Coinshares International Ltd

STO:CS

Earnings Call Transcript 2023-Q1

[Operator]

Thank you for standing by, and welcome to the CoinShares' Q1 Earnings Broadcast.

[Operator Instructions]

Please be advised that today's conference is being recorded. I would now like to hand the conference over to your host, Jeri-Lea Brown. Thank you.

[Jeri-Lea Brown, executive]

Thank you, operator.

I would like to welcome you all to CoinShares' 2023 Q1 Earnings Call and Webcast. Speaking from management today will be Jean-Marie Mognetti, Chief Executive Officer, and Richard Nash, Chief Financial Officer. All those joining today are encouraged to log into the live event, where you'll be able to view the accompanying presentation during today's call. Alternatively, the results and a copy of the presentation are available to download from the Investor Relations section of the CoinShares' website. A replay of the webcast will be available for 30 days following the live call and a transcript will be posted on the company's website as soon as it is available.

Following the presentation, we will host a short Q&A via the webcast platform. Should you wish to submit a question to the management team, please provide your name and company affiliation. We will do our best to get to as many of these as we can in the allotted time.

Lastly, our safe harbor statement. CoinShares would like to remind everyone that, except for historical information contained herein, statements made on today's call and webcast that constitute forward-looking statements are based on currently available information.

The company assumes no responsibility to update any such forward-looking statements and I would like to point you to the risk factors associated with our business, which are detailed in our prospectus.

At this time, I will turn the call over to Jean-Marie.

[Jean-Marie Mognetti, executive]

Thank you, Jeri.

2022 was a challenging year. And Q1 2023 brought more difficulties with several U.S. banks, including cryptobanks like Silvergate or Signature facing adversity. Regulators have stepped up the scrutiny and even accelerated after the FTX decline. We anticipated this regulatory overswing of the pendulum in our outlook 2023 report and CoinShares has always advocated for a clear and fit-for-purpose regulatory landscape in the country we operate.

We hope this increased activity won't turn into a witch hunt. Despite recent banking failures, CoinShares remained unscathed, thanks to our anti-fragile model. However, the closure of Silvergate SEN network and Signature Signet protocol, created obstacle for crypto players banking operation and led to wider spreads and some market dislocation, all that with some low liquidity and low volume numbers.

The current banking situation reminds us of 2008 financial crisis and highlight Bitcoin's value as a decentralized and resilient asset. Bitcoin recently traded in the range between $26,000 and $30,000 after exceeding $30,000 earlier in April, all these despite negative news flow and the highest interest rate since 2004-2006 period.

Meanwhile, Ethereum Shanghai Upgrade highlight its blockchain capabilities and unmatched adaptability to meet the industry changing needs with ongoing innovation. The activity in the cryptocurrency ecosystem has positively influenced our asset management and capital market businesses. And I will come back to that a bit later.

In this Q1 earnings call, I will discuss our updated positioning and touch upon our passive asset management and capital market activities before offering some insights on our share price trend.

So let's dive in [indiscernible] strategy. In our previous earnings call, I mentioned our work in 2022 to establish our fundamental identity and the role in the market. In January '23, CoinShares Executive Committee and Board refined our positioning to become the premier alternative asset manager specializing in digital assets. Investors now start to ask more than just passive exposure to digital assets and the main alterative investment solutions. We aim to be a comprehensive solution provider, enabling investors to build portfolio allocation models, mixing beta and alpha exposures around digital assets.

As the leading European alternative asset manager in this space, CoinShares plan to expand its offering in 2023 by establishing an active asset management business line with a number of curative investment strategies, which would be open to external allocators.

We started in February '23 to accelerate this mutation and transform our capital market prop trading environment into a best-in-class active asset management practice. Our aim is very clear. We use our track record since 2014 to deliver alpha to our clients while setting up standard, reference standards for digital asset management. This approach broadens our product offering, streamlines messaging internally and externally and clarifies our strategy goals.

To our passive asset management franchise, despite the competitive environment, which we welcome, we will focus on increasing our European market share and global presence. I will share with you further update on my second part. But for now, over to Richard Nash, our CFO, to speak about our Q1 financials. Richard, over to you.

[Richard Nash, executive]

Thanks very much, Jean-Marie. So with 2022 now behind us and 2023 already well underway, we're happy to report that the first quarter of the year has been positive. Our 2 core business units have both performed well, stabilizing in the wake of Q4 2022, which rocked the whole industry in a variety of ways.

The financial performance we have seen, in our view, evidences the stability of the group's underlying business model, solid fee-generating AUM within our asset management products supported by a capital markets team able to leverage the group's balance sheet to generate further gains in income within the evolving market.

So over the first quarter of the year, the group generated revenue gains and other income totaling GBP 15.3 million. Approximately 60% of this figure came from our asset management business and 40% of this came from our Capital Markets business.

This figure of GBP 15.3 million represents the group's strongest top line performance since Q1 2022, which in turn has also led to the group's strongest adjusted EBITDA performance since that time last year. Adjusted EBITDA for the period stands at GBP 8.5 million with a margin of 55%. While we are not yet back to the levels of performance we saw over the course of 2021, we are busy diversifying both our product suites and activities to fully benefit from the market should it choose to rally.

Direct costs of the group comprised custody fees, trading fees and issuer expenses incurred by the 2 issuing entities of the group ETPs. We showed a quarter-on-quarter decrease in 2022 and this reduction has continued into 2023 despite seeing improved performance, thereby improving the group's margins. We do, however, expect these to increase in Q2 given increased AUM from digital asset prices also increases the quantum of custody fees that we will be incurring albeit these increases are more than offset by the increase in the management fees that also arise.

Admin expenses of the group, which were relatively consistent throughout 2022 at an average of approximately GBP 1.8 million per month, have remained stable and at this level moving into 2023.

We have managed to keep the level of the underlying cost of the business relatively consistent since mid-2021 against the backdrop of aggressive inflation and pricing pressures. The main cost for the business, representing approximately 70% of the total admin expense is, of course, our staff base, which currently stands at 86 individuals.

So now looking at our asset management platform a little bit more closely. And just as a reminder, the components of this business unit are our XBT provider ETPs, our CoinShares physical ETPs and the CoinShares' Blockchain Global Equity Index, or the BLOCK index. So the price recovery seen in Q1 has obviously been beneficial to the various products, the group leading to management fees arising from the asset management platform in Q1 of GBP 9.2 million, showing an increase on Q4 2022's figure of GBP 8.5 million. Q4 2022 was the fourth consecutive quarter of declining management fees. So it's really good to see this trend having reversed at the outset of 2023, and it's also continued into Q2.

The CoinShares' physical product suite generated inflows over Q1 of just shy of USD 30 million and saw price appreciation increasing AUM by a further $85 million. On the XBT side, we've previously acknowledged the trend of the outflows being largely stemmed. And over Q1, the XBT products show minimal net outflow of around USD 40 million, but this was more than offset by significant price appreciation of $730 million, resulting in a net increase to AUM of [ $690 million ]. The flows for both ETP product suites and those of our key competitors also, is published in our weekly digital funds flow report, which is available on our website.

Additionally, the level of AUM held within each of our products is disclosed in subject to daily attestation by Ledger Lens, an independent firm solution, which is actually embedded into our website designed to provide additional transparency and comfort to all of our stakeholders. And this is the solution that replaced Armanino who previously provided the service last year.

The overall gross profit margin of the group's asset management platform remained very healthy. While we have seen increased fees relating to the expansion of the product suite and the growth of the team is largely being offset by cost savings elsewhere within the business unit.

So as a quick summary, as at the end of the quarter, the level of AUM across our 2 ETP platforms, XBT provider and CoinShares Physical stood at approximately GBP 1.6 billion with an additional GBP 500 million of AUM within the BLOCK index. This total figure of GBP 2.1 billion is up approximately 48% from the end of the year and we've already started to see the impact of this on our management fees.

Moving on to capital markets. So the performance of the group's capital markets business unit over Q1 2023 demonstrates the benefit that the diversification of the activities within can bring and has resulted in total other income and gains of GBP 6.7 million.

With the turbulence of 2022 behind us and ongoing enhancements of the group's internal controls framework, we also achieved relatively consistent performance month-on-month and a stable gross profit margin for the quarter, which averages out in the mid-70s.

Liquidity provisioning of GBP 0.7 million arising from supporting the group's ETPs are down on Q1 2022 due to decreased levels of flow in XBT outflows being heavily stemmed as mentioned previously.

Delta Neutral trading strategies of GBP 1.4 million are up over 100% when compared to this time last year as the group is taking advantage of opportunities arising from trading CME Futures.

Fixed income activities are also showing a marked increase on 2022, rising from GBP 1.2 million for the quarter in 2022, up to GBP 2.2 million for Q1 2023. And these levels have been achieved against a backdrop of a far more selective approach to our lending counterparties following the turbulence that we saw over the latter half of 2022. And this selective approach has also impacted our DeFi and our staking income, which has reduced moving into 2023, but still remains very strong with performance of GBP 3 million for the quarter.

So now just as I provide some closing comments, we can take a look at the quarterly performance of the group since the start of 2020, which helps visualize the quarter in context.

So Q1 performance has been solid and this pattern has continued thus far into Q2. We managed to navigate without any issue, the banking turmoil that hit the sector in Q1 and are making constant improvements to our internal controls and our risk framework to ensure that the 2 exceptional hits that we took during 2022 remain exactly that exceptional.

We have always been focused on ensuring that our range of products and our activities continues to evolve. And with the product suite of now 19 ETPs and the Capital Markets team is continually diversifying its reach and its partnerships, we believe we are placed to reap the benefits of what the remainder of 2023 may bring.

And finally, I'd just like to remind everyone that the information we touched upon here is included within the full earnings report that we released earlier today.

[Jean-Marie Mognetti, executive]

Thank you, Richard.

So let's dive into our passive asset management business. We started the year by reducing the management fee for our CoinShares Physical Ethereum ETP to 0%. We have a strong confidence level in the Ethereum [indiscernible] time line, thanks to our research teams, so we went first to market ahead of the Shanghai upgrade. In March and in line with our internal road map, we launched 2 new indices with 0% management fees.

The CoinShares Physical top 10 crypto market for cost-effective diversification and the CoinShares Physical's smart contract for exposure to the digital asset market infrastructure layer. This quarterly rebalance indices showcase our innovation and commitment to offering regulated premium product, accessible to all in contrast to competitors 2% management fees. First rebalancing went in at the end of March.

And I'm glad to say that our ops team run that pretty efficiently as if they were doing it for GSCI 20 years ago.

Number-wise, Q1 saw positive European crypto ETP inflow of $109 million, with $93 million invested in Bitcoin contracting products due to short-term institutional interest to play the CME spread arbitrage. Long ETP, short CME Future.

CS Physical Bitcoin attracted $10 million of net investments ranking third in close. In other single coin segment, CoinShares Physical top net flows with $8.7 million, outperforming the likes of 21Shares, WisdomTree or VanEck.

Regarding the BLOCK, our joint venture with Invesco, it remains the #1 crypto equity strategy worldwide. During the quarter, the portfolio saw a strong run in semiconductor stocks and was further helped by the good performance of cryptocurrency prices, which drove pure-play stocks higher. The portfolio did suffer from the banking situation in the U.S. but still outperformed the benchmark MSCI World and the S&P 500. Finally, the Invesco CoinShares Global Blockchain ETF saw net inflows of $20.8 million in the period, which contrasts with most competitors net outflow during the same period.

Overall, our passive asset management business generated GBP 9.2 million revenue during the quarter, matching the revenue level achieved in Q3 2022.

I stop there, Richard already spoke about it, but we maintained a positive outlook in the coming months, and our marketing team is now working hand-in-hand with products and distribution.

The team at CoinShares is executing an ambitious plan in collaboration with our partners to increase our market share of inflows across our products with ambitious targets.

Now let's talk about capital market activity. As mentioned in our previous letter, we have implemented three strategic actions to reduce risk and increase the diligence: First, we strengthened our counterparty controls and processes by using our internal expertise, improving counterparty quality and reducing risk; second, we are professionalizing the sector by working on proof of concept with exchanges and custodian for trading without keeping assets at risk on platforms, reducing our overall counterparty risk. Our assets remain with custodians with daily net settlement considerably reducing risk, which is a work in progress, high on our list and the better work of our active asset management future offering.

Finally, in response to bank bankruptcies and regulatory crackdown on the U.S. crypto players, we reevaluated our USD payment rails, secure new banking relationship and found our investment thesis in FlowBank validated by the entire ecosystem, rushing for banking solutions.

With regard to principal investments. First, Komainu, our regulated custodian completed the final tranche of a substantial funding round in Q1 '23. This significant step reflects their value to the group as evidenced in our year-end and Q1 valuation. Second, FlowBank in which we hold a significant stake, has made impressive progress boosting a consistent 30% to 40% quarterly growth rate in new clients since Q1 2021.

Moreover, top line revenue reached CHF 27.7 million in 2022, a 73% increase from 2021. We anticipate FlowBank's progress to continue in '23 with consecutive months of growth leading to a consistent profitability path. So now before concluding, let's touch quickly on our stock. Last year, we initiated a share buyback program, which has significantly contributed to support our share price since the start of the year.

Also, we continue to trade at a discount to our net asset value, we believe purchasing our stock currently continue to be one of the best use of our capital. We have done it on screen, their blocks and also by reducing the number of outstanding options. Despite limited stock distribution on the various platforms in Europe due to compliance policies, we are confident that our strong performance, our status as a second crypto quarter company on the regulatory exchange and unique positioning are increasingly attracting investors.

In conclusion, we are excited about our strategic decision to position CoinShares as a specialized alternative asset manager in the digital asset space. We have the expertise to lead the industry and by impressing a distinct identity aligned for strength so we can generate optimal returns for our shareholders. We are committed to developing new asset management products that will help increase our assets under management and earnings potential.

We eagerly anticipate the future of digital assets and the opportunities it represents for CoinShares. This is closing CoinShares management Q1 '23 remarks.

Operator, you can now open the call for questions, please.

[Jeri-Lea Brown, executive]

[Operator Instructions]

Jean-Marie, first question is for you, comes from Milosz from Edison. And he asks, "what capacity do you have to deploy third-party capital without losing returns, the active investment strategies that you want to offer in the near term."

[Jean-Marie Mognetti, executive]

Thank you, Jeri. I think that's something we will cover a bit more in the -- in Q2 call. The first strategy we're launching will be announced in Q2. The [ public ] has done -- want to do too much right now [indiscernible] it, but I think ultimate customer strategy, let's say, $200 million to $300 million [indiscernible] on capital.

[Jeri-Lea Brown, executive]

One for you, Richard, from Milosz as well. "Can you comment on the primary sources of the DeFi income that you reported in the first quarter?"

[Richard Nash, executive]

Sure. Yes. Thank you, Jeri. So the DeFi and staking gains generated capital markets infrastructure for the quarter were approximately GBP 3 million. That's down quite a bit on last year, which is around EUR 6 million for the first quarter. The source of that is predominantly from Ethereum staking. We've lowered the number of kind of protocols in much for interacting and CoinShares, which we deal and tighten things up there, which has reduced DeFi staking opportunities for us.

However, with the Ethereum [indiscernible] having gone ahead and the ability to now stake there without pricing liquidity. That's something that we will continue to explore probably throughout the remainder of the year also. So it could only come from one source in Q1.

[Jeri-Lea Brown, executive]

Great. Thank you, Richard. Jean-Marie, one for you from Kevin from HCW. "how the MiCA regulations in Europe changed ETP thinking? What type of regulation follows and how do you think that they will affect the CoinShares business in Europe".

[Jean-Marie Mognetti, executive]

That's a good one, Kevin. The MiCA regulation, which is being implemented as we speak, will, if anything, bring much further clarity to the European landscape about crypto investment and allow a lot of investors, which are now on the sideline to enter the market.

So our sales team is having a lot of discussion with investors, which -- or potential investors, which are still on the sideline. And I think [indiscernible] myself actually last week or the week before with a big insurance -- life insurance company of all the [ various ] same thing where until the currency is there, they will not [ selling ]. So I think MiCA from that, we think, is very good for our ETP business because it would clarify growth engagement for a lot of people. It is not really affecting in the structure of ETP because ETP law securities and will be -- we're ready when we got on that.

[Jeri-Lea Brown, executive]

Great. And then again, from Kevin, "what is your take on the U.S. regulatory development?"

[Jean-Marie Mognetti, executive]

The U.S. regulatory development is like I think, pushing everybody out of the U.S., CoinShares bank [ controlling ], not always wonder if it's not the right time to get into the U.S. like everybody is doing, but it's -- I think it is like a clear decision making offering between the FCC and CFTC is going to be a bit complicated. Understand [indiscernible] times, I guess. And until guide against the terms came to an end, I think going to see any clarity there.

So I would guess as you get there that made a new election and a new term and you -- FCC share to see a change in direction or a clear change in direction there.

[Jeri-Lea Brown, executive]

Richard, going back to Milosz questions. "What is the amount of fees that you have collected from XBT provider reductions in the first quarter?"

[Richard Nash, executive]

I think what's being meant here is what amount of cash is being released by the redemptions. So the fees are generated in terms of management fees are exposed within the report. so lease today. But I think what Milosz is getting at is the quantum of cash that is released following redemptions of XBT provider, which happens due to the way in which we hedge that product. So the quantum of outflow that we saw at XBT, which has been decreasing very significantly over time over Q1 was only USD 40 million or around GBP 32 million, GBP 33 million [indiscernible] and roughly kind of 8%, 9% of that represents a crude feed as being released as cash.

So it was around -- round about $3 million for the quarter. At the moment, given where prices are, whenever we have a redemption of XBT, it's approximately 9.5% of that figure in terms of the quantum of the redemption of roughly 9.5% of that figure represents the release of free cash flow for us.

[Jeri-Lea Brown, executive]

Great. Thank you. Jean-Marie from Milosz again. "Can you share some details on our sales team responsible for the active strategies?"

[Jean-Marie Mognetti, executive]

Yes, sure. The way we have projected active strategies is really actually, it was coming from our passive asset management team who was seeing that they were having a lot of requests from their traditional client asking for new work in investor. So we will rely a lot on cross-selling and upselling. And we are also -- the people that are in the U.S. and people that are in Europe can help, so that we have a good setup on the sales team coming from our traditional ETP business, which can be used in Europe as well as US.

[Jeri-Lea Brown, executive]

We have a couple of questions from one of our investors. Benjamin. Richard, "how is FlowBank valued for the CS accounts?"

[Richard Nash, executive]

Okay. So FlowBank, which is within our principal investments portfolio is slightly different from the majority of the other investments due to the quantum of the shareholding that we have in that entity. So we own approximately 30% of FlowBank. So under IFRS is therefore classified as an associate, and we accounted for using the equity method. So largely speaking, what that means is the initial cost that we have in the accounts, which is included within the report is kind of adjusted on a quarterly basis depending on the performance of our associates. So any movement that we see over the quarter in terms of gain or loss is effectively our percentage ownership of their profit was lost for that period. So that's what drives the change in the valuation of that investment.

[Jeri-Lea Brown, executive]

Thank you very much. Jean-Marie, one for you from Benjamin. "Will the buyback program increasing capacity and will decide FlowBank change?"

[Jean-Marie Mognetti, executive]

So we have a share buyback program, which is taking us to the next AGM, which is already approved by the AGM and by the Board. So the size of that is fixed now. The quantity we can buy back on the market on a daily basis is constrained on the NASDAQ [ loan ] book.

So it's a function of liquidity over the last, I think, 30 days and maximum of that. And the day we announced the buyback. So that's one pointing us in our quantum of how much we can buy back on a daily basis.

Forward-looking statements on, are we going to do more buyback, we published in our annual report, the AGM notice for, I think, it's 28th -- 31st of May and we will be asking our shareholders to vote for an extension of this or consideration of the share buyback program. And at that point, we'll be able to make a decision on how we want to keep going.

[Jeri-Lea Brown, executive]

Thanks very much. And with that, that gets closed off all of our questions. So we'd just like to thank everyone for joining us today and wish you all a lovely rest of the afternoon.