The Responsibility of Asset Issuers

[Gladamas]

Split from the [GLBSE:NASTY] NastyMining thread, https://bitcointalk.org/index.php?topic=86854.msg961282#msg961282. This is what usagi posted, I thought it was interesting and warranted its own thread.

An issue which takes care of it's investor's money will be very popular.

Could you elaborate on this?

Let's say you see a mining share that represents 1 mhash/share and is valued at 0.25. Maybe you buy it, maybe you don't. Let's say the company has 1000 shares.

Next week you hear news that a new BFL single has finally arrived, and they have issued precisely 440 new shares, at 0.25, to pay for it. However these new shares represent almost 2mhash/share. A share in this company now contains about 1.27mhash/share. Would you race to buy it at 0.25? Yes, you would. So the stock price goes up. This has two important benefits for the company; 1. their new fundraising is immediately successful, and 2. everyone who invested in the company is happy and more likely to support future expansion and give management some leeway. Management is much more likely to do this when they own the company so one of the big things you look for when investing is management/insider ownership. Sadly too many of the companies around here just sell bonds with no interest in the hardware so the operators can get a free lunch. They have no concept of what it means to list on a stock exchange, get equity, look after shareholder value, and run a proper company. I know that's a bit harsh but look around and see for yourself whether what I am saying is true.

With BMF, for example, my strategy is to support the NAV out of management fees. This means I make nothing from running BMF. But if I can push the net asset value over 1.05 or 1.1, I believe people will rush into BMF at 1 bitcoin, because it represents a good underlying value. Then, in about a year, after I have finished building my company after blood sweat and tears, will I allow myself to finally sit back on my personal shares and make a small profit.

Other issues don't seem to see it this way. Some other issues (some, not all) don't have a clear understanding of how stock markets work. Some don't even understand the concept of shareholder value. One issuer I have been speaking at with length has told me "share price means nothing". This same issuer has run his company into the ground, trading away the equity of his company to sell more and more shares. This strategy is beginning to hit a wall as his share price approaches zero. He doesn't realize it yet, but he won't be able to back away from these types of trades -- as people only traded with him on the way down since he was essentially giving away his shareholder's equity.

Another kind of problem is the "discount shares" problem. A private placement is supposed to be for a significant amount of money, and usually has a no-sale clause of 6 months to three years. Right now I can go to almost any miner and get 10% off for as little as 200 BTC. Then sell into the bid for an immediate profit. Who wins here? This poisons the market and upsets the share price. Recently you have seen this on quite a few new issues and expansions, where shares were sold at up to 30% off the bid. I don't understand why people do this. First, when the shares are all eventually sold, the issuer suffers because he has less money coming into his company. Second, it destroys the confidence of investors making it more difficult to raise money in the future. It reeks of bad management.

When people expand they're supposed to, at some point, be able to do it out of their company's profits. Ultimately a company which must return to the market time and time again and never provides any accretive value for shareholders, is a very poorly run company. The idea of "mining bonds" has to be revisited here. These are not bonds, they're shares with a fixed dividend. A bond is a paper security which represents a loan. Once people begin to wake up and smell the toast burning, I personally feel the current concept of "mining bonds" will disappear in a puff of smoke. You can already see it with the influx of new non-deterministic mining companies which promise to accrete value. That's my take on it. Just my opinion.

tl;dr: For asset issuers, preserving shareholders' trust is more important than shortsightedly attaining benefits from the arbitrary sale of shares.

Note: Just for clarification, the tl;dr is my words, not usagi's.

What is your opinion on this?

[Meni Rosenfeld]

I strongly disagree.

IMHO mining bonds are a superior model to mining companies, for reasons I have discussed at some length elsewhere (short version: Mining is a commodity. Anyone can buy hardware and operate it. Some people can do it more efficiently than others, which warrants collecting investments for startup capital and risk-sharing wrt to changes in difficulty and BTC price; but there's not much room for differentiation, thus it is better to have a standard framework for such investments). The popularity of the concept among both issuers and investors seems to support this opinion.

Much more importantly, mining bonds are a different model from mining companies. usagi seems to say "mining bonds do not work the same way as companies, thus this model is broken, dishonest and doomed to failure". Mining bonds are not companies and thus this is not a fair comparison. Both models can coexist peacefully as alternatives which cater to different needs. (We might also have mining companies that short mining bonds to hedge their risks.)

Ultimately, if an investor in a mining bond wants to maintain the value of his stake, he can use the coupons to buy more bonds. This isn't much different than a company that pays less dividends and invests the profits in growth.

Of course, as with any investment, it will only be profitable if the initial purchase price isn't too high. It's up to every investor to decide whether the current traded price is attractive for him.

Wrt to terminology: A bond is a publicly traded fixed-term loan, with predetermined payments. A mining bond is a publicly traded infinite-term loan, with payments that have a predetermined relationship to external mining parameters. I think the name is appropriate, but you can call it however you want.

[Dalkore]

I disagree that it has been determined that bonds or stocks are optimal and if you think you can't differentiate yourself or the average person can keeps lots and lots of machines running effectively then I am going to prove that wrong.   Personally I would use both depending on what phase of our strategy our company is in.   


I agree that people don't seem to understand how the stock market works or how to create shareholder value.     I know exactly how I am going to do it and people that are paying attention will notice the difference.   What people want is long-term return on investment after return of capital in the form of BTC denominated dividends.  If I invested in another company, that is what I would care about as well.

What I think the problem is, is more a lack of understanding on how things are going to change over the next 6-8 years.


Thoughts?

Dalkore

[cytokine]

With BMF, for example, my strategy is to support the NAV out of management fees. This means I make nothing from running BMF. But if I can push the net asset value over 1.05 or 1.1, I believe people will rush into BMF at 1 bitcoin, because it represents a good underlying value. Then, in about a year, after I have finished building my company after blood sweat and tears, will I allow myself to finally sit back on my personal shares and make a small profit.

This is precisely the reason why my fund only charges a performance fee, and no management fee. This mean I only get paid if my investors make money. Not to mention that I own 50% of the fund's shares as well, and pay myself in shares as well.

Gotta have your skin in the same game as your investors - otherwise, investors lose. I could not agree more with the OP.

[Meni Rosenfeld]

if you think you can't differentiate yourself or the average person can keeps lots and lots of machines running effectively

The average person doesn't need to run lots of machines. Just whatever the amount he wants to invest in mining will buy him.

Doing something more efficiently than others isn't really differentiation, and can be taken into account in a bond model. If you believe you're more efficient than others, offer your bonds at a lower price (thus being more competitive), knowing that you'll still make a profit. This is like any other commodity where whoever produces it at the lowest cost wins. IMO investors shouldn't play guessing games about the issuer's competence - they take the risk of BTC price and difficulty, the miner should take all other risks because he is the only one in a position to evaluate them.

[Dalkore]

if you think you can't differentiate yourself or the average person can keeps lots and lots of machines running effectively

The average person doesn't need to run lots of machines. Just whatever the amount he wants to invest in mining will buy him.

Doing something more efficiently than others isn't really differentiation, and can be taken into account in a bond model. If you believe you're more efficient than others, offer your bonds at a lower price (thus being more competitive), knowing that you'll still make a profit. This is like any other commodity where whoever produces it at the lowest cost wins. IMO investors shouldn't play guessing games about the issuer's competence - they take the risk of BTC price and difficulty, the miner should take all other risks.

We are just describing two different investment philosophies.   What I am doing behind the scenes as my job is increasing our capacity with deals that don't always involve investors capital but still goes to the bottom-line.  These deal increase the dividend and that increase their ROC and ROI and the ROC is over 1.0 and the risk capital as an inverse will be 0.0 (initial investments only).   This is a value investment strategy I want am pursuing.   

I say, looking for the solid and management team is what will win in the long-term and I intend to be one of the companies people look to for that.  I don't discount what you are saying, I understand your position and it has merit.  I am just saying this position has merit as well if done correctly.

Dalkore

[dottom]

The problem with bonds is that a normal bond market assumes the value of the underlying can change.  For example, interest rates can go up or down.  Inflation can increase affecting interest rates, etc.

But with BTC, a bond that is tied to a MHash/sec rate puts all the risk on the bond buyer because the underlying (MHash/sec output) is always increasing due to hardware improvements.

Someone who issues bonds on current FPGA hardware will take that money and buy the next generation FPGA hardware, yet the bond holders don't benefit from the new purchase.  In fact, bond holders will suffer because the share price will drop as new bonds are issued on the better performing hardware.

[Meni Rosenfeld]

The problem with bonds is that a normal bond market assumes the value of the underlying can change.  For example, interest rates can go up or down.  Inflation can increase affecting interest rates, etc.

But with BTC, a bond that is tied to a MHash/sec rate puts all the risk on the bond buyer because the underlying (MHash/sec output) is always increasing due to hardware improvements.

Someone who issues bonds on current FPGA hardware will take that money and buy the next generation FPGA hardware, yet the bond holders don't benefit from the new purchase.  In fact, bond holders will suffer because the share price will drop as new bonds are issued on the better performing hardware.

It is fundamentally erroneous to issue bonds on existing hardware. I mean, you can of course issue bonds when you have spare capacity, but the basic idea is to use the raised capital to purchase hardware, and to price the bond based on how much the hardware costs and how much you'll have to pay on your own until it arrives (which is a major factor in offerings such as BFL). If the issuer plans to buy new cheap hardware, he can offer the bonds cheaply. And if investors believe there is new cheap hardware around the corner, they should avoid paying too much for a bond.

[dottom]

And if investors believe there is new cheap hardware around the corner, they should avoid paying too much for a bond.

I think you hit the key issue here.  Many people who purchased bonds to date have accepted the overpriced valuation.  For example, look at the recent bond price drops (which some of you here have predicted was inevitable with increasing hashing performance).

Also, the buyback provisions being used today are close to criminal.  Buy back provision should have a floor such as the initial price offered + interest, not the current price.  A bond price can be manipulated or just naturally tank and then then bond issuer can buy it back at a significant discount causing the bond holder to LOSE money.  Many bond holders have said "I'll just hold the bond for 1.75years (or whatever) until I break even" but what happens if you bought at 1.4 and the price drops to 1.05 and the bond issuer issues a buysback and now you have no chance of waiting out your perpetual bonds.

[Meni Rosenfeld]

Also, the buyback provisions being used today are close to criminal.  Buy back provision should have a floor such as the initial price offered + interest, not the current price.  A bond price can be manipulated or just naturally tank and then then bond issuer can buy it back at a significant discount causing the bond holder to LOSE money.  Many bond holders have said "I'll just hold the bond for 1.75years (or whatever) until I break even" but what happens if you bought at 1.4 and the price drops to 1.05 and the bond issuer issues a buysback and now you have no chance of waiting out your perpetual bonds.

Buyback based on initial price doesn't work. An issuer who has been paying coupons for 2 years and needs to buyback, shouldn't be paying what he originally got now that the value of a MH/s is only 40% of the original value.

A buyback shouldn't be a free pass to stop paying coupons. It should be painful to the issuer, and profitable to investors, only to be used in a few specific circumstances such as:

1. The issuer is legally forced to cease being involved in the bond.
2. The issuer is disabled/dies and his heir doesn't want the hassle of operating hardware and paying coupons.
3. The issuer's hardware suffers catastrophic failure and he wishes to cut his losses.

I think 120% of 30-day maximum price, as in PureMining, is fair. It would require the bond value to take a sustained, massive hit in order for the buyback price to be less than the original price. And if there is such a hit, it would imply that the bond isn't as profitable as the investor initially thought, which means he would take a loss buyback or no buyback.

Another useful metric for deciding buyback price is what I call "projected lifetime earnings". This is what the bond would produce forever if the difficulty remains constant (but block reward halves). This is easy to calculate - (number of blocks until next halving + 210000) * (current reward per 10 minutes), and currently it's 1.0375 BTC. This value, combined with a projection of future difficulty changes, provides a measure of the actual lifetime earnings of the bond. If the bond is currently traded at, say, 0.4 BTC, it would mean the market thinks the value of the bond is about 40% of the projected lifetime earnings - and so a fair buyback price would be 50% of the projected lifetime earnings. This allows the buyback price to decay together with the bond, without the investors being at risk of an artificial decrease.

The optimal buyback would be something like "110% of 30-day maximum price, but never less than 40% of projected lifetime earnings and never more than 60% of projected lifetime earnings". This guarantees both the investors and the issuer are safe, but is fairly complicated.