The U.S. is now the largest bitcoin miner in the world, and Riot Blockchain (RIOT -3.55%) owns the largest bitcoin mining operation in North America. Is Riot a better investment than the bitcoin it mines? Possibly – but investors should prepare for volatility in the quest for crypto profits.
Digging for digital gold
To produce new bitcoin, miners like Riot use powerful computers to solve increasingly difficult cryptographic problems called hashes, confirming transactions on the bitcoin blockchain. In exchange for that computing effort, known as hash power, the miners collect newly created bitcoin as a reward. More total hash power means faster, more secure transactions and bigger rewards. In addition to its mining efforts, Riot also hosts mining equipment for institutional clients and produces electrical equipment for bitcoin mining through its ESSMetron subsidiary.
Mining is Riot's most profitable venture, even with the current downturn in bitcoin prices. The company expects to see even greater success there as it continues growing. Mining accounted for 72.5% of revenue in Q1 2022 and generated roughly 97% of the $37.9 million in operating income. And while the hosting and engineering sectors appear to be growing more rapidly, that's because neither generated revenues in 2021.
Currently, its Whinstone facility in Rockdale, Texas, is the largest in North America, with a capacity of roughly 370 megawatts powering 4.7 exahashes (that's quintillions of problems solved) per second. That represents roughly 2% of Bitcoin's entire hash power as of late May 2022. By the beginning of 2023, Riot expects its hash power to nearly triple. That would give it roughly one-sixteenth of the hashing power of the entire bitcoin network. And it's breaking ground on what could be an even larger mining facility. Eventually, the company expects to be mining 10% of all bitcoin.
Investing in energy efficiency
Bitcoin mining uses a lot of energy, raising serious environmental concerns. As a result, several U.S. senators sent an open letter to Riot in January 2022, requesting additional details regarding the company's energy usage. While Riot has yet to respond to the letter formally, it appears that its New York operations use primarily renewable hydroelectric power. In addition, its Texas operations at Whinstone and the new Navarro location could potentially take advantage of the significant renewable energy available in the state. Texas is the leader in clean energy in the U.S., with far more new and existing wind, solar and energy storage projects than any other U.S. state, adding nearly three times as much clean power as California did in 2021.
Riot's sheer size makes it a dominant player, but can it maintain that strength? Bitcoin mining is extremely capital-intensive, keeping many competitors at bay but forcing Riot to keep plowing cash into its business to stay on top. So it's good to see the company investing in efficiency with new technologies like their immersion-cooled miners. Heat limits how fast computer chips can crunch numbers; by keeping its mining computers cooler than its competitors', Riot says it can make the same machines run faster, squeezing a 25% increase in hash rate out of the same equipment without using more energy.
Why Riot's a better bet than Bitcoin
Where Bitcoin (BTC -0.04%) has lost roughly 50% since its high in November 2021, Riot Blockchain has dropped roughly 85% in the same period. Clearly, Riot is more volatile than the bitcoin it mines. However, this increased volatility has little to do with Riot's strengths and more to do with investor psychology. As the blockchain industry becomes increasingly accepted by traditional finance, Riot will benefit from an increased focus on its business and results.
Long-term investors should consider putting a portion of their capital into actual cryptocurrencies for diversification purposes. But the pick-and-shovel companies that underpin the bitcoin network are another way to participate in this fledgling financial revolution. Riot Blockchain's continued growth will increase its bitcoin holdings, currently at 6,320 BTC. That ensures Riot can continue to operate for years to come, even with bitcoin prices lower right now. Over the long term, bitcoin remains by far the best-performing asset class of the decade.
Over the past 12 months, Riot has demonstrated positive operating leverage and the benefits of its growing economies of scale. Year over year, total revenue is up a whopping 720%; mining revenue has increased 568%; and net income has risen from a $900,000 loss to positive $20.2 million.
In its most recent quarter alone, Riot's bitcoin production is up 186%, and the company has kept its mining revenue margins stable at 67% of mining revenues, meaning it's paying just $0.33 in costs for every $1 in revenue it makes – even though bitcoin dropped 12% over the same period. As long as Riot's mining segment keeps getting more efficient, cryptocurrency stock investors may find this company a more compelling investment than the digital gold it's mathematically mining.