[Updated: Added a ‘live prices’ tab to our Google Sheets LTV model – data source: Google Finance]
Early in the morning of Tuesday, May 10, 2022, Michael Saylor had a problem — in fact, he had several. A few days before, MicroStrategy, the Nasdaq traded company he founded in 1989, filed its 2022 Q1 financial report. And while the topline numbers were fundamentally negative, there was something else to worry about: namely speculation that the company might soon face a margin call.
MicroStrategy’s stock (MSTR) fell more than 34%, sliding from $364 to a closing price of $219 in just seven days. Central to this devaluation was an aggressive capital allocation strategy: the rapid transformation of the company’s treasury into the world’s largest publicly held stash of bitcoin (BTC).
This despite having no real track record as an alternative asset investment firm.
Not only had the firm been buying as much BTC as it could afford, after straining its cash reserves, board chairman Saylor directed the company to borrow extensively to support the project. And he’s made repeated public statements via Twitter that have left many scratching their heads.
A store of digital devaluation
Crypto prices, having already tumbled from all-time highs last November, cratered in early May and amplified already substantial quarterly losses for the company. A $170.1 million write-down on its BTC holdings extended the previous quarter’s $110 million net losses to $130 million in just the first three months of the year.
Optics surrounding MSTR’s growing losses, shrinking revenue, and decreasing store of digital value were already hard to manage. But on Tuesday, May 9th, the difficulty level was set to “extreme.”
Having previously disclosed ‘the world’s first’ $205 million bitcoin-backed term loan, issued by Silvergate Bank, MicroStrategy’s president and chief financial officer Phong Le, was asked during an earnings call exactly how far bitcoin would need to fall for the firm to face a margin call.
His answer: That bitcoin would need to be cut in half or hit around $21,000.
The $21,000 margin call narrative
Despite Le’s further explanation that the company had ample additional bitcoin to post as collateral, and the freedom to do so, media chatter was rampant and the market was unforgiving. “Margin call at $21,000” was everywhere. MSTR gave up a tenuous grasp on its market open price of $271, shedding over 19% before the close.
BTC is understood, even by its most evangelical supporters, to be wildly volatile. Unlike traditional asset classes, 50% price swings are common — that very day bitcoin was trading around $34,000, down over 50% from its November peak of $69,000.
If something was not done to shift the narrative, this $21,000 number could continue to create headline risk for MicroStrategy’s stock. If the historically volatile asset approached this price, the press would immediately revive Phong Le’s quote and raise alarms about margin calls, or worse.
The $3,562 counter-narrative
So on Tuesday morning, Saylor took to Twitter to address the growing public concerns, and implicitly contradict his CFO, by offering a dramatically lower benchmark for concern.
Since that day there has been a growing debate in the press and across social media regarding the ‘real’ margin call threshold and the possibility that MicroStrategy will be forced to liquidate its BTC holdings.
With bitcoin now bouncing off the $20,000 level this debate has reached a fever pitch, but the informed commentary is lacking and speculative opinions abound. Unlike many topics in crypto, this issue has some clear-cut answers and a few simple, uncontested calculations to illustrate them.
As a public company, MicroStrategy has disclosed everything a curious investor needs to arrive at the correct answer by themselves – but we’ve done the work for you.
The world’s first BTC backed term-loan
MicroStrategy, in conjunction with Silvergate Bank, announced it had closed on the world’s first bitcoin-backed term loan on March 23, 2022.
Protos has reviewed the credit and security agreement between Silvergate Bank and Macrostrategy, LLC — the wholly-owned subsidiary of MicroStrategy used for executing this transaction — and has been able to find key nuggets of information therein.
To do our part to cut through the noise and provide clear, relevant information, we’ve broken down the loan terms and default mechanics and calculated some estimates of what impact further BTC devaluation may have on MicroStrategy’s loan.
(All information appearing in this summary and its corresponding tables is taken directly from publicly filed documents submitted to the SEC and available on MicroStrategy’s investor relations website.)
The loan: basic details
- Issued: 3/23/2022
- Loan Amount: $205,000,000
- Term: 36 months (matures 3/23/2025)
- Interest Rate: 4.39%, floating (3.7% + SOFR, 0.69% as of 6/14/22)
- Pledged BTC Collateral Value $820,000,000
- Maximum Loan to Value Permitted: 50%
The loan terms: summary and analysis of the margin call question
MicroStrategy’s loan involves the company pledging BTC from its holdings, sending it to a third-party custodian (redacted in the public filings, which while unusual is not unprecedented), and maintaining the funds in this account so that its total value never falls below 50% of the value of the loan.
This is known as Loan-To-Value (LTV), expressed as a percentage; 50% LTV equates to requiring double the value of the loan in pledged collateral.
- MicroStrategy receives $205 million to be used:
- to purchase bitcoin (the “Transaction”),
- to pay interest, fees, and expenses relating to the Transaction, or
- for Borrower’s or Parent’s general corporate purposes.
- MicroStrategy pledges $820 million worth of BTC (as of March 23, 2022) to act as collateral to secure the loan.
- MicroStrategy is also required to maintain an additional $5 million USD account to be used as supplementary collateral.
If the value of bitcoin falls, and the LTV exceeds 50% on any day, MicroStrategy has one business day to add additional BTC to the custodial account or risk a default.
- The price of BTC is determined every day at 1:00pm PST, using the Coindesk Bitcoin Price Index (XBX), a weighted average of the price of BTC on four large exchanges.
- If the value of bitcoin falls and the LTV exceeds 50% the requirement to pledge additional BTC is triggered. MicroStrategy must then pledge enough additional bitcoin to bring the LTV down to:
- 25%, a 1:4 ratio of collateral to outstanding loan amount; or
- 35%, but this will incur an additional 0.25% interest rate penalty until the LTV is reduced below 25%.
If MicroStrategy fails to provide the additional required collateral, and the LTV is not reduced to the minimum percentage, Silvergate Bank has the option to take possession of the collateral and liquidate it, as well as pursue a range of other activities to minimize losses.
Given the interconnected nature of the top players in crypto finance, to do so might negatively impact Silvergate in other parts of its portfolio. Whether this has an effect on Silvergate’s behavior remains to be seen.
The margin call question: TL;DR
- Is MicroStrategy going to be forced to sell BTC to avoid default or a margin call on its Silvergate Bank loan?
- No, the company has a good amount of uncommitted BTC still available to pledge, and the loan allows it 24 hours to add more funds to their account and remain in good standing.
- That said, it could require as much as 10% of its BTC treasury to accomplish this at prices seen in the last two days.
Given that MSTR’s market cap is now lower than the value of its BTC holdings, it is also possible that further downward pressure on BTC prices will weaken one of the company’s other potential collateral assets: its stock.