Strategy Sells Shares to Pay Dividends? Smells Like a Pyramid Scheme

Strategy has built its position over the years through a simple mechanism: it issued shares, raised capital, and used it to buy more Bitcoins. Now, the situation looks different.

The company sold over $544 million worth of shares in just one week, but did not allocate these funds for purchasing BTC. The money went into a cash reserve intended for paying dividends on preferred shares and servicing interest obligations.

According to the latest documents filed by the company, in the week ending July 26, Strategy sold about 5.43 million Class A common shares. The issuance conducted under the market sale program netted $544.5 million. However, this time no Bitcoin was purchased with the proceeds. The company's holdings remained at 843,775 BTC, acquired at an average price of approximately $75,476 per coin. The capital went into a special dollar reserve, which increased to $3.75 billion. Its purpose is to finance dividends for preferred shareholders and settle interest obligations.

Strategy currently has five series of preferred shares, each paying investors a specific dividend. The interest rates of the various instruments range from 8% to 12%. The highest rate is currently offered by STRC, whose dividend was raised from 11.5% to 12% annually. In total, dividends and interest cost the company about $1.76 billion per year. The problem is that Bitcoin does not generate cash flows. It does not pay interest or dividends, so the funds for servicing obligations must come from issuing shares, selling part of BTC, or operational activities. However, the latter is too small to cover the scale of obligations on its own.

For several years, Strategy's model relied on a high market premium. The company's shares were valued significantly above the value of the Bitcoins it held. This allowed Strategy to issue new shares and use the funds raised to buy BTC. Even after the dilution of the number of shares, the amount of Bitcoin per share increased, supporting further valuation growth. However, the premium has now shrunk to around the net asset value. The issuance of new shares no longer increases the amount of BTC per share. If the funds additionally go into the cash reserve instead of Bitcoin purchases, this ratio mechanically declines.

The current structure means that the costs of maintaining preferred shares are effectively covered by issuing new common shares. Holders of preferred instruments receive dividends before common shareholders. At the same time, it is the common shareholders who bear the cost of dilution when the company issues additional securities. Critics of this model point out that Strategy provides an annual income of 8% to 12% to one group of investors, while the other group finances these payouts through a decrease in their share of the company's assets. Defenders of the strategy argue that the reserve allows avoiding forced sales of Bitcoin during a bear market and gives the company over two years of security for its obligations.

The company did not limit itself to issuing shares. At the end of June and beginning of July, it sold a total of 3,588 BTC for about $216 million. The average selling prices ranged from $59,256 to $60,773 per coin, about $15,000 below the average purchase cost of the entire portfolio. The funds were again allocated for payouts to preferred shareholders and replenishing the cash reserve.

For years, Strategy has emphasized the amount of Bitcoin per share as a key measure of the success of its strategy. Currently, this metric works against the company. The issuance of new shares with an unchanged number of Bitcoins lowers the BTC per share. Selling cryptocurrency, on the other hand, reduces the asset pool itself. Strategy has thus shifted from an accumulation model to a liquidity protection model. The reserve of $3.75 billion reduces the risk of forced asset sales but was built at the cost of diluting shareholders and partially selling Bitcoins below the average purchase price. The most important question now is not only whether Bitcoin will rise again but also how long the market will be willing to finance Strategy's dividends through the purchase of additional share issuances.