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A popular view is that gold has no monetary role to play in a modern,
technologically-advanced economy. This view is wrong in many ways, including
that, thanks to technological advances, gold is now better suited to being
money than it has ever been. This is because technology has eliminated the
inconveniences that would otherwise limit gold's usefulness as money, with
BitGold being the latest evidence.
In a TSI commentary back in 2010, here's how I summarised the reason that
gold is better suited to being money today than it ever has been in the past:
"[The key is that] technology [now] allows gold ownership to simply
and instantly be transferred without the need to physically move bullion.
Almost all the monetary gold could remain locked in vaults, with ownership to
a quantity of gold - anywhere from a tiny fraction of a gram to many
kilograms, depending on what is being purchased - being effected
electronically." Previous attempts have been made to create
platforms that enable gold to be a convenient medium of exchange, with
ownership instantly transferred electronically when a transaction is done,
but BitGold is the first attempt that stands a good chance of being
successful.
The choice of the name "BitGold" was obviously influenced by the
growing popularity (and notoriety) of Bitcoin, but BitGold and Bitcoin have
almost nothing in common aside from being ways to store purchasing power and
make electronic payments outside the banking system. Importantly, BitGold
doesn't have Bitcoin's flaws, the most serious of which is that a Bitcoin,
like a dollar or a Yen or a Ruble, has no use outside of its role as a medium
of exchange.
Rather than being an electronic medium of exchange itself, BitGold is a
platform for trading a substance (gold) that has historically been the
world's premier medium of exchange. Putting it another way, users of the
BitGold system are not trading computer 'bits', they are trading ownership to
specific pieces of physical gold stored in a vault.
To be fair, Bitcoin has one significant advantage over BitGold. The beauty
of Bitcoin is total decentralisation. There are no intermediaries. There is
also no need to jump through the personal ID (Know Your Customer) hoops
established by the banking system at the behest of government. With BitGold there
are intermediaries (vaults and insurance companies), and all the usual
banking-system requirements apply.
As far as I can tell, there is no way to use technology to
quickly/efficiently transfer ownership of gold without using intermediaries
responsible for storing the gold and keeping it safe. On the plus side, with
BitGold the storage is outside the banking system and there are several
options regarding geographical location.
I'm not going to explain all the benefits of BitGold and how it works,
because that's already been done in a number of places on the internet. For
example, Bob Moriarty provides a good overview HERE. I like BitGold, the product, a lot, and will
probably open an account in a couple of months if it operates smoothly during
the intervening period. But BitGold, the stock, is a different kettle of
fish.
BitGold shares (TSXV: XAU) listed at the same time as the company opened
its virtual doors to customers. This is strange. Normally, a company will
have operating history before it lists on a stock exchange. Was it a
deliberate ploy to float the company on the stock market before there were
any hard data that could be used to value the shares? If so it worked,
because the shares immediately attained what appears to be a very high
valuation. I say "appears to be" in the previous sentence because,
with no operating history to go by, it is impossible to even guesstimate what
the company is worth. What I can do, however, is roughly determine the amount
of success built into the current stock price.
At last Friday's closing price of C$4.14 and with around 37M shares
outstanding, XAU's market cap is C$153M. This equates to US$126M at the
current exchange rate. How many users would BitGold need to justify this
market cap?
BitGold makes money on transaction volume - on the purchase/sale of gold.
Specifically, it takes 1% of every purchase and every sale of gold made
through the BitGold system. Users of the BitGold system are not charged
anything for gold storage and insurance, meaning that all costs of running
the system must come out of the aforementioned 1% and that whatever is left
becomes BitGold's gross profit. For the purposes of this exercise I'm going to
ignore these costs and make the assumption that due to its strong growth
potential the company is worth 10-times its annual sales revenue. Based on
this assumption, the current market cap of US$126M would be justified by
annual sales of roughly US$13M. To get $13M of sales, BitGold would need
annual transaction volume of US$1.3B.
Now, the company guesses that its average annual transaction volume per
user will be $1000-$2000. If I divide this range into the $1.3B implied by
the current market cap, I get a range of 650K-1.3M. In other words, this
method of valuation suggests that the current share price is discounting a
customer base in the 650K-1.3M range.
As an aside, it is clear that BitGold will need a fairly high average
transaction volume per user to be meaningfully profitable. However, it's a
good bet that many of the users will initially be 'goldbugs' who will use the
service to make long-term investments in physical gold. Based on its current
fee structure, BitGold would be more likely to lose money than make money
from this type of customer.
Taking another valuation approach, BitGold has been likened to PayPal so
perhaps it would make sense to compare BitGold's valuation to PayPal's
valuation. PayPal is apparently being valued at $84 per user, but there are
three reasons - not even taking into account the fact that PayPal is a major
success while BitGold's success is not yet assured - that BitGold's valuation
should be significantly lower than PayPal's. The first is that PayPal has no
storage and inventory costs to absorb. The second is that PayPal is solely a
vehicle for transferring a medium of exchange whereas many of BitGold's
customers will use the service for store-of-value purposes*. The third is
that the BitGold service is not available to US citizens. I'll therefore
assume that BitGold's per-user value is a little lower than PayPal's.
Assuming $70/user, BitGold's current market cap implies a user base of
1.8M.
Based on the valuation methods outlined above and the company's own growth
projections, it seems to me that if all goes well then BitGold could grow
into its CURRENT market cap in 2-3 years. This means that great success has
already been priced in, leaving plenty of risk and no valuation-related
upside for new buyers of the shares. Of course, there will always be upside
potential due to the pool of greater fools, especially considering that the
supply of XAU shares is small at this time.
The bottom line is that BitGold, to me, is like Amazon.com: I love the
product, but hate the stock's current valuation.
*Gresham's Law is an obstacle to BitGold's profitability, in that the
sort of people who would want to own physical gold would be more likely to
spend their fiat currency than their gold. That is, they would tend to hoard
their gold and spend their dollars, euros, etc., thus reducing BitGold's
revenue per user.
http://tsi-blog.com/blog/blog-default/
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