Bullion to Bits: Can gold miners lend some financing structures to Bitcoin miners?
0x8BE2
July 4th, 2022

Original Date of Writing - 06/30/22

When looking back at 2021, North America’s crypto equity markets representation (asides from Coinbase’s blockbuster direct listing) was dominated by Bitcoin (and other cryptoasset) mining companies. Raising capital through SPACs, these firms tapped into equity markets in order to finance their capital-intensive mining equipment purchases (i.e. from Bitmain) as well as operationally heavy process set-ups (warehouse selection, layout design, electricity / water systems, etc.). While this requires a lot of capital up front, the idea is that once the Bitcoin starts flowing (especially at prices between $40–60k) high margins bring large profits in (*cash profits assuming some of the mining rewards are sold).

https://arcane.no/research
https://arcane.no/research

Capital markets have changed quite significantly from 2021, and SPACs (yet alone a crypto one) would be hard to successfully carry out in today’s environment. Bonds or other debt facilities (such as private placements) would be equally as tough. So, how should an aspiring Bitcoin or PoW cryptoasset mining company get from point A (multiple capital needs up front) to B (profitably mining BTC) as touched on above?

While I do not spend much time focused on cryptoasset mining, I find it an intellectually stimulating activity to study components of non-crypto sectors and see if any knowledge / practices can be ported over. In comes gold mining. Now, gold mining is a whole other ball game vs. Bitcoin mining; however, certain parallels can be drawn on the financing side, and that is the topic of this post.

Creativity with Gold Financing

Similar to the simplified illustration above of Bitcoin miners needing to get from point A to point B, gold mining companies need to realize a similar objective. Upon zoning in on an exploration site, they need to expend significant capital before getting an ounce of gold. The biggest and best companies may be able to internalize this capital sourcing; however, even they along with the rest might seek out the capital markets to raise capital for the specific project. Just like with other companies, they could pursue traditional capital market routes (common or pref equity, tradable bonds) or they could pursue something more specialized:

1: Gold Trusts

These financing vehicles tend to offer a synergistic relationship between the buyer of the trust and the miner. Basically, a miner can set up a structured vehicle whereby they receive funds up front and in exchange pay out a certain predetermined percentage of the mining output on an annual basis. The miner gets low cost of capital funding up front and shares in the output success with the investors.

This version of the gold trust can be amplified by creating certain mechanisms which enhance the appeal for investors. One of the most well-known examples is the Barrick-Cullaton Gold Trust, which Barrick used in 1984 to raise $17m. This trust paid investors 3% of the mine’s output when the price of gold was <=$399/oz, with the percentage rising to 10% of production when gold was at a price of $1,000/oz. Barrick wins by avoiding equity dilution and interest costs, and only has to pay out more of the mining production when prices rise, assuring a certain level of profitability.

2: Bullion Loans

Structured in a bespoke nature, these loans are, as the name implies, issued in bullion and not fiat / cash. A bank will lend a mining company gold, and over the course of a predetermined period, the miner will pay back the loan in the product of their mining operations (along with interest). Collateral generally tends to be the mines themselves.

One more recent example is that of the bullion loans taken by the Tanzanian Royalty Exploration Company. The loans were structured for one year, subject to renewal, carried an 8% interest rate, and could be paid back in gold (the valuation date for such bullion was the date of the loan agreements). Interestingly, there was the option for the company to repay the loans in cash or stock as well.

3: Gold-indexed Bond Offerings

Taking the debt avenue one step further, these bond offerings are like typical bonds, yet can be redeemed for cash or gold bullion equal to a certain amount determined by the bond offering. Over time, the later an investor chooses to redeem, the more value in ounces of gold they receive. These instruments may have interest coupons like normal bonds.

An illustrative example here is the 3.5% gold-indexed bonds offered by U.S. company Refinement International. Each bond was worth 10oz of gold with the coupon worth 0.35oz of gold. A more fitting example is the 2% gold-indexed bonds issued by Barrick in 1987. Held to maturity, the investor would have received 3.38oz of gold.

Gold -> BTC

Given some of the examples above, it becomes quite an interesting exercise to apply this to Bitcoin mining companies. Again, while the two industries are very different, some of the deeper principles may be relevant and one could look to these gold miner financing avenues for inspiration.

But before even processing the inspiration component, it may be helpful to ask why is this all necessary? Well, given the state of both the capital markets and the Bitcoin mining industry itself, capital will be much harder to come by, yet definitely still in demand. Leveraging some of Arcane’s research, miners appear to have modest cash flows (most likely lower now than represented below), face large incoming machine payment bills, and harbor potential liquidity concerns.

https://arcane.no/research
https://arcane.no/research
https://arcane.no/research
https://arcane.no/research

One of the worst things a company could do is offload large quantities of its balance sheet BTC in a bearish price environment to meet short term cash needs. Thus, in order to pursue an optimal future path that does result in survival, access to financing is crucial. Perhaps some new financial innovation can emerge in this sector to create vehicles or instruments that offer Bitcoin and PoW asset miners a cheaper (and available) source of capital, while also providing investors with appealing risk / return exposures.

Utilizing some of the frameworks above, one could see BTC mining trusts, BTC loans (it would very interesting to see this come from DeFi infrastructure) and BTC-indexed bonds. The foreseeable resistance, in my opinion, would originate from potential regulatory concerns (the industry is still navigating a spot BTC ETF, which has been very tough so far) and BTC appetite. On the latter, BTC’s shift in narrative from an inflation hedge asset to a risk-on one makes this market environment a very hard one for its appetite. However, if that narrative were to shift again, or if an appealing risk / return opportunity is created, a BTC miner specialized debt instrument could garner interest.

Conclusion

Drawing this to a close, there are a couple points I wish to re-emphasize. (1) Gold miners != Bitcoin miners. I can’t say this enough… this is not the argument here. However, there are notable similarities that lend to cross-knowledge utilization, which could prove valuable. (2) BTC as a SoV asset has a long way to go before even getting close to the level gold was at in the 1900s, but all innovation starts small. (3) There is white space for innovation in Bitcoin miner financing and I’m excited to see what evolves.

Disclosure:* This blog series is strictly personal/ educational and is not investment advice nor a solicitation to buy or sell any assets. It does not represent any views from where the author is working — all views, opinions, and arguments are the author’s. Please always do your own research.*

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