Tesla's accountants and shareholders are more upset with Musk than investors

Editor's note: The original text is from Wccftech, written by Sam Reynolds; translated by Qin Xiaofeng of Odaily Planet Daily, and the original content has been deleted and modified. Please be sure to indicate the source when reprinting.

Elon Musk's erratic behavior on Bitcoin has not only annoyed crypto investors, but also caused headaches for Tesla's (NASDAQ:TSLA) accountants.

In the first quarter of this year, Tesla announced that it had purchased $1.5 billion worth of Bitcoin and included it in its balance sheet. Tesla's entry also pushed Bitcoin to a historical high of about $65,000. However, as Musk declared on Twitter that Bitcoin was excessively polluting and not environmentally friendly and did not meet Tesla's ESG (environmental, social and corporate governance) requirements, the price of Bitcoin plummeted, once falling below $30,000.

"We are concerned about the rapid increase in fossil fuel use in Bitcoin mining and trading, particularly coal, which has the worst emissions of all fuels," Musk said.

But the bigger risk for Tesla is that the nature of Bitcoin on its balance sheet will have an impairment effect on the company’s accounts, forcing it to take write-downs and cut profits for several quarters - and for Tesla, its already poor profits may be further hurt.

(Note from Odaily Planet Daily: The so-called asset impairment refers to the loss caused by the book value of an asset being higher than its recoverable amount. It is accounted for in the income statement and directly affects the current profit.)

Tesla's earnings last quarter showed that the company made more profit from Bitcoin earnings and carbon emission rights trading than from selling cars. Despite this, the company still only recorded a pre-tax profit of $15 million, while also having an impairment charge of $28 million.

(Odaily Planet Daily Note: Last quarter, Tesla earned $272 million from selling Bitcoin, with a net profit of $101 million.)

By including Bitcoin in its balance sheet, Tesla will have to bear the negative impact of impairment, but will not enjoy the positive impact of market appreciation.

Tesla's indefinite-lived intangible asset problem

Tesla is not the first public company to buy Bitcoin. MicroStrategy is also one of them. The company also has a large amount of Bitcoin in its balance sheet (Note: 92,079 BTC) and has compiled a guide to explain how corporate finance departments treat Bitcoin:

However, we believe that cryptocurrencies generally meet the definition of indefinite-lived intangible assets because they do not convey specific rights like financial instruments. Indefinite-lived intangible assets are not amortized but are required to be recognized and measured at their historical cost; impairment is recognized when their carrying amount exceeds fair value; and subsequent reversal of previously recognized impairment losses is prohibited.

The above paragraph introduces us to the indefinite intangible assets commonly used by accountants, an asset class that is usually reserved to quantify the stated value of a brand or trademark. For cryptocurrencies, there is a problem here: these cryptocurrencies can only be written down and cannot be subsequently reversed, and gains can only be realized when the assets are sold.

Tesla even disclosed this in its earnings report:

Digital assets are considered indefinite-lived intangible assets under applicable accounting rules. Therefore, any decline in the fair value (i.e., market value) of these assets below our carrying value (i.e., investment cost) at any time after their acquisition will require us to recognize an impairment loss, and we may not make an upward correction for any increase in market prices until we sell these assets. Because we currently intend to hold these assets for the long term, impairment losses could negatively impact our profitability in that period even if the overall market value of these assets increases.

In other words, even if the price of Bitcoin is pushed above Tesla's cost price, it will not have any effect on the company's balance sheet from the perspective of shareholders. In theory, there will be some unrealized gains that will give the company more liquidity. However, if the price of Bitcoin drops below Tesla's purchase price, it will be a huge blow to its balance sheet.

Solution: Subsidiary holdings

Chief financial officers of listed companies also seem to understand that it is very difficult to hold Bitcoin normally on their balance sheets, so they choose to avoid it.

A Gartner survey released in February found that only 5% of corporate executives plan to invest in Bitcoin as a corporate asset this year, and most companies are not as enthusiastic about Bitcoin as Microstrategy or Tesla.

"84% of respondents said bitcoin's volatility poses a financial risk," said Alexander Bant, research director for Gartner's financial practice. "It is extremely difficult to mitigate the kind of price volatility that has occurred in cryptocurrencies over the past five years."

The volatility of cryptocurrencies could cause large-scale impairment losses on balance sheets. This seems like an unsolvable problem, but is there really no solution?

Creating a subsidiary to hold Bitcoin insulates the parent company from the asset's volatility and provides plenty of ways to benefit from its upside. That's exactly what MicroStrategy is doing.

MicroStrategy has set up a subsidiary called MacroStrategy LLC, which will hold approximately 92,079 bitcoins acquired by the parent company. The total value of the company's bitcoin holdings is approximately $3.37 billion at current prices. In addition, the parent company's debt used to finance the subsidiary's purchase of bitcoin will be guaranteed by the parent company itself.

But Tesla obviously doesn’t have that patience. Because of Musk’s impulsive and persistent behavior, Tesla and its shareholders got the worst of both worlds: a crypto bear market and the inability to use Bitcoin as a long-term asset. Future asset impairments will surely push Tesla’s stock lower, and shareholders will be annoyed with Musk again.

The latest news is that Musk said in a post that Tesla will allow Bitcoin transactions again when it is confirmed that miners use a reasonable proportion of clean energy (about 50%) and the future trend is positive. The market also rebounded, and Bitcoin returned to around $40,000.