When Coinbase Global (COIN 7.25%) reported its second-quarter earnings on Aug. 9, it announced net revenue for the three-month period of $803 million, which was down 61% from the year-ago period. And the business posted a net loss of $1.1 billion, compared to a profit of $1.6 billion in Q2 2021.
Because most of the company's revenue is tied to trading volume, a poor period for the overall cryptocurrency market in the second quarter deserves a lot of the blame. The Federal Reserve's string of interest rate hikes to curb soaring inflation has resulted in a risk-off approach from investors. But over the past month, this sentiment has seemed to reverse course; Bitcoin and Ethereum are up 16% and 58%, respectively, as of this writing.
Nonetheless, Coinbase is struggling right now, and its shares are down a jaw-dropping 67% in 2022. In the most recent shareholder letter, there was one important data point that really stood out that investors might have missed. And it could forecast more adversity for Coinbase's business.
Coinbase is losing market share
In the second quarter, the assets on Coinbase's platform (as a share of the overall crypto market) dropped to 9.9% from 11.2% in Q1. "We observed that the majority of this behavior was institutional clients de-risking and selling crypto for fiat as opposed to withdrawing their crypto to another platform," the management team wrote in the shareholder letter.
Based on this explanation, even though a small portion of these assets moved to other exchanges, it still caused Coinbase's market share to dip by a material amount. This is clearly not a good sign for the business, whose investment thesis still rests on it attracting more digital asset market share over time, which did show a trend of increasing in the past, going from 4.5% to 11.5% between the end of 2018 and the end of 2021. Not only is Coinbase suffering from an extremely weak cryptocurrency market, but customers are choosing to go with competing services.
It's incredibly important for a brokerage and exchange business like Coinbase to at least maintain, and ideally increase, the assets that are on its platform. That's because it leads to greater opportunities for revenue generation. In the latest quarter, 82% of the company's revenue was derived from transaction fees, and if there is more capital flowing into Coinbase's network, this figure can rise.
Additionally, management's intense focus on expanding subscription and services revenue, derived from activities like blockchain rewards and custodial fees, depends on bringing in more assets. This segment actually increased revenue 44% year over year in Q2, a bright spot for the business.
Coinbase wants as much money in its ecosystem as possible to drive revenue from its various services, so the recent downward trend in the assets on its platform is alarming. But management continues to introduce new product features, like an enhanced retail app, Ethereum staking for institutional clients, and more developer tools.
The outlook for the rest of 2022 isn't anything to get excited about. The leadership team wants to keep adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) losses under $500 million for the full year. During the first six months of this year, adjusted EBITDA losses totaled $131 million, so management must be expecting worse days ahead. But with $5.7 billion in cash and cash equivalents on its balance sheet as of June 30, the business is in a position to weather prolonged weakness in the crypto market.
Perhaps Coinbase's latest move to partner with the gargantuan asset manager BlackRock will help to bring assets, at least from institutional investors, onto the platform. But any way that you look at it, losing market share when it comes to total cryptocurrency assets is not a good sign. And as a shareholder, market share will continue to be a key metric that I watch for insights into Coinbase's prospects.