company began constant share issuance via ATM, especially early this year when the stock price was high. But the issue here is that any additional share issuance not only dilutes holdings but alters supply-demand dynamics, bringing downward pressure on the stock price. In particular, new share issues dilute the amount of Bitcoin backing each share, and that measure is a key factor supporting its stock price expansion. So, the dilution effect is a rather serious problem. In the long run, while the company is very confident in Bitcoin’s long-term rally (and I agree), the actual path could be more complicated than imagined. To maintain upward momentum in the stock price, Bitcoin must rise quickly, boosting the total Bitcoin holding’s value to drive valuation expansion. However, this trajectory may not be so simple. This is why I’ve spent so much time deeply examining their financing method this year. · Thoughts on Various Financing Tools To sum up the thinking on financing instruments: Right now, MSTR publicly states it prefers preferred stock financing. They believe it’s the best method because preferred shares aren’t common stock, don’t dilute equity, and can bring in lots of cash, which is instantly used to buy Bitcoin, theoretically increasing the Bitcoin-per-share and creating upward price momentum. But preferred shares have clear drawbacks. The 8%-10% interest expense is very high. MicroStrategy’s original software business has limited profitability, which creates a potential problem: After issuances of large amounts of preferred shares, accumulated interest costs are high. Interest could wipe out earnings. Although accounting standards have changed, fluctuations in Bitcoin held are now included in reported profits, but regardless, the company must maintain basic profitability to pay those interest costs. As the scale of issuance increases, payment pressure mounts. If unable to pay, there’s credit risk—if credit risk unfolds, company valuation could get hit anew. It hasn’t reached that point yet, but it is a potential risk. By contrast, issuing stock is advantageous because it is permanent capital—no interest payments, no need to repay principal. But the disadvantage is the immediate dilution of Bitcoin per share. The model’s main advantage is leverage by increasing Bitcoin holdings, but constant dilution reduces this effect. Also, over-dilution of shares brings the price down, so the company must control supply. While heavy issuance may be unavoidable at the moment, it remains to be seen if this model is sustainable. Of all financing tools, I believe their most successful is the convertible bond, which is why this report spends so much time analyzing its option effects, squeeze scenarios, and other advantages. Convertible bonds carry another hidden benefit: They drive frequent trading in the underlying stock, which improves market liquidity and helps the share price. However, convertible bond issuance is conditional. Reviewing the 2020 first issue, then 2021 and several in 2024, the commonality was that Bitcoin was extremely volatile and MSTR enjoyed a significant premium—its valuation was more than double the value of its Bitcoin holdings, though that is now below portfolio value. These factors gave MSTR high volatility characteristics—hence the focus on volatility analysis. Now, volatility has dropped noticeably, which questions whether this model is sustainable. Recently, the company has not issued more convertibles, though perhaps another opportunity will arise if the stock price rallies again. Convertibles have drawbacks too, though these have not materialized historically—because in both 2020 and 2021, convertibles converted successfully after big stock rallies. So, the company gained funds years ahead and bought Bitcoin, profiting handsomely. As for share dilution after conversion, that was years down the line. But there is a potential risk: If the convertible never meets conversion criteria and is held to maturity, the company must repay the principal. As per prior tables, nothing matures until 2028. However, in extreme cases, if conversion is never triggered by maturity, repayment pressure could be acute. It isn’t certain whether this will occur—after all, Bitcoin has been a strong asset long term. But we must stay attentive. · MSCI Is Considering Whether MSTR Will Remain in the MSCI Index Before closing, let’s discuss a recent development: MSCI is evaluating whether to retain MSTR in its indices. Their basic standard is constituent companies’ main business must be clearly defined, and not just investment activity. So, MSCI plans to reclassify these digital asset reserve companies as investment companies or even trusts, not operating companies. This decision is expected by mid-January, less than two months away, and poses a potential risk to MSTR. Signs are not positive. If MSCI reclassifies, MSTR will be removed from the MSCI index, triggering about $2.8 billion of passive withdrawal. More seriously, MSTR is now also a major constituent of the Nasdaq 100 and Russell indices. If MSCI excludes it, other index providers could follow suit—this is a market concern. In fact, there is precedent. In September, the S&P 500 index committee excluded MSTR in its evaluation, mainly due to its business nature. In response, Michael Saylor has emphasized recently that MSTR is not a fund or trust but a normal operating company. Saylor is highly influential in Bitcoin and crypto, and since 2020 has become a household name in America. Given Saylor’s clout, it may impact future decisions, and we need to keep watching. · Possible Evolutionary Paths Finally, let me talk about possible evolution paths. Of course, I can’t provide crystal ball forecasts, but the analysis is based around key elements we’ve discussed: financing tools, Bitcoin price, and premium dynamics—a few scenarios: A good outcome obviously requires a major Bitcoin rally. From a long-term perspective, Bitcoin does have opportunities to rise, as we mentioned in relation to basis trading. In May, I was especially bullish on crypto, thinking it would outperform amid U.S. stock market dominance, but as doubts about sustained U.S. dominance emerge and concerns about credit risk and liquidity issues rise in the U.S. financial system, the market situation has shifted. Crypto is essentially a dollar-denominated asset and its trend has correlated closely to the Nasdaq for some time; recently, it has declined much more than the Nasdaq, for specific reasons: including October’s crypto market blow-ups and changes in MSTR's own financing structure. If these issues are resolved, a strong Bitcoin rally could reignite MSTR’s premium. In a best-case scenario, rapid gains could trigger a Gamma squeeze, or more precisely a short squeeze. The company could capitalize on surging share prices to finance again, returning to the positive cycle of 2020-2021 and 2024. Of course, that’s the optimistic case. As mentioned, there are many competing factors now—not just more peer companies, but, importantly, the ETF market is enormous. The unfavorable outcome is that crypto doesn’t rally for a long time, calling the business model into question, and companies like this trade at deep discounts. The problem is, even though theoretically the company can finance at lower prices, in practice, only the company itself can best exploit such arbitrage. Theoretically, they could sell assets, buy back stock, or repay debt, but this obviously has drawbacks: If implemented, stock price and crypto prices would both fall considerably, so the model definitely has a problem. In the poor scenario, persistent discounts mean financing capacity shrinks dramatically (or, more accurately, is heavily marked down), potentially forcing asset sales and triggering a downward spiral. This possibility does exist. I think both scenarios—even alternately, perhaps simultaneously—could happen. In the normal case, ETF expansion is certain. Growing scale of crypto ETFs will gradually squeeze the total market size, especially as competitors are giant fund companies. On the other hand, asset growth could bring long-term opportunities in crypto—here we’re discussing long-term trends, with short-term price action being another matter. If things go favorably, both crypto and DAT companies' asset valuations will rise, helping the market. But business model challenges must be recognized. This issue is actually extremely important. I believe, first and foremost, we must track MSCI’s final decision, and closely watch how this round of market shocks unfolds. Therefore, I prefer to maintain a cautious attitude during this period. Based on these observations, my concluding summary: Crypto investors should not only focus on the macro factors of the cryptocurrency itself and the overall financial market environment, but also pay special attention to the financing models of crypto companies and DAT companies, because these models have significant impact on the whole market. These are my observations from the second half of 2024 to the present, and the main goal of this report is to combine volatility characteristics, possible gamma or short squeezes, use of various financing instruments, and competitive environment into an overall sharing for everyone. Thank you. Risk Warning and Disclaimer The market entails risk; investment requires caution. This article does not constitute personal investment advice and does not take into account individual users’ specific investment goals, financial conditions, or needs. Users should consider whether any opinions, views, or conclusions herein suit their particular situations. Investing accordingly is at your own risk.