As inflation strengthens, Bitcoin on the balance sheet proves its value

Companies with iconic leaders like Musk and Dorsey are “most likely to take the risk” and put significant cash balances into crypto assets.

As corporate treasurers prepare to enter a post-pandemic world amid warnings of inflation, more and more companies are assessing their Treasury holdings. If the worst happens and the dollar and other reserve currencies weaken, can they be sure that all the cash on their balance sheets won’t be devalued?

They certainly haven’t noticed that some of the recent public companies that “bought” Bitcoin over the past year have reported strong growth earnings in the first quarter of 2021. For example, Square, which holds $472 million worth of BTC, reported a 79% year-on-year increase in quarterly gross profit, double what analysts expected. And Tesla, which poured $1.5 billion into BTC in February, or 8% of its cash, posted record earnings — revenue soared 74%. MicroStrategy, which made Bitcoin its primary corporate reserve in 2020, saw revenue grow 10% in the first quarter.

"If inflation picks up, or even if it doesn't, more companies decide to diversify some small portion of their cash balances into Bitcoin rather than cash, then the current trickle into Bitcoin will become a flood," legendary investor Bill Miller wrote in a market letter earlier this year. He added: "Companies such as Square, MassMutual, and MicroStrategy have already moved cash into Bitcoin rather than holding cash on their balance sheets.

Elsewhere, Ark Investments commented in a company newsletter: “MicroStrategy, Square, and now Tesla are demonstrating to public companies how to add Bitcoin to their balance sheets as a legitimate alternative to cash.”

The recent drop in BTC prices to $46,000 is another reminder that Bitcoin remains a volatile asset. So perhaps corporate finance’s embrace of it is really just a short-term fluke? On the other hand, if this trend is indeed going to gain long-term traction, is it really suitable for all companies? If so, what level of allocation is appropriate?

Overall, if public companies are now looking to a 12-year-old digital currency to keep their cash reserves liquid and safe, what does this tell us about the global economy?

Long-term trend or seasonal trend?

“I don’t see this as a trend,” Paul Cappelli, portfolio manager at Galaxy Fund Management, told Cointelegraph, predicting that Bitcoin’s “inelastic supply curve and deflationary issuance schedule” makes it “an interesting hedge against inflation and adverse monetary policy, which could cause cash positions to depreciate over time.”

“Businesses will continue to use Bitcoin as one of the tools available to them to preserve value on their balance sheets.”

David Grider, chief digital asset strategist at Fundstrat, told Cointelegraph that he expects "more businesses to hold crypto for legitimate business purposes" as crypto assets become more mainstream. Exchanges could hold it as inventory, tech companies might use it to collateralize tokens and participate in networks, and multinational corporations could accept it for payment.

“I expect there are two types of companies that will consider early adoption of crypto assets,” Gil Luria, research director at DA Davidson & Co., told Cointelegraph. “Companies led by leaders who are strong believers in crypto assets, and companies that may have unique cross-border needs that are amenable to Bitcoin transfers.”

If so, doesn't this represent a sea change for corporate treasurers? "When I took my finance exams, we were told that the first goal was to ensure the safety and liquidity of the balance sheet," Graham Robinson, international tax and finance partner at PwC and consultant to the British Association of Corporate Treasurers, told Reuters. Bitcoin's volatility may not meet this requirement at all.

Robert Willens, an adjunct professor at Columbia Business School, noted in January that if a company holds Bitcoin as a financial reserve and its price plummets, the company may not be able to meet its working capital needs, describing Bitcoin reserves as a "high-risk, high-reward strategy" at the time.

Has Willens changed his view? “I still view this as a high risk/high reward strategy,” he told Cointelegraph, acknowledging that “recently the rewards have far outweighed the risks.” He does see more companies following Tesla and Square’s lead “as crypto asset investing becomes more ‘respectable’ and becomes a viable outlet for corporate cash balances.” When asked who might be leading the charge, Willens responded:

“I think it’s very possible that companies with iconic leaders, not necessarily limited to a particular industry, would take the plunge and put a significant portion of their cash balance into crypto assets.”

Citing capital transaction data from over-the-counter trading firm Genesis, Fundstrat's Grider told Cointelegraph that more businesses may be buying crypto assets without reporting them in earnings reports. For example, Genesis's "Market Watch Report" for the first quarter of 2021 reported a surge in the share of "corporates" in crypto asset trading volume to 27%, up from 0% in previous quarters. "Our ratio shifted as corporate clients began buying Bitcoin for their treasuries in the first quarter," Genesis noted.

Tesla allocates 8% - is that too much?

Assuming a company decides crypto assets should be part of its financial reserves, how much should it actually allocate? Last year Cappelli told Cointelegraph that investing 50 basis points to 2% of reserves was about right, given the volatility of crypto assets. But since then, crypto prices have skyrocketed, and Tesla is allocating up to 8% (or $1.5 billion) to its corporate cash reserves. Is the recommended allocation growing?

“I don’t think there’s a bright line rule that we can apply across the board here,” Willens told Cointelegraph, “but I think well above 2% would be appropriate, and even up to 8%-10% would be acceptable.”

"It will be entirely up to the company," Cappelli said this past week. "Companies manage their balance sheets to fund operations and maintain a certain amount of liquidity." Bitcoin remains a very volatile asset, "while it does provide a hedge against inflation, it does come with a certain amount of market risk. I would be very surprised to see a company's current allocation much more than 5%, but this may change over time."

However, Robinson believes that the job of corporate financial personnel is to ensure the liquidity and security of the balance sheet, and can Bitcoin do this?

“If you look at crypto purely as cash, it’s still very volatile relative to the dollar,” Grider told Cointelegraph. “But some assets like Bitcoin have become less volatile recently, and we’re seeing strong liquidity emerging in crypto, which is exciting.”

One way companies could think about holding crypto assets is as a replacement for cash, Grider continued, “but you could also think of it as inventory or a marketable portfolio investment or an intangible long-term asset. This means that even if it’s not an ideal fiscal asset in all respects, a business could still hold crypto assets for other reasons,” such as:

“Certain businesses could buy crypto assets as a hedge against technological disruption, just as they would an M&A of a competing startup.”

“I think the concerns about liquidity are valid,” Willens responded, “but limiting investments to 8%-10% of investable funds should insulate treasurers from criticism, as the balance of funds will be deployed in cash and cash equivalents with a readily convertible value.”

Capelli added that there is a sizing adjustment for each investment and that "taking into account all investments on the balance sheet" is part of the job of any corporate treasurer or chief investment officer. At the same time, Luria declared that "crypto assets are highly liquid and this should not be a constraint."

In Willens’ view, a more significant disincentive to keeping crypto assets as a company’s financial reserve may be the accounting treatment it is currently subject to, namely “the way crypto asset investments are accounted for, they are treated as ‘indeterminate intangible assets’ so that any decline in the value of the asset must be reflected in income from continuing operations, while price increases cannot be so reflected.” He described this “unfavorable accounting treatment, making it the most unattractive investment possible.”

A "tectonic shift" in global finance?

All in all, the current monetary environment has caused serious concerns among businesses about inflation and the continued strength of the U.S. dollar. As Grider said, it shouldn’t be surprising that “businesses will become more open to alternatives such as crypto assets.”

But something bigger may be happening. As Perianne Boring recently noted in The New York Times, global finance may be undergoing a “tectonic shift” thanks to crypto assets. “Digital assets are bringing about a new paradigm for global finance,” Cappelli agreed, arguing that we are still in the very early stages.

"In every cycle, there are always some bubbles, but structurally, what we've seen over the last few years certainly provides a strong foundation for this new asset class."