Marathon Patent Group (NASDAQ:MARA) is an interesting three-man operation that does bitcoin mining. During July, MARA stock started rising significantly since it started raising capital and buying bitcoin mining machines.
Recent announcements by the company indicate the stock has a good deal to go on the upside.
On Aug. 14, the company made a blockbuster announcement that has huge implications for the stock. However, a closer look at what it announced raises questions and issues for the serious investor.
Marathon Patent said that it had agreed to buy 10,500 S-19 Pro Miners at a discount price. The “long-term” purchase contract is worth $23 million. The company said that this would bring its total mining machines to 13,520.
But the most important part is that its existing 2,060 machines will perform 186 petahash computations per second (PH/s). The company said its “yields are expected to generate prospective positive net cash flow, based on the current price of Bitcoin and hash rate difficulty.”
The Implications of This Announcement
The first implication is the following fact: the company also announced that it will install an additional 1,000 S-19 Pro Miners on top of its existing 2,060 machines. However, it is not completely clear from the company’s statement if the positive cash flow flows from the 2,060 machines or the new total of 3,060 machines. I believe it could be the latter. Therefore, there is no cash flow implication.
A more positive implication is that once another 10,500 “next generation” S-19 Pro Miners are installed over the next year or so, cash flow will multiply. For example, 10,500 is 3.4 times the existing number of existing machines (3,060). Therefore, cash flow will be at least 3.4 times, and probably twice that amount with the 3,060 machines.
Let’s see if we can estimate what that would be. Assuming 3,060 machines produce $100,000 per quarter of positive cash flow, the addition of 10,500 machines would raise that number to at least $340,000 per quarter. However, operational leverage comes into play here – the higher the revenue the higher the margin. I believe the cash flow could be twice that level, say $720,000 per quarter.
How This Affects the Marathon Patent Group Valuation
What this means is that the company could be generating $2.9 million in positive cash flow, before capex spending in one year, on a run-rate basis. Since MARA stock has a market capitalization of $124 million, it represents a cash flow yield of 2.3%. That is a fairly normal yield for this kind of stock.
But here is the thing. In one year, analysts will be predicting 4 or 5x the cash flow in one year, given this performance. In all reality, if Marathon Patent performs it will likely have a much larger market cap in one year than $108 million.
Analysts will be pointing to the positive cash flow history as proof of their trend line predictions.
Question and Issues Remain
The most obvious issue is how Marathon will come up with $23 million to pay for the 10,500 machines. By the way, this is a pretty good deal. It works out to $2,190 per bitcoin miner.
By comparison, in company’s latest 10-Q filing, Marathon Patent discloses that paid $5.47 million for 1,360 mining machines or $4,024 per machine. That is a 45% discount. If I am wrong about this and the $5.47 million was for 2,060 machines, the discount is just 17.5%. But a discount, nevertheless.
Marathon signed an SEC approved S-3 filing where it can issue up to $100 million in equity to investors. On July 28 it raised $6.9 million for 7.666 million shares. It also issued warrants at 90 cents per share for another 1 million shares.
All told, that increases its share count by 8.667 million shares, or about 23.8% of its shares outstanding. Right now, there are 32.142 million shares, but this may not include the warrants for another million shares. Therefore, there are effectively about 33.1 million shares outstanding.
The company will need to raise an additional $16.1 million to get to $23 million in cash to pay for the 10,500 mining machines. It would have to issue 4.16 million more shares at today’s price of $3.87. That represents another 12.56% more shares outstanding, bring the total to 37.3 million.
Be Careful About the MARA Stock Dilution
Let’s say Marathon Patent’s market value increases by 40% to $174 million, based on the new projections of positive cash flow. The stock price would be $4.67 per share. This represents a gain of just 20.1% for MARA stock. In other words, the dilution effect from more shares will swamp the gains in market value from the positive cash flow news.
So be careful with this good news. It will mean a lot more shares have to be issued as a sort of necessary evil. The dilution effect could cut out anywhere from one-half to one-third of the gain in market value from the positive cash flow implications.