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Wall Street Sours on Coinbase, Signaling Broad Crypto Doubts

A year ago, cryptocurrencies roared and Coinbase Global Inc.,

COIN -0.08%

considered the Charles Schwab of crypto exchanges, was fresh off an IPO that valued the firm at $85 billion. Today, one market-based measure suggests investors doubt the company can survive.

As a publicly traded entity, the US firm, which originated in San Francisco​​​​​​ but says it has no headquarters, appears to have shied away from the complicated financial maneuvers that helped FTX dropped, a competitor whose stunning collapse rocked an already busy industry. Nevertheless, Coinbase COIN -0.08%

burned through its cash and lost the confidence of investors. Its shares have fallen 81% since the start of the year, its market capitalization has shrunk to $11 billion, and its bonds are trading at a little more than half their face value.

The declines raise questions about the future of digital currencies and the companies attached to them.

Issued in September 2021 — when bitcoin was trading at nearly triple its current price — Coinbase’s 3.375% unsecured bonds due 2028 changed hands Thursday at about 56 cents on the dollar, according to MarketAxess. One interpretation, analysts said, is that investors think it’s more or less a tossup whether Coinbase repays its debt in full or loses so much value that it plunges bondholders into bankruptcy with steep losses.

Representatives from Coinbase declined to comment for this article.

By wide agreement, Coinbase is a standout in the crypto world for its transparency and relatively fixed business model, which is based on taking a small cut of the trades that take place on its platform. For many, it is hard to imagine a crypto industry without Coinbase. But it’s also getting harder to trust that crypto’s future looks anything close to its booming past, with interest rates higher, crypto prices hovering around multi-year lows and FTX clients wondering if they’ll ever get their money back.

“If this thing stays for whatever reason — these crypto tokens — then they’re certainly one of the leading providers in the U.S. for that,” said Dan Dolev, a senior equity analyst who covers Coinbase at Mizuho Securities USA. But, he added, “The problem is the inherent industry in which they operate.”

Even at this difficult moment, Coinbase’s stock price reflects some chance that the company will be a highly profitable leader of the digital future because equity investors, as owners of the business, will share in that success.

By contrast, bond prices are largely unaffected by best-case scenarios because all that matters to debt investors is that a company can make its interest and capital payments.

One argument made by Coinbase bondholders is that analysts should look at the yield on Coinbase bonds rather than their prices.

Because interest rates have risen so much this year, even some investment-grade corporate bonds with low annual interest rates are trading at deep discounts to par. Otherwise, they would offer worse returns than US Treasuries.

Still, according to MarketAxess, Coinbase’s 2028 bonds were trading at a yield of about 15% on Thursday, or 11 percentage points more than the comparable U.S. Treasury.

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Coinbase’s 2028 bonds were trading at a yield of about 15% on Thursday, according to MarketAxess.


Photo:

Michael Nagle/Bloomberg News

A Treasury spread of at least 10 percentage points is generally considered a sign of financial stress. From 1996 to 2021, bonds in that category had a 38% chance of defaulting within 12 months, according to Marty Fridson, a veteran high-yield bond analyst who is chief investment officer of Lehmann Livian Fridson Advisors.

Coinbase’s war chest of cash is one reason to believe it has plenty of time to prove itself, some investors and analysts say.

The company had $5 billion in cash and cash equivalents as of Sept. 30, thanks in large part to its success ahead of 2022 and its bullish bond sale last year, which raised billions of dollars at minimal cost. Its near-term major debt maturity, assuming it doesn’t convert to equity, is a $1.4 billion issue of convertible notes due in 2026. Its $2 billion in unsecured conventional bonds, due in 2028 and 2031, effectively comprise all of its remaining debt burden.

Cryptocurrency exchange FTX was seen as a survivor in a struggling industry, but over the course of six days, the exchange collapsed due to a sudden liquidity crisis. WSJ explains the factors that drove FTX’s growth and what led to its demise. Illustration: Alexandra Larkin

However, the big question is the sustainability of the business. Last quarter, Coinbase burned through $278 million in cash, according to S&P Global Market Intelligence. That happened even though it saved $391 million in cash outlays by paying employees with stock — an unsustainable amount, some investors say, given the company’s declining stock price.

Equity investors who believe in Coinbase argue that the company can easily cut costs by reducing spending on additional lines of business, such as non-fungible tokens, or NFTs. For them, it is good news that the company is already laying off employees, after going on a hiring spree last year.

Ultimately, however, Coinbase’s business is highly dependent on the price of digital currencies in general and bitcoin in particular, which accounts for more than 40% of its customers’ crypto assets.

The company charges a fee of around 1% on transactions by individual investors and a much lower rate for institutional investors. This means that as the price of bitcoin falls, it gets less revenue for each bitcoin traded. Additionally, trading volume may drop as bitcoin prices fall, delivering a double hit for the company.

There are also regulatory risks. Securities and Exchange Commission Chairman Gary Gensler said that most crypto tokens should be considered securities. If broadly enforced, that designation could force Coinbase to freeze trading in tokens that make up at least 30% of its customers’ crypto assets, according to some analysts’ estimates.

So opinions on Coinbase tend to be split between those who see a future for cryptocurrencies and those who don’t.

“Investors have always wanted an alternative to the conventional money system,” said Bill Zox, a high-yield bond portfolio manager at Brandywine Global, which holds Coinbase bonds. Crypto, he said, is similar to gold and in some ways better.

With Coinbase’s bonds trading at such low levels, Mr. Zox added that it would be smart for the company to buy back all of its debt near current prices. Such a move, he said, would boost confidence among investors while still leaving it with billions of dollars in cash.

Paul Vigna contributed to this article.

Write to Sam Goldfarb at sam.goldfarb@wsj.com

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