Coinbase Global, Inc. (COIN) Earnings Call Transcript & Summary

All right. Well, wonderful. Thank you for our 1 p.m. session. Delighted to be joined by Alesia Haas, the CFO of Coinbase. Thank you for joining us.

Thank you, Lisa, for having me. I'm glad to be here.

Yes. Very happy to have you here, and I will say I do point out to everyone quite frequently that Coinbase is my best performing stock in my coverage year-to-date by a wide margin. And even on a 1-year basis, it's in the middle of the pack, I will point that out. So good stuff. So look, let's dive in.

We do have -- oh, yes, safe harbor statement up. And then maybe in a minute, let's flip from that to the QR code. Yes. And so because Alesia is taking questions from the group as well, if you guys want to do the fancy QR code approach. Let's dive in. Look, Crypto's had a pretty tough last 12 months. It goes in cycles. We know that. Coinbase though was founded back in 2012 and so has gone through several of these quite severe crypto cycles. So can you just help by baselining with everyone, what's the state of the crypto industry right now?

Sure. Thanks for the question. Look, I think more companies than Crypto have gone through a hard year. It's not like the banking sector is having an easy go right now and nonprofitable tech didn't survive too well over the last year either. So Crypto, interestingly, through the very low interest rate environment, through COVID stimulus started to track, I mean, much more correlated with high growth, high risk stocks, high beta stocks, started to be correlated with the broader economy. Before that, you wouldn't see any correlation between like the NASDAQ and Bitcoin, then you start to see this tight correlation. Now it's broken again. So there's just been an interesting macro trend of crypto. And crypto traded off as we move from a risk-off mindset, but then we had 2 black swan events in 2022 that really exposed the poor risk management practices that were happening in crypto. I like to say that these are just poor risk management. It wasn't crypto-specific. We had Terra Luna, which was an algorithmic stablecoin that had bad asset liability management and no different than a bank run actually. They just had a run on the outflows and the assets weren't worth what they thought they were worth, then they depegged and collapsed. When that collapsed, it precipitated a deleveraging event and it caused Bitcoin collateral value to come down. Companies that had too much exposure, then were over-levered, they then subsequently failed. And then, we have the fraud of FTX in the fall. So 2 black swan events. But what I would notice that crypto is incredibly resilient. So you mentioned the Coinbase has performed well year-to-date. Bitcoin hasn't performed incredibly well year-to-date. And more than not just looking at the price, what you actually see is an increase in developer activity. You see an increase in Americans holding crypto as an asset. Now 1 in 5 Americans hold crypto, and that has held steady throughout this incredible volatility. And what you see in crypto, as you mentioned price cycles, and I'm glad you did because we talk a lot about this, is despite these 2 black swan events, I mean, massive fraud, big deleveraging, poor risk management. But the trough is still higher than the last trough. The peaks are higher than last trough. And you just see there is volatility. But when you smooth it out and look at it at a log scale over time, it has been steadily rising up and to the right with more utility, more use cases, more developers. And that is the trend that we really look to and are excited about.

All right. So talk a little bit about how, especially now coming off this cycle, maybe looking ahead into the next cycle. Many investors think of Coinbase as a brokerage or an exchange for crypto assets, whereas in your investor materials and on your website, you always describe Coinbase as a platform for accessing the crypto economy. So can you just talk a bit about the positioning of Coinbase and really how investors should think about Coinbase?

Absolutely. So we think of this as an evolution. The first pillar of our strategy is that crypto is an asset, and that is the products and services that you've seen us build to date, which is how do you buy crypto, how do you store it safely, how do you trade it and that gives rise to the products that look like a trading platform or an exchange, the ability to custody an asset, the ability to act like a broker and find ways to engage. What we're rapidly moving to and hoping emerges very soon is the Phase 2. So we have crypto now as an asset, we can buy it, we can hold it, we can do all these things. Now we're going to move to crypto as updating the financial system. When we think of crypto technologies, technology that can make financial services better. So Phase 2 is then really about utility, updating existing financial products. So things like this are thinking about, for example, we launched Base, which is a Layer 2 solution. Think about like Ethereum as a protocol, but the challenges with Ethereum today are the gas fee spike like last couple of weeks with PEPE, the meme coin, like meme coin we saw crazy gas prices. That's not good for like confirming transactions when all of a sudden, your prices do very well. So Layer 2 solutions are looking to drive down the cost of transactions getting confirmed and increase the speed. And so our goal with Base is a Layer 2 solution that's sitting on top of Ethereum is really the ambition of getting to 1-second $0.01. So if you think about then one payment rail that can universally instantly settle any peer-to-peer -- B2B, B2C, intercompany transaction in a USD stablecoin for $0.01 1-second, that is really interesting for use cases around global remittances for an example, where with current global remittances, especially in long tail currencies, you're stitching together so many different banks and intermediaries, correspondent banks to actually settle a payment. And this has been an open access protocol that anybody can plug into globally. So I think that this is the next generation. So how do we think about crypto making financial services products better. Staking is another interesting example. Staking is if you own an asset, you are validating transactions on a proof-of-stake network. That is what the purpose of your asset is doing. And so think about this, if more and more transactions are happening on that payment rail are not protocol, you were earning and you are participating in that economy. And so this is what we talk about as crypto is permitting more people to be included in the financial system. You don't benefit necessarily directly if there's more transactions on the Visa network. You can't if you are out in the stock, but this is directly participating in the underlying protocol by the growth of this network by just owning the asset and then getting these staking rewards. And so we think this is that financial inclusion. Crypto making financial services better, participating more people in the economy. Third pillar is then crypto as the new Web3. And this is like how do we then think about crypto with decentralized identity. How do we think about creators and content makers communicating directly with their fan base. So you're seeing early examples of this with NFT. Starbucks has an NFT program where they're giving NFTs to their customers. This obviously is a huge loyalty program. You've got a 29 million member loyalty program. Or today, it's like any other loyalty program, you're probably all members of. You get 10 copies, you get 1 free or whatnot. This is now -- I get an NFT, I get exclusive rights to certain events, I can participate in unique ways. And so they can communicate with their members. And then they can also, those NFTs can be traded. They have value. So maybe you decide like you're no longer going to drink Starbucks and that thing had value because you were like a die-hard member but now you can monetize that involvement. So really just interesting -- and these are early. These are -- people are dabbling like think about this as like the first wave of the Internet where yes, pets.com existing, you could buy pet food, it failed. We all now buy a lot of things on Amazon that we weren't ready to do in 1999, but these are early kind of indications. And what we see in these waves of technology is you get these early start-ups, you learn something, then the next version comes out a little bit better and a little bit better. So we think of Pillar 3 is like the pinnings of the new Web3 is we're starting to see this benefit of like sending value online. We send data online all the time, but now it's sending value and what does that unlock?

All right.

And we're a platform underneath all that creating basic tools to access all of these pillars.

Yes. I was going to say, so to maybe connect the dots a little bit, some of the -- you mentioned Base, you mentioned the staking products. But yes, what are the types of products and services and investments that Coinbase is making that support that -- those like [indiscernible] as you're describing them.

So we think of ourselves as the primary account that our users need in crypto. So at your basic fundamental level, you need a place to hold crypto assets. These are different than holding dollars, different than holding securities because these are bearer instruments. And so holding that private key material is really important. It's different. And we offer a variety of ways to do that today. We offer a full custody solution where we are accountable. And on the other spectrum, we offer a self-custody wallet where you are fully accountable for your private keys. And in the middle, we offer something what we call our DAC wallet, where it's kind of a semi-custodial solution where we hold part of your key, you hold it, which means if you lose your key, we can recover it for you. And so, you have the benefit of interacting with decentralized applications and you are in control, but you're not so in control that if you lose your key, you lose everything and then your money is lost to the ether. So we're offering very different customer experiences that we can enable customers to participate in the economy. We are offering them what we think is really important is all of the on-ramps. So just like today, where you have the growth of text and e-mail, you still have physical mail. It still exists, but we can print that mail. We can send it, we can scan it. We can do all sort of things to bridge between these 2 worlds. Moving fiat-to-crypto, moving crypto back to fiat, moving crypto to crypto. We think those bridging technologies are really important because different end-use cases require different applications. And so being a fiat on-ramp is really critical to us. And you see us building more and more of these access points to just connect the world to make sure that these -- there's less friction as we move money through these ecosystems. And then we're building, frankly, just crypto-native technology. How do you confirm a transaction on a blockchain via staking valid or how do you do transaction monitoring, which is super important for compliance reasons. We have unique tools and capabilities for that. So tools, infrastructure to enable crypto transactions is the core of our product suite.

All right. Let's talk about the revenue drivers. I could talk about the long-term vision all day, but you are the CFO, unfortunately. So let's talk...

Let's begin.

The revenue drivers of Coinbase. So let's focus first on what's historically been the primary revenue stream. That's the transaction revenues. And first talk a bit about the relationship between transaction revenues and crypto assets. So as crypto asset values have recovered, you've seen some recovery in your transaction revenues sequentially this year. But how should we generally think about what drives transaction revenues?

So today and what has been the case for the last few years, is the biggest drivers of trading, which is in the phase of crypto as an asset it's still speculation. And so what's driving secular trading is no different than what drives secular trading in other asset classes. It is price. It is volatility. And while we have seen price recovery, volatility is actually at 4-year lows, and we've seen it go down from Q4 to Q1. So that is what is, saying that transaction revenues have increased in part due to volume, in part due to changing in the pricing structures that we talked about in our letter, but volatility is not at the same level as it was on average in 2021 and 2022. So you haven't seen that as the pickup. And I think that then over time, our goal is to drive more utilities so that, that engagement even in trading is driven by need of these assets for other utility use cases, and it's not as tied to speculation and not as tied to pricing volatility as it has been.

Good. Okay. And then S&S. So subscription services revenues, the diversification piece of Coinbase. There are 47% of total revenue in Q1. That's up from a single-digit percentage contribution just a couple of years ago. And of course, some of that is because the transaction revenues have come down, but actually S&S has grown sequentially, very consistently now for many, many quarters. So what are the major services driving S&S? And then over a longer-term time horizon, how do you see that portfolio evolving?

So I consider there's 2 families of revenue streams broadly in the subscription services bucket. Broadly, family #1 is revenues that we generate based on assets on our platform. So at the core, safely storing assets is one of our key strengths that we've done now since our founding. And we've been able to build revenue streams on top of just having the customers asset. We can then offer staking as a service to enable customers to earn reward where we provide a software service on top of the asset that they're already holding in their wallet. Custody is a product they're monetizing by securely storing specifically institutional assets in a qualified custodian structure in their own segregated address that they find value in and then they meet their qualified custodian requirements under their fund structures. USDC is another example where we store assets on our platform, and we can participate in the pass-through that interest income. So there's a family of things that, as the crypto economy grows, as more and more assets are added to our platform, as we leverage our technology of being a safe custodian, that will be a broad way we can monetize assets in more and more ways. So we think that over time, there could be financing revenues associated with these. There will just be other unique ways in crypto like staking is not something we've ever heard of before 5 years ago. The next family is what I would consider the subscription revenues. And so these are more like software contracts or I would say, the subscription product pricing. So this is where Coinbase One sits. Coinbase One is a pricing product that we have for our retail, where for a monthly fee, you get on fee-free trading, but you also get other benefits where there's higher ATO, account takeover protection. There's different access that you may have as a Coinbase One subscriber. We also have -- this is where our cloud revenue is. So cloud revenue is -- I've talked a lot about like we think that we're really special at doing things in crypto, which we are, that we want to make those tools available to other fintech companies, other companies that want to build in crypto, and they don't want to have to build the back-end systems. They just have great things they want to offer to their end customers. So here, we're offering things like the ability to white label our custody solutions if you want to offer that within your bank or your financial services company. We're offering things like Coinbase Pay where you use our fiat on-ramps to then participate with your DApp. We're offering staking directly for those companies. So we're offering then our tools in white labeled APIs that are being more like software. These are much more nascent. We consider these in our venture bucket in our portfolio. But this is where I think long-term growth will be as more and more companies think about building applications in crypto as this technology evolves and moves from its nascency into, it truly is faster and cheaper and more accessible. It becomes back-end tools that lots of companies will want to be able to build on. And so that's the next kind of family and growth that we see as long-term growth initiatives.

All right. Good. Let's talk about yields. Ever since your IPO a couple of years ago, one of the big controversies around Coinbase has been the sustainability of yield, specifically on the retail side. But yet, they just jumped in the last quarter where they had been running, I think, in the 1.3-ish percent range and jumped up over 1.6% this past quarter. So talk to us about the sustainability of retail yields, what drove the jump? And then also just how you think about that over a long-term time horizon? And maybe also just kind of like where you think the Street gets that wrong?

Sure. So we offer 3 products for retail trading. They are, you can have a simple trade where there's a very easy-to-use interface where you can say, "I want to buy $100 of Ethereum." We lock that in at that price that we show you on the screen. We show you here's the price, here's fees, and you can click confirm. We then take the risk of executing that trade on the backend. We also offer advanced trading where you are interacting directly with the order book, you are putting in a market order and then you are getting a price without a spread, you were just getting a price for executing on the exchange. And the third is when we offer Coinbase one, which I just talked about. We've integrated these now into a product portfolio. And what we are doing is both on the consumer side and on the institutional side, is now starting to really reassess pricing and really evaluate different structures, testing elasticity, testing the response to different pricing to understand how consumer behavior is. We believe we've just gone through as we talked about in the opening an incredible shock to the system with the FTX fallout and with the bankruptcies of 2022. And we think that our brand of being the most trusted is really a valuable proposition to our consumers, and we're seeing people attracted and being a flight-to-quality platform. And we're taking that and learning more than about what the appropriate pricing structures are for our product suite, which we think is a premium product suite, as well as our operational and our customer needs. And so think about this as being dynamic and we're doing a lot of learning at this point in time as we assess different pricing streams. Over the long term, Lisa, I think we've said this before; at some point, crypto become commoditized. At some point, this will become, we believe, broadly adopted by all sorts of platforms and that it will become -- you can buy your bitcoin in any financial services firm. Or you can buy also all sort of crypto assets. That's when pricing gets driven down. Today, you're seeing the opposite. You're seeing fewer places to buy these assets, at least in the United States after a few events have happened. And so we are taking just consideration of what market environments we're operating in, but there will be a point where these things become commoditized, and that is what we think is then the point where we will see compression in fee. We also believe that's the point where you're going to see broader adoption and growth and wonderful things that will offset the fees through volume. And that's what we saw, obviously, in securities trading, but it took 20 years for securities trading to come down to the 0 fees that we have today. We're just earlier, much earlier in the cycle in crypto.

Okay. All right. Let's talk -- switch over to the cost side of the equation. Your first quarter operating expenses, which came in right around $900 million, were about half of where they were only a year ago. And as a result, you guys beat by a mile on adjusted EBITDA. So can you remind us how your -- what your goals are now around profitability? You've adjusted that a bit over this last year. And what levers you are pulling to manage to that outcome?

Absolutely. Lowest since Q1 2021. First of all, our goal this year is to improve adjusted EBITDA year-over-year in notional terms. So we have not changed that goal. We had negative $371 million last year, and our only goal is to improve that. We had a very strong Q1. What I think is important here is that we're controlling what we can control, and we're being very disciplined now in our expenses. What happened in 2021 is unfortunately a bit -- it's sort of -- sometimes, I'm really proud of what we did, sometimes I am a little embarrassed with what we did, but we were trying to meet scale. We had 6x growth within like a quarter in terms of volume. When you grow at that speed, what -- our entire focus on was our customers, keeping the systems up and running, making sure everything works for the customers. That means we open the spigot in terms of software spend. We hired people. We also were moving at a pace that we didn't have -- as detailed controls and checks and balances to make sure all that spend was the right thing to do during that time. 2022, obviously, rapid reversal. We talked about the macro. We talked about the episodic events. And we moved quickly to change our expense base. We have done 2 reductions in force. But what I'm really proud to say right now is we're operating with more efficiency. We've also had more reps with our team. So we went from 1,250 employees at December 2020. That grew to 3,650 at December 2021. So like 3x growth in a year. So the average duration or tenure of an employee was 6 months, 7 months, like really short in 2021. We now have 2 years of people that we've hired in 2021 and coming into 2023. So just that depth of knowledge, institutional knowledge, we're seeing productivity gains. We're seeing efficiency. We're seeing people know more and be much more disciplined. So we were able to cut costs in every single line item, and we're being -- we're really proud of the accomplishments on the expense side.

And so talk about investment. Of course, as we talked about upfront, Coinbase has been a successful player in the industry. Since 2012, you've gone through these cycles many times, although this is the first one as a public company, so under a little bit more of that shareholder scrutiny. How do you manage investments through these downturns to make sure that you are building appropriately for the next phase?

Yes. So we are a company that is always focused on where our customers are going, where is crypto is going. And because we're so nascent, we can't just be complacent and build. We don't want to be Yahoo. We don't want to stay in one product. And so we have a portfolio approach where we make a lot of new investments in venture initiatives. For example, Base, which I talked about earlier, is definitely a venture initiative for us to build a Layer 2 protocol. NFTs was a venture initiative. Our key here now is to treat those as like seed investments with really small scrappy teams in Coinbase. And that treat them almost like do they get Series A funding once they hit certain milestones and keep them small and not to overinvest until we start to see the right signals. We're being more disciplined in our capital allocation, but we are continuing to test new things. We expect things to fail. We're not -- we're never going to bat a thousand, and we wouldn't be taking enough risk in trying new things as our view if we were getting to 100% success on product market fit. But we're really focused on the mature businesses, driving the right unit economics, getting to the right margins. Are they healthy? And then balancing it as a portfolio approach. The other thing that we are very cognizant on is we cannot predict our revenues with accuracy. As I mentioned, crypto as a price, crypto as a volatility, really important drivers of our revenue, really impossible. And so we are a company that focuses on scenario planning. And we are always running scenarios, what if it drops down, what if it drops down meaningfully from where it is today and how would that look compared to our expense base. And so we use those as tools to say. Can we afford this with the capital and the resources we have on balance sheet to weather different hits to take in exogenous events like FTX's failure into our plans and continue to hit the goals that we step forth with the market. And so that's how we approach it. But we are continuing to put money towards new initiatives, and we're starting to see some of those like USDC was one of those back in 2019 to 2018 when we started it. And now it's 25% of revenues. So we think this is the right approach.

Yes. And I was going to actually ask that exact question if I think back, but I don't have the perfect memory of Coinbase, but if I think back to the last cycle, the 2018 downturn, the last points of despair. Out of that, you made a big acquisition in custody. Like you said, that was when stablecoins really emerged and USDC emerged. Staking was down, say 2019, yes, so -- yes, what are -- just for the learning purposes, yes, -- what are the types of things like that, that typically come out of these downturns, yes?

So we think the downturns make us stronger. And we think that we have the expertise, the balance sheet to really take advantage of these down markets and really emerge stronger coming out. So for example, you saw us acquire an asset management company in Q1, which I think that really fills out more of the pillars of our institutional product offering. . We are experimenting with these Layer 2s to really drive the utility to make things faster, make things cheaper, make things more usable within the crypto space. So this is something we are working on. But the other thing that we're really working on is operational excellence. Getting efficient, ensuring that we don't repeat the sins of the past and sure we don't get ahead of ourselves on the cost space. And so that's why you see with the growth in revenue that we saw in Q1, against the cost savings, like we generated meaningful EBITDA within one quarter. And so you can see that there is good leverage in our business model. And as we said publicly, we don't plan to -- our head count, we expect to be roughly stable over the course of this year. And so we're prepared for revenue to go up and down, but we're really building on those more diversified revenues, more consistent revenues as you see with the goal towards the subscription and services. And try to continue to fill in the portfolio and what will customers want as we go into the next cycle.

What other metrics -- so from a financial health perspective, so after the black swan events of the last year, there's been a lot of scrutiny on financial health and risk management. And what are some of the other measures that you focus on at Coinbase, you've started to disclose them this publicly, you'd highlight that give you confidence that Coinbase is financially healthy to weather sort of any crypto outcome going forward?

First, I'm really proud that we've weathered the Terra Luna, Celsius, Three Arrows. We took no losses there. We did have a $14 million loss with FTX, which was well within our risk appetite. And all that was, was deposits we had on that platform to execute trades on behalf of our users to the extent that they were looking for certain trades that we needed. And through the banking crisis, we lost 2 banks that were active in our portfolio, but we had 0 minutes of downtime and we were able to continue business as usual. So we run a 3-deep strategy. We've spent a lot of time on business continuity and risk. And so I do think that we are really seeing the fruits of the investments in risk management as we've gone through a lot of these events over the past year. But what I would point to and why I think that we have the ability to be a generational company and why I feel so confident in the platform that we're building is, we do have a balance sheet of over $5 billion of USD resources. It gets close to $6 billion when you add our liquid cryptos holdings at fair value that we could monetize at any point in time if we so needed those. And so when I look at $6 billion, and the long duration of our debt that has no immediate covenants, we have the ability to be really opportunistic. We have the ability to think about being greedy when others are fearful finding attractive acquisitions, finding ways to grow in these types of down markets. We also have the ability to really run these risk scenarios and say with confidence, we can absorb a lot of hits. I mean we run scenarios all the time to say, what is the next black swan. What if another big thing happens, are we prepared. And we can do those things with confidence around just the health of the balance sheet. And so we spend a lot of time in our shareholder letters sharing with you like what has changed, what our counterparty risk is, what our quarter-over-quarter cash position is, to try and share with you that we have been really thoughtful and diligent about the types of risks that are still prevalent in this very nascent industry. I think that another thing to look at, though, on our balance sheet is what are customers doing with their assets, like customers can vote with their assets. We saw lots of customers vote with their assets by moving them out of regional banks in the last quarter. Our balances grew in the last quarter. We actually saw both our Fiat and our crypto balances grow in the last quarter. So people looked at us as a flight to safety, which is really fascinating. We've seen crypto being a flight to safety within broader banking instability. So I think it's our people continuing to vote with their feet and saying this Coinbase is a safe platform to hold my assets. I think that can Coinbase have the resources to navigate volatility while we really work to the next generation of crypto, which is regulatory clarity, more utility, working through these kind of early years. And are they making the right decisions. Are they adapting to market conditions. Are we being nimble when we see changes in the atmosphere around needing to reduce our force and then we are going to cost-base [indiscernible] do you see us being thoughtful and those are the things that I look at for the health of our business.