The Nasdaq-listed ASIC manufacturer Canaan (NASDAQ: CAN) misrepresented its possible revenue for this year, according to a report by an analysis organization, Marcus Aurelius Value. One of its clients is a suspected related party that cannot honour the $150 million purchase contract.
Aurelius Value also stated that Canaan’s AvalonMiner series is uncompetitive within the ASIC market. It made this statement after explaining that the manufacturer’s R&D budget is quite inferior compared to competitors like Bitmain. After the report published on February 20, the analysts consider the company’s stock as uninvestable and confirmed that it had entered into short positions.
After multiple inquiries from reporters, Canaan representatives responded to some of the allegations trying to explain their case.
Supposed customer irregularities at Canaan
The analysts’ fundamental explanation against Canaan lies in what it labels as a highly irregular transaction about its November 27 initial public offering. A month before the IPO, a “strategic partnership” was struck with Hong Kong Exchange-listed Company Grandshores (HK 1647). The partnership would have the company buy up to $150 million worth of equipment.
That transaction presents several irregularities, as explained by Aurelius Value. This single order would represent just about the total of Canaan’s revenue in the last 12 months that amounted to around $177 million. Additionally, they say that Grandshores has no way or capacity of honouring the agreement referring to its $16 million cash balance and $50 million market cap.
Interestingly, Grandshores seems to be an associate of Canaan. Hong Kong Stock Exchange filings list Yao Yongjie as its chairman. On the other hand, Canaan’s Securities and Exchange Commission filings say that Yao Yongjie is a partner at a particular firm that owns 9.7% of Canaan shares. According to Reuter’s profile, Yongjie is an angel investor in Canaan.
Chen Feng, Canaan’s sales director, held a livestream shortly before the deal was completed. During the livestream, the director promised that Canaan had letters of intent for over 500,000 units making them anticipate a windfall of over $1 billion in 2020’s revenue. The argument was concluded:
“We, therefore, wonder if the giant Grandshores letter of intent, which we view as largely bogus, was used by CAN as a device to hype its financial prospects to investors.”
In the case that the analysts’ conclusion is accurate, then from a regulatory point of view, the omissions of the related party October 27 transaction in Canaan’s IPO filings could have consequences. Companies and businesses are compelled by law to report all their dealings with entities with which its shareholders and executives have relationships in annual and quarterly filings with the SEC.
Canaan representatives, while commenting on this transaction, maintained that Yao Yongjie is not the owner of the stakeholder company that was mentioned in the filings. They insist that he owns less than 1% of Canaan shares. Also, they said that the Grandshores contract is not a formal sales contract adding:
“It is a framework agreement between two parties which Canaan granted Grandshores as a distributor and permits him to resale no more than $150 million of miners.”
The supposed informal nature of the contract was also highlighted as the reason for omitting it in the SEC prospectus. That was done to avoid misleading the investors and protecting the IPO investors, as explained by the representatives.
The analysts further stated that Canaan’s clients mentioned in Canaan’s earlier public listing attempts in 2016 and 2017 also displayed many irregularities. In the end, Aurelius Value highlighted the flaws that exist in Canaan’s product line and business model.
Based on the SEC filings, the company started by offering credit sales as the market plunged in 2018. That caused the customers who bought Bitcoin mining products on credit to become less willing to pay for them. Moreover, Canaan was embroiled in a lawsuit for failed payment of a $1.7 million invoice. The analysts said:
“At a minimum, we believe the plunge in Bitcoin prices that began in late 2017 has had a devastating impact on CAN’s business.”
Canaan miners are fully uncompetitive in the market, as published at the website asicminervalue.com. They insist that Canaan’s business model is ‘upside down’ since all its miners generate revenue at a loss. But, the conclusion was reached using default settings available on the aggregator site.
The default settings put the cost of electricity at $0.12 per kilowatt-hour (KWh). At these rates, very few mining activities would become profitable, but most of such activities are concentrated in areas where electricity is cheap. Quebec is one such place where the rates can go as low as 0.05 Candian dollars translating to $0.037.
Although the Canaan miners can be profitable under such conditions, they are quite inefficient with regards to hashes per watt ratio. Although lower efficiency can make the Canaan miners obsolete, they are quite cheap compared to similar equipment from Bitmain.
The Canaan ASICs are still competitive under some circumstances, although Aurelius Value highlights essential questions about their profitability. However, the ASIC mining industry generally encounters massive pressure from the imminent Bitcoin halving event. Bitmain allegedly laid off 50% of its staff preparing for the rapid mining revenue plunge.
Inconsistent sales practices, coupled with the nature of the mining industry, may channel towards a higher investment risk than the traditional markets would be expected to accept.