CoinShares — Tech-driven pioneer in digital assets

CoinShares is a leading European digital asset firm built on a strong technology backbone that is the foundation of its two major business verticals: asset management platforms, including the passive investment products (ETPs) and exchange traded fund (ETF) platform, with earnings driven by the level of AUM and management fees; and the capital markets infrastructure, which is active in liquidity provisioning, fixed-income investments and proprietary trading based on low-latency delta-neutral (ie non-directional) strategies aimed at exploiting market inefficiencies. Consequently, the company is more than a simple beta play/proxy on the BTC price, as it provides the opportunity to benefit from both the overall progress in terms of digital assets adoption (and the potential accompanying increase in the market capitalisation of major cryptocurrencies), and market volatility in the sector. This translates into an asymmetrical exposure to the digital asset theme, given that downturns in digital asset markets have historically coincided with elevated volatility and in turn more trading opportunities for CS’s capital markets division (offering a certain degree of downside protection to investors).

On the back of continued digital assets adoption (we assume global allocations of 2.0% and 2.5% in 2025 and 2030, respectively, versus 1.0% currently), increasing share of allocation through ETPs and new product launches, we expect CS to further expand its AUM from US$6.5bn (12 October 2021) to c US$9.2bn in FY25 and US$16.1bn in FY30. As share of the high-margin, legacy single-asset ETPs in CS’s total AUM declines due to redemptions (with c US$1.0bn net outflows in the year to date), we forecast a near-term peak in CS’s fee income in FY21 followed by some moderation until FY23 (still more than 3x the FY20 level) and a subsequent return to a growth path with an FY23–30e CAGR of c 6%. Meanwhile, CS’s capital markets business will remain an important earnings contributor, bringing our estimated total adjusted EBITDA to £109.0m in FY21 (versus £22.1m in FY20 and £62.8m in H121). After a subsequent moderation from the exceptionally strong FY21e, we forecast an FY23–30e EBITDA CAGR of 8%. CS’s comprehensive income (which we consider a better performance indicator than net income) should reach £105.2m in FY21e and £77.0m in FY22e (versus £18.4m in FY20). Although the above forecasts only account for new ETP launches, we acknowledge CS’s solid track record in terms of sector innovation, which may translate into new products and/or business units becoming additional earnings drivers.

Our discounted cash flow valuation implies a fair value per share of SEK120.3, which represents 60% upside to the current share price. Given that the management fee on XBT Provider Tracker is accrued daily but converted into cash to CoinShares only on redemption of the units, we have factored in a working capital adjustment in our model. However, this should diminish as CoinShares Physical AUM (where fees are accumulated in digital assets daily and converted by CS into cash at will) becomes more significant and as earlier investors in the XBT Provider ETPs decide to cash out. We have applied a quite conservative cost of equity of 12.0% (which we believe represents a 30%+ premium to traditional financial companies) to account for the sensitivity of our forecasts to the price movements of major digital assets, as well as risks to our digital asset adoption scenario.

We have designed a ‘crypto winter 2022’ scenario to stress test the impact that a major bear market next year could have on the company’s valuation. We assumed an 85% decline in digital asset market capitalisation from the May 2021 peak to end-2022 (similar to the 2018 downturn) and a subsequent rebound in 2023 (similar to what occurred in 2019), followed by a resumption of structural growth in allocation to digital assets. This scenario implies a fair value per share of SEK78.4 (still slightly above the current share price). Other major sensitivities include the adoption path of digital assets, competitive pressure, regulatory risks and the XBT Provider Tracker’s redemption pattern.

CS is one of the pioneers in the emerging digital assets sector, formed in 2013 and headquartered in Jersey, with offices in London, Stockholm and New York. It is a well-established player in a nascent, high-growth industry and one of the largest digital asset companies in Europe and globally, with AUM of c US$6.5bn. The company’s backbone is its in-house technology infrastructure required to operate efficiently in markets that are open 24/7 with very fragmented liquidity across trading venues (centralised and decentralised exchanges as well as OTC markets). CS’s focus on continuous development of its infrastructure and technology layer is a critical component of its product innovation in the fast-changing digital assets industry which is heavily reliant on code development capabilities.

The team behind CS consists of experienced professionals from the commodities trading business. Two of its co-founders (Daniel Masters and Russell Newton) set up specialist commodities hedge fund manager Global Advisors in 1999, leveraging their experience from, among others, JP Morgan (where Daniel Masters was global head of energy trading), Royal Dutch Shell, Phibro and Salomon Brothers. Jean-Marie Mognetti, CS’s third co-founder, current CEO and a major shareholder, is a former commodities quant and joined Daniel Masters and Russel Newton at Global Advisors in 2011.

Daniel Masters witnessed the emergence of commodities as a widely accepted investible asset class from the mid-1990s to the cycle peak in 2008. Around 2012–13, the above-mentioned three member team concluded that BTC and other digital assets are likely to follow the same pattern as they represent a similar theme, which they summarised as the ‘three Ds’: 1) demand in the form of utility of digital assets beyond financial speculation; 2) depletion associated with Bitcoin’s periodic halving (see our Edison Explains piece for details); and 3) the dollar, ie deteriorating confidence in fiat currencies following the global financial crisis (GFC) in 2008 and the accommodative monetary policy of the Federal Reserve and other major central banks ever since.

In April 2014, Global Advisors introduced the first regulated BTC hedge fund (Global Advisors Bitcoin Investment Fund, co-managed by Daniel Masters and Jean-Marie Mognetti), which was closed on 9 March 2018 (following the launch of BTC futures on the CME) after generating a 680% net return (over the period, the BTC price went from c US$450 to US$9,900). The team then launched the first fund denominated in ETH. In 2015, CS moved into the platform business offering an asset-management-as-a-service platform and launched the first regulated ETP for BTC (called XBT Provider Bitcoin Tracker), followed by a similar ETH product in 2017. These ETPs currently represent c 90% of CS’s ETP AUM and are listed in Stockholm and Stuttgart. CS also introduced Litecoin and XRP Trackers in March/April 2019, with an expiry date of end-March 2021. All these ETPs are/were based on synthetic replication of the underlying asset through a combination of physical digital assets (at least 75% of the exposure) and derivatives (futures and options in particular) held by CS’s subsidiary. Consequently, they share some characteristics of a structured product with counterparty risk.

Meanwhile, in response to the change in client mix in favour of institutions, the company launched in 2021 a new platform for ETPs using physical replication (CoinShares Physical), where the notes are issued only on receipt of the respective physical digital asset. These assets are held by Komainu, a custodian regulated by the Jersey Financial Services Commission (JFSC). Komainu was established in 2018 as a joint venture between CS, Ledger (a digital asset security specialist and a top player in custody hardware) and Japanese investment bank Nomura. Importantly, the underlying assets are kept in bankruptcy-remote special purpose vehicles (SPVs), which is a structure preferred by institutional investors (especially after the GFC) as it removes counterparty risk. CS considers the CoinShares Physical platform an important step in attracting European institutional investors. It has so far introduced physical ETPs for BTC (January 2021), ETH (February 2021), as well as Litecoin and XRP (April 2021). It intends to launch new ETPs exclusively under the CoinShares Physical programme. The company’s current AUM invested in its ETPs stand at c US$5.5bn as at 12 October 2021 (see Exhibit 2). We note that CS provides real-time attestation of AUM and the assets backing the ETPs.

CS’s products are listed on multiple exchanges (representing independent access points), which we believe is important given the current fragmentation of the European ETP market in terms of trading venues, but the cross-listings are also part of CS’s branding and marketing campaign. At present, all of the above products are offered exclusively to European investors. Having said that, we note that in collaboration with CS, 3iQ (a leading Canadian digital asset manager) launched a BTC ETF and an ETH ETF listed on the Toronto Stock Exchange with current AUM of US$1,126m and US$300m, respectively, at 12 October 2021 (and also has private placement capacity in the United States). CoinShares holds a 9.96% stake in 3iQ.

In July 2021, CS acquired the ETF index business from Elwood Technologies, including the index creation and management activities related to The Invesco Elwood Global Blockchain Equity UCITS ETF launched in March 2019 with c US$1.1bn in AUM as at 12 October 2021. As part of the transaction, CS also took over Elwood’s equity research unit covering cryptocurrency and blockchain-related equities. The deal may act as a ‘door opener’ for further cooperation with Invesco Europe and Invesco Asia, a large player in the traditional asset management sector with Invesco’s overall AUM of c US$1.53tn as at end-June 2021 and a diverse institutional client base that includes, among others, providers of pension schemes, insurance companies, sovereign institutions and central banks. It is worth noting that Invesco is currently in discussions about a merger with State Street’s asset management division. A strong partner like Invesco may prove strategic as competition in the digital asset management sector intensifies.

The connectivity network and infrastructure layer that CS has developed over time allows it to deploy its algorithms to both support the asset management platform (eg liquidity provisioning) and execute a variety of trading strategies. CoinShares Capital Markets (CSCM) division, which currently trades close to US$4.0bn of notional value per month, began as the algorithmic trading arm of the Global Advisors Group (see above) and has been trading in spot and derivative crypto markets since 2014. At the time of launching the company’s first ETPs in 2015/16, there were no traditional liquidity providers (LPs, such as Flow Traders or Jane Street are today) in the market for digital asset products. Consequently, to facilitate a tight bid-ask spread and liquidity for its ETPs (which are critical success factors in this space), CS built its own infrastructure connecting ‘analogue’ and digital finance (which now offers connectivity to more than 30 counterparties) to become a liquidity provider on Nasdaq and an active player on cryptocurrency exchanges. We note that CSCM acts only as an LP for the XBT Provider Trackers, while it partnered with Flow Traders as an external LP (and a number of authorised participants) for its CoinShares Physical platform.

CS has followed a few core principles in developing its infrastructure trading division: 1) all activities should be algorithm-driven (ie minimising manual trading); 2) the technology is utilised exclusively for its own internal purposes (CS has no interest in becoming an OTC broker, although it started allowing some third parties to use its technology as a white-label solution and interact directly with their flow); and 3) CS does not carry out any directional trading but focuses on exploiting market inefficiencies through delta-neutral strategies (statistical arbitrage strategies in particular). CSCM is also active in fixed income investments, mostly digital asset reverse repurchase agreements, with its counterparties including eg hedge funds and family offices.

CS’s market-neutral approach is well documented by its historical results (see Exhibit 3). Despite the downturn in digital markets in Q221, CS was able to deliver solid infrastructure gains across liquidity provision, delta-neutral strategies and fixed-income activities of £14.7m in the quarter versus the record-high £22.8m in Q121 (which contains a one-off gain from the receipt of air-dropped, ie distributed for free, digital tokens) and £16.8m in FY20. Similarly, CSCM generated a £14.4m gain in FY18 despite a crypto bear market.

CS’s only directional digital asset investment at present are Solana tokens valued at c £0.5m at end-June 2021 (which includes a 50% discount to be unwound over at 24-month lock-up period), or c £2.0m at the current price. However, we note that apart from benefiting from the potential success of the Solana blockchain, the purpose of the investment is also, among other things, to explore staking activities for its new ETPs and establish further relationships in the digital assets industry.

CS also invests from its own balance sheet in early-stage technology companies and channels to facilitate the distribution of its products and services. Current major holdings include:

Based on our discussion with management, we understand that on top of its strategic investments, CS has c £5.0m earmarked for corporate VC-type investments in the near term.

CS’s vision is to be ahead of the curve in introducing innovative, tech-driven financial products and services to a broad institutional and retail investor audience through a business model based on a combination of platforms making use of its talent pool (current headcount is 62) of tech engineers and financial professionals. It aims to expand in a capital-efficient manner by staying low-touch and tech-focused, scaling through API integrations and connectivity. The company’s growth will be driven by a combination of 1) in-house, ‘organic’ project development to build its own IP (eg CoinShares Physical or CSCM), 2) partnerships providing faster go-to-market and lower opportunity costs (eg Komainu, ETFs launched with 3iQ) and 3) M&A to consolidate new capabilities immediately (eg the recent acquisition of Elwood’s index business).

The CS team positions itself to benefit from the way that blockchain technology will disrupt the global financial industry. CS believes that in the long run, all financial assets will exist in digital form and be traded in a unified 24/7 global market. We are of a similar opinion, which we discussed in our Blockchain adoption report. Moreover, CS expects from a sectoral viewpoint the emergence of the ‘driverless bank’ concept, as financial functions such as issuing money by central banks, borrowing, lending, hypothecation, trade, structuring and derivatives will be disintermediated and moved to public, permissionless blockchains (eg Bitcoin or Ethereum). For CS, the ‘driverless bank’ approach means leveraging automation and programmatic execution to reduce cost and systemic risk, while improving efficiencies of on-chain transactions. Finally, CS believes that product distribution is evolving as blockchain technology removes the middlemen and makes capital markets an open and interoperable platform changing the way clients consume financial services. This is supported by the shift of services to mobile devices, providing more direct access to customers seeking payments, lending and other financial services. Consequently, CS puts much emphasis on assuring it is investing in its tech infrastructure and risk management systems to exploit these trends.

CS’s board of directors consists of Daniel Masters as non-executive chairman (he is also the largest shareholder with a 22.34% stake), Jean-Marie Mognetti and two independent non-executive directors: Johan Lundberg (independent) and Carsten Køppen. CS’s management team is made up of five members:

Jean-Marie Mognetti (CEO) is an experienced commodities trader with a background in quantitative analysis, risk management and alpha-generation through macro commodity oriented trading programmes, including cryptocurrencies. He is one of the company’s co-founders and major shareholders with a 17.43% stake (as at 1 October 2021).

Richard Nash (CFO) is a chartered accountant with 10 years’ experience. He joined CS in 2019 from Cairn Financial Advisors, where he acted as a nominated adviser to several listed companies, holding the position of a qualified executive (granted by the London Stock Exchange).

Meltem Demirors (chief strategy officer) is a prominent cryptocurrency advisor, advocate and investor who joined the management board in 2018, prior to which she was vice president of development at Digital Currency Group, one of the key players in the digital assets space and the owner of Grayscale Investments, the largest digital assets manager globally. She holds a 4.09% stake in CS.

Frank Spiteri (chief revenue officer) joined CS in 2020 and has over 10 years’ experience as an ETP specialist. He was previously head of distribution and capital markets at WisdomTree. Prior to his career in the ETP industry, he was an equity and equity derivatives trader with KBC Financial Products for 11 years. He holds a minor 0.89% stake in the company.

Graeme Dickson (group general counsel) has 14 years’ experience as an English qualified solicitor and joined CS in 2019 from Aviva where he was senior legal counsel. He also held positions at Linklaters, White & Case, Bank of America and Standard Bank.

CS is by far the largest European digital assets ETPs provider, with a c 54% market share by AUM as at 12 October 2021, according to our estimate (see Exhibit 4). This is primarily attributable to the Bitcoin and Ethereum Trackers by XBT Provider (US$4.8bn), with the recently launched CoinShares Physical platform adding another c US$0.7bn. Beyond Europe, CS is the second-largest digital assets firm after the undisputable leader Grayscale Investments, which had US$38.7bn in AUM at 30 September 2021 across its US OTC-listed trusts. Here, we note that the overall market for financial products is much larger in the United States compared to Europe.

The still early stage of this industry and the current high values of digital assets mean there is no clear framework of external market shape and growth estimates. We have consequently built our own set of assumptions which form our base case scenario, used in our forecasts and valuation. Crucial to this is our (relatively conservative) assumption that portfolio allocations to digital assets will reach 2.0% by 2025 and 2.5% by 2030 (currently 1.0%).

We believe we are currently in the initial stages of digital assets adoption (especially among institutional investors), which may be compared to the emergence of commodities as an investible asset class (as discussed above). BTC and other cryptocurrencies started attracting the attention of the broader market around 2013. A similar adoption cycle to commodities of c 10–15 years should provide significant tailwinds in terms of AUM growth until at least 2023–28 (albeit subject to changes in digital asset prices). We discuss the investment thesis behind Bitcoin and other cryptocurrencies in our eight-part Edison Explains series which, among other things, is centred around: 1) Bitcoin as an incorruptible, trustless, independent monetary system with a predefined currency supply based on a peer-to-peer network; 2) decentralised finance as a global, open alternative to the existing financial system, granting all users free access to financial products such as borrowing, lending, saving, trading and payments without the need for traditional intermediaries and in a 24/7 set-up; and 3) the use of non-fungible tokens (NFT) in gaming, fine art, licensing, digital identity and other areas (ie ‘tokenisation of everything’).

Our base case scenario assumes that digital assets will remain a niche asset class, with an allocation to spot digital assets at 2.0% of global financial assets (excluding currency and deposits) by 2025 and 2.5% by 2030. This compares with c 1.0% currently (according to our estimates), though we note that a significant part of this allocation may be held by early adopters. Glassnode estimated in February 2021 that 2% of network entities (ie individuals or institutions that control a set of addresses) hold around 71.5% of all BTC. Hence, mainstream allocation is likely much lower at present. The above assumptions are in line with the results of a portfolio optimisation analysis carried out recently by the Standard Chartered research team covering the period from BTC’s price peak in 2017, which suggests an optimal global allocation to crypto of 2.27% (see Standard Chartered’s Bitcoin investor guide from September 2021). Our assumptions imply a digital assets market capitalisation of US$4.5tn and US$7.1tn in 2025 and 2030 (versus US$2.3tn at present), respectively (see Exhibit 5), which is the equivalent of c 39% and 62% of the current market cap of all physical gold (based on World Gold Council data). In Western Europe alone, a similar allocation would translate into US$0.8tn and US$1.2tn, respectively.

We further assume that c 5% of the allocation in Western Europe will be through ETPs by 2025. This compares with c 2.2% as at 29 September 2021 (assuming the current digital asset allocation is in line with the global allocation). We note that, based on data from the World Gold Council, gold ETFs represented c 1.8% of the global gold market capitalisation as at end-August 2021. However, given the complexity associated with storing, trading and reporting digital asset investments, we believe that the proportion of ETP investments will be higher in the digital assets sector. Our 5% assumption is in line with the prediction presented in the 2021 edition of the wealth and asset management report by Oliver Wyman and Morgan Stanley. Consequently, our base case scenario implies that the Western European ETP market will grow from US$7.6bn at 29 September 2021 to US$40.3bn by 2025 and US$60.1bn by 2030.

Growth in the sector over recent years has attracted a number of competitors. We assume that by 2025, the market will be dominated by a few large players with a combined market share of 80–90% (similar to the current European gold ETP market). The winners (we believe CS will be one of them as illustrated by its partnership with Invesco) will likely be companies with a strong distribution network, assisted by partnerships with reputable asset managers active in traditional assets.

CS’s first-mover advantage allowed it to charge a high 2.50% pa management fee on its XBT Provider Bitcoin Trackers (launched in 2015) and Ethereum Trackers (launched in 2017), while its Physical ETPs on BTC and ETH launched this year charge 0.98% and 1.25%, respectively. This compares with c 1.00–2.00% for most of its competitors (see Exhibits 6 and 7).

In the long term, as single-asset BTC and ETH ETPs become a more commoditised product, we expect their management fees to gravitate towards levels common for precious metals ETPs, which currently stand at c 0.00–0.40% for most major providers. This should be also assisted by various providers (eg administrators, trustees) demanding a lower fee for their services as they become more comfortable with digital asset ETPs and their risk perception moderates. The needs of institutional investors may also play an important role here, given that they can also obtain exposure to digital assets by purchasing them directly on exchanges and using professional custodians to store them. According to a recent analysis by Finoa (a German digital asset custodian) across 14 institutional-grade crypto custody providers, the average custody fee currently stands at 0.38% pa on a portfolio of US$23.5m. We acknowledge that ETPs have the advantage of being traditional financial products that investors may favour due to the lack of counterparty risk, as well as accounting and tax considerations, among others, allowing them to command a certain premium over direct custody solutions.

We expect the focus to gradually move away from plain vanilla BTC and ETH ETPs to more advanced products, including: 1) single-asset ETPs with a yield, eg from staking, which involves locking the digital assets on the blockchain as a kind of collateral to secure the network in exchange for rewards; 2) ETPs providing exposure to the decentralised finance (DeFi) space; and 3) multi-asset ETPs with more advanced indexing techniques. While we estimate that multi-asset ETPs represent only c 4% of total European ETP AUM at present, we expect their market share to increase in the coming years as investors become more comfortable and realise the need to include new digital assets (beyond BTC and ETH). These products should be able to charge a higher management fee. In this context, we note CS’s partnership with Imperial College London’s Centre for Cryptocurrency Research and Engineering (see details below).

CS’s financial statements are influenced by the current accounting treatment of digital assets under FRS 102 (the financial reporting standard applicable in the UK and Republic of Ireland), in accordance with which CS prepares its financial accounts. CS records digital assets (including those held to hedge its liability to ETP investors) under intangible assets. Consequently, unrealised gains and losses on these holdings arising from the movements in digital asset prices are recognized within other comprehensive income. However, corresponding changes in the fair value of its liability to ETP investors is reflected in the income statement under intercompany collateral (expense)/income. Realised gains/losses from the disposal of digital assets tied to the redemption of ETPs are recorded in the P&L. As a result, amid the significant increase in digital asset prices in FY20 and H121, CS reported a considerable P&L loss, but positive total comprehensive income, which is a better reference for its performance (see Exhibit 8).

CS also publishes adjusted EBITDA, which provides additional insight into its underlying business performance (see Exhibit 9). We note that the standard corporate tax rate in Jersey (where CS is domiciled) is 0%, but some activities of CoinShares (Jersey) Limited (CSJL) were subject to a 10% corporate tax. However, given that the guarantee in respect of the XBT Provider ETP programme was recently transferred to CSCM, CS does not expect any meaningful taxable profits from CSJL going forward. We also note that fees on CS’s ETPs are accrued in euros and Swedish Krona but hedged to the US dollar (which is CSCM’s reference currency). Hence CS’s consolidated accounts are subject to FX risk arising from changes in the £/US$ rate (given that CS reports its results in sterling while most of its activities are carried out in US$).

Income and gains from CSCM should remain an important contributor to group results. After an exceptionally strong H121 with a positive £37.4m result, we assume some moderation in H221 to £19.4m (which is above the FY20 result of £16.8m) and £44.0m in FY22e. We note the company expanded its engineering quants team and has more capital for investments at its disposal compared to FY20. Subsequently, we assume growth at a 9% CAGR in FY22–30e.

In recent years, CS has accumulated significant AUM through a combination of fund inflows and the considerable price appreciation of major digital assets (BTC and ETH in particular). Growth was particularly pronounced in 2020, with AUM increasing from c US$0.5bn at end-2019 to c US$2.4bn at end-2020. As discussed above, CS acquired the ETF index business from Elwood in early July 2021, which added c US$1.0bn to its AUM.

In 2021 ytd, CS’s ETP AUM fluctuated with the movements in major digital assets amid a strong bull run in Q121 followed by a crash in Q221 and partial rebound in Q321. Moreover, XBT Provider Trackers experienced large net outflows (c US$1.1bn to 8 October 2021) which, according to CS’s management, is mostly due to profit taking given that these were the first digital asset ETPs introduced in the European market. Meanwhile, inflows into the company’s Physical ETPs reached US$439m ytd to 8 October 2021, although we note that c 63% (or US$275m) are the seed assets provided by CS on their launch in January and February 2021, which are not generating fees for the company. Meanwhile, two of the company’s major European competitors, 21Shares and ETC Group (which launched most of their ETPs between 2019 and 2021), recorded net inflows of US$758m and US$709m, respectively (although these may also include some seed assets). Having said that, we note that the CoinShares Physical platform was launched quite recently and is still in a ramp-up phase.

In our base case scenario, we expect CS’s AUM to increase from c US$6.5bn (12 October 2021) to c US$9.2bn in FY25 and US$16.1bn in FY30, driven by digital assets adoption with an increasing share of investments through digital asset ETPs (see above). We expect this to be only partially offset by the decline in ETP market share from the current c 55% to c 20% by FY30, given the likely fierce competition in the coming years and possible continued net outflows from the legacy XBT Provider products. We assume that CS will launch a few single-asset and multi-asset ETPs in FY22, which will become a meaningful part of its AUM by FY24–25. CS aims to introduce multi-asset products with more advanced weighting techniques and sponsored a research grant at London’s Imperial College Centre for Cryptocurrency Research & Engineering in 2018. In 2020, it resulted in the launch of the CoinShares Gold and Cryptoassets Index (CGCI), which is one of the first indices for digital assets that is compliant with EU Benchmark Regulations and is designed to provide risk-managed exposure to digital assets and gold. CS is exploring the potential listing of a range of products based on the index, in particular a physically backed ETP under the CoinShares Physical programme. Alongside digital assets adoption, we anticipate AUM growth in blockchain equities ETFs, which should benefit the Invesco Elwood Global Blockchain UCITS ETF.

We expect management fees on single-asset ETPs to contract in the longer term to c 0.50% pa (versus the current weighted average fee for European BTC and ETH ETPs of c 1.40% excluding XBT Provider Products) as the market matures. However, we have assumed that for CS this will apply only to the CoinShares Physical ETPs, as in our opinion CS’s management may decide to keep the high 2.5% fee on its legacy XBT Provider Trackers and allow its AUM to significantly decline over our forecast horizon (we assume it will make up only c 10% of its ETP AUM by FY30). We assume that redemptions will be a long-term process due to investor stickiness. XBT Provider Trackers are listed in Stockholm and Stuttgart only and the Bitcoin Tracker was listed only in Stockholm from inception in May 2015 to November 2017. Consequently, there may be certain disadvantages for investors in switching to a different BTC/ETH ETP listed in another European country. It is worth noting that Valour Structured Products listed its ETH and BTC ETPs with a 0% management fee in March and December 2020 in the Nordic Growth Market (Valour most likely generates a profit as a liquidity provider for these ETPs). However, the fact that many investors in XBT Provider Trackers have considerable unrealised gains at present may discourage them from immediately switching to a different product due to tax considerations. We anticipate that more sophisticated, multi-asset ETPs will be able to charge a higher management fee (we assume c 1.00–1.50% pa for CS’s prospective product(s) versus 1.50–2.50% pa charged by the multi-asset ETPs already launched by competitors). As these become a larger part of the company’s AUM, the pace of fee contraction should moderate.

Consequently, we forecast a near-term peak in CS’s fee income of c £78.1m in FY21 (after £18.4m in FY20). We then expect some moderation until FY23 (our forecast c £65.9m) followed by a subsequent return to growth with a FY23–30e CAGR of c 6% (see Exhibit 12). We note that this includes 25% of the 1% fee charged by the BTC and ETH ETFs launched in partnership with 3iQ on the AUM in excess of their respective seed amounts (to which CS is entitled once the AUM of these ETFs doubles the seed amounts). Finally, the company and Invesco split the 0.65% pa management fee generated on the Invesco Elwood Global Blockchain UCITS ETF 50/50 (net of costs).

We forecast that CS will close FY21 with exceptionally strong EBITDA of £109.0m (H121 £62.8m already reported), assisted by the considerable increase in NAV and strong results of its capital markets division. We assume more moderate (although still solid) capital markets gains and income, and some temporary decline in management fee revenue amid average fee rate contraction in the subsequent three years (see Exhibit 14). After bottoming out in FY23, we forecast an FY23–30e EBITDA CAGR of 8%. Our forecasts imply an EBITDA margin of around 65% in the long-term, or c 35% if we consider only asset management fees with all administrative expenses. This is purely organic as we do not factor in any further acquisitions (even though these are likely given the company’s strategy, see above). As a consequence, our balance sheet forecast assumes significant cash accumulation.

We value the company’s shares using a discounted cash flow (DCF) approach. Given that we are in the initial stage of digital assets adoption, we have applied an extended detailed forecast horizon to FY30. We used CS’s approach to calculating adjusted EBITDA, but for the purposes of our valuation we remove any income and gains in CSCM arising from earlier income/gains recycled back into the trading activity (in order to avoid double-counting of cash flows).

Our DCF is sensitive to the change in working capital associated with accrued management fees on the XBT Provider Trackers. While these fees are charged on a daily basis, the corresponding cash inflow occurs only on redemption by an investor. At end-2020, these aggregate accrued fees were £59.7m. We note that fees on ETPs issued under the CoinShares Physical platform are not subject to this limitation, ie they are distributed on an ongoing basis. Consequently, we have factored in a working capital adjustment, which should however diminish in the long term as CoinShares Physical AUM becomes more significant and as earlier investors in the XBT Provider Trackers cash out. Moreover, we note that historically high inflows into CS’s ETPs correlated with higher market volatility and, in turn, stronger gains/income from CS’s capital markets activities.

We have applied a conservative cost of equity of 12.0% (which represents a 30%+ premium to the broader market average) to account for the sensitivity of our forecasts to the price movements of digital assets, as well as risks to our digital asset adoption scenario. Given that CS has no debt, the above is also our WACC assumption. We further assume a 2.0% residual growth rate. We account for CS’s principal investments in line with the last reported fair value at end-June 2021 of £20.1m and add the value of the company’s holding in Solana tokens (£2.0m) based on the current price. Conservatively, we have not pencilled in any gains on principal investments. As a result, we arrive at a fair value per share of SEK120.3, which implies 60% upside potential to the current share price.

We have not identified any close listed comparators for CS. Having said that, as a broad reference point, we present the multiples at which other listed digital asset businesses currently trade (see Exhibit 16). These include for example Coinbase, one of the largest crypto exchanges, which listed earlier this year. However, we note that CS’s business model differs from Coinbase, with the latter deriving most of its revenue from trading fees. We have not compared CS to traditional asset managers given that its capital markets gains/income between FY18 and H121 were even slightly higher than its asset management fee income (£78.0m versus £76.9m, respectively).

Based on our forecasts, CS currently trades at an FY21e EV/EBITDA of 3.5x, which represents a significant discount to the median of 15.3x for digital asset peers. While a portion of the discount may be explained by the fact that a large proportion of CS’s fee revenue is locked up until the redemption of XBT Provider ETPs, we consider the extent of the discount hard to justify and thus believe CS’s shares are undervalued. Interestingly, we estimate that CS’s net cash at end-June 2021 and XBT Provider fees accrued to date are equal to c 35% of CS’s current market capitalisation.

Although CS is not a plain vanilla beta play on the price of BTC and its CSCM activities offer some downside protection against short- and medium-term price declines, the level of its AUM (and in turn its management fee income) is influenced by changes in digital asset prices. These tend to be volatile at times, as discussed in detail in our recent Edison Explains piece on volatility and market manipulation. Moreover, major bull runs occurred after every Bitcoin halving (in 2012, 2016 and 2020) and lasted for one to 1.5 years in the former two cases. Consequently, we have decided to prepare a ‘crypto winter 2022’ scenario, which assumes that the recent upward movement in digital asset prices was only a correction in a bear market that started in May 2021 and will lead to a market trough at end-2022 at c 85% below recent all-time highs (in line with the retracement during the last bear market). This may be viewed as conservative given that it would be the first downturn with meaningful institutional activity (which may dampen the extent of the price decline). We pencil in a 100% rebound in FY23 (in line with 2019) and continued growth over subsequent years, but with delayed digital assets adoption and the 2% allocation reached in FY30 instead of FY25. Given CS’s non-directional approach to its trading activities and the fact that high volatility is favourable for CSCM income/gains, we assume higher gains/income in FY22e versus our base case scenario. We summarise our forecasts under this scenario in Exhibit 17, which implies a fair value per share of SEK78.4.

We have also identified other factors which may affect CS and our base case scenario: