Cryptocurrency exchange Coinbase (COIN -0.76%) did a funny thing in its fourth-quarter letter to shareholders. As trading volumes implode and transaction revenue falls off a cliff, the company went to great pains to tout its other sources of revenue. The problem is that these other lines of business aren't exactly booming, either.
Coinbase generated $282.8 million in revenue from subscriptions and services in Q4, up 32.5% year over year. Unfortunately, everything except interest income was down dramatically. Blockchain rewards plunged 39%; custodial fee revenue was down 77%; and other subscription and services revenue dropped 48%. A huge surge in interest income, fueled by higher interest rates, was the sole reason for the overall growth.
How to lie with statistics
There's a great book called How to Lie with Statistics that every investor should read. It was written in 1954, but its lessons are timeless. The statistical shenanigans the book warns of aren't hard to find in the quarterly reports of public companies, particularly those trying desperately to spin terrible results.
Coinbase included a chart in its Q4 letter to shareholders that, on the surface, may not seem problematic. Right next to a chart of its reported subscription and services revenue over the past two years, Coinbase shows a chart of this revenue adjusted to remove all volatility in crypto asset prices.
Image source: Coinbase.
Much of Coinbase's subscription and services revenue is sensitive to crypto prices. Custodial revenue, for example, depends heavily on the market value of the assets in custody. Given the dramatic decline in crypto prices over the past year, it's not surprising that custodial revenue crashed.
But if you adjust previous revenue figures to assume that crypto prices were always at Q4 2022 levels, the picture changes. On this adjusted basis, Coinbase's subscription and services revenue more than tripled year over year.
One could argue that this chart attempts to capture the underlying demand for these services independent of crypto prices. But there's a big problem with this line of reasoning. If crypto prices really were to remain essentially stagnant, with little volatility, Coinbase's core business would simply not exist.
Coinbase makes its money charging transaction fees. Customers are more than happy to pay those transaction fees when they think the chance of generating big profits is high. That requires volatility -- lots of it. As crypto prices crashed over the past year, Coinbase's trading volume dried up partly because its customers lost interest. The crazy rallies of the pandemic era just aren't happening anymore.
Coinbase even came out and said that low volatility was a problem in the shareholder letter. Advanced traders were much less active toward the end of the year, with Coinbase citing low volatility as the main reason for the subdued activity.
A silly chart
You can't blame a company for trying to come up with a positive way to spin its results when revenue is down 75% year over year, like it was in Coinbase's Q4. But investors should never accept figures and charts that a company touts at face value.
What Coinbase is saying with this adjusted subscription and services chart is this: "If only crypto prices and volatility were always this low, our subscription and services business would be booming! Please ignore how such an environment would impact our core business."
Charts like this are, in my view, red flags for investors. The greater the contortions management applies to a company's results, the less willing investors should be to invest in the stock.
