We Study Billionaires - The Investor’s Podcast Network - BTC036: Bitcoin Mining Update w/ Harry Sudock (Bitcoin Podcast)

Starting point is 00:00:00 You're listening to TIP. Hey, everyone. Welcome to this Wednesday's release of the show where we're talking about Bitcoin. And back by popular demand, we have Harry Suttuk, who's here to talk to us about the current events and thoughts surrounding the Bitcoin mining industry. This was a fascinating conversation because Harry got into a lot of specifics about the hardware migration coming out of China, the potential impacts moving forward, and then we had a general conversation about the business of mining. As many already know, Harry's a treasure trove of information. on this topic. So without further delay, here's my conversation with Mr. Harry Suttick. You're listening to Bitcoin Fundamentals by the Investors Podcast Network. Now for your host, Preston Pish. All right. So like I said in the introduction, I'm here with Harry Suttack. And I love having these

Starting point is 00:01:02 conversations with you, Harry. I've been a big fan for quite a few years now. So welcome back to the show. I appreciate it, Preston. Thanks for having me. It's been a bit of a roller coaster in mining land for the last three, six, nine months. To say the least, to say the least. Hey, I want to start off because we've never covered this. The last time you were on with Marty, we didn't cover your background or your story. So I'm just kind of curious what's your background, how you found Bitcoin and how you got into it in the first place. Yeah, I appreciate it. So I'm a fintech native, basically. I joined up with a fintech halfway through college, interned there, the summer between my sophomore and junior year, interned there again the following summer,

Starting point is 00:01:44 and joined full-time five days after graduation. And that company really focused sort of on the full belly of the beast. We were a big data company that sat in between hedge funds and prime brokers. So we tried to leverage sort of back in the middle office functions to generate operational alpha for clients. That was as simple as saying to some folks, put your short on at Citibank, not at JP Morgan. and they're going to charge you less. Or it was as nuanced as sort of recreating their margin agreement and validating

Starting point is 00:02:15 that they had to post as much collateral as they thought they had to post. So we were able to just sort of shave some points here and there. But for a $15 billion hedge fund, a few points means $10, $15, $20 million in costs, say, per year. So it was a really interesting business. And it put me really in the guts of how the broader financial system worked, which was a blessing and a curse because it made me realize that this stuff is running on mainframes. You know, the idea that these large financial institutions and

Starting point is 00:02:44 massive sources of institutional grade capital are somehow sophisticated is like a wild misnomer. There are hedge funds that are still working with paper orders. So the insight into that side of the world was one part of it. And like with many others, I sort of had my three swings at the plate with Bitcoin. First, in high school, there was a kid who was very involved in some of the early anonymous stuff when they got involved with fighting back against Scientology and they were sending Bitcoin to each other. So, you know, the kid who got investigated by the FBI in my high school was the first, the first pass at Bitcoin. Then, you know, the second pass was, you know, the kids who were buying drugs in college. And then the third pass was like the most

Starting point is 00:03:31 junior guy on our desk at the FinTech had just given his buddy five grand to trade Bitcoin prop for him. So I got these three swings at it, you know, that was probably sub a dollar in high school. It was probably sub $20 in college, and it was sub a thousand dollars at my first job, missed all three swings, obviously, but had finally reached, you know, that critical information exposure point where the proverbial viral load had reached the saturation I needed to say this is this is worth time and effort. From that point forward, said, okay, this is, this is interesting, went from, this is interesting to, I can't think about anything else. And from that point, said, you know, I need to find a way to make this my career. Anything other than sort of full

Starting point is 00:04:19 career exposure to Bitcoin is under exposed. And at that point, I said, I have a thesis about the future that balance sheet is going to replace valuation. Hard assets are going to trade at such a ridiculous premium over the coming, I don't know, call it 10-year time horizon. Yeah. That like the actual free cash flow that your business generates and the balance sheet that you build with it is going to be like a way more useful source of compounding than sort of the next up round, which is what it's been previously where the idea is that you can sort of, if you go back maybe six or seven years, you've got to just sort of infinitely mark up your next

Starting point is 00:04:57 venture round until you sell it to soft bank and to the Masa. Now it's like you just sell your sort of your next up round until Tiger comes in and pays for it. But, you know, I was of the opinion sort of at that point that businesses need to generate free cash flow. And the best use of that free cash flow over time becomes balance sheet. And so I tweeted it during some of Trump's rise, but like make balance she's great again was kind of what we were going through. And, you know, I continue to believe that. And I think that the reason why that's so exciting is that and the answer to the original thought before I got to it with Bitcoin was that, you know, if you're, you know, someone who's 25 years old, what are the best assets you can put on your personal balance sheet? And it's like,

Starting point is 00:05:40 all right, I'm going to spend two years at Stripe. I'm going to spend two years at Airbnb. I'm spent two years at Uber. And I just want to like best two years of the best three of the best 10 companies I can find. And then my personal balance sheet will actually exceed anything else I'm doing. And then Bitcoin came and said, you know, the thesis is right, but the collateral is wrong. So now it's just, you know, how do you aggressively free cash flow as quickly and best as you can to be able to build your sort of personal balance sheet in such an early and aggressive way that it becomes the best performing asset of your lifetime. And that's sort of the replacement for the pension myth or the Social Security myth.

Starting point is 00:06:20 You know, what those are is it's a replacement for balance sheet. So developing personal balance sheet early and front loading. It's like what all the fire people kind of get wrong or they get right, but maybe get wrong. They're right that saving these hard assets, they do it in the form of equities. My perspective is that that needs to happen in the form of Bitcoin for lots of different reasons. But then extend that thought process out to either starting or joining a very early stage company. How do you not mind Bitcoin then? So took that idea and said, all right, like the two best free cash flowing company,

Starting point is 00:06:52 that you can build, you know, in the Bitcoin space are an exchange or a minor. I, having just been through five plus years of fintech experience at the heart of prime brokers and hedge funds was not thrilled to jump onto an exchange at that moment. And, you know, sort of by the grace of serendipity, found my way into a, into a cold DM with Grids founder and CEO, Trey Kelly. And we met for coffee a few times. I was thinking about starting my own thing. And he very wisely said, you know, don't do that, come join me. And it was at that point that I joined Grid as the first employee. Wow. Oh, that's fascinating. And I agree with your fundamental thesis about the balance sheet. And I think it's so important. And I think it's really difficult for people to wrap their head around

Starting point is 00:07:39 because they've been so groomed and conditioned, especially anyone coming out of business school, that the income statement is the place to really kind of spend all of your time and analysis. And for good reason, you've got to find a company that's kicking off free cash flows. But when you think about how everything's just being capitalized to the moon because interest rates keep going down, it forces you to really understand what is on the balance sheet. And how's it being capitalized on the balance sheet? So when you're seeing these numbers and the equity growth of the business, is that really equity growth or is that just the capitalization of the assets that are sitting there?

Starting point is 00:08:15 And yeah, I'm with you 100%. Exactly. And so for me, like there were two moments within sort of traditional. like high growth companies that I thought were not like fully emperor has no clothes because I respect a lot about what some of these companies do, but they were like, these are companies that are sort of maximally extracting from the existing state of play. They're not actually designed for the future state. And I think like Airbnb is like the perfect example. Airbnb is like the perfect company to, you know, have as minimal balance sheet as humanly possible, pour all that money

Starting point is 00:08:50 into building two-sided marketplace. And let's let the balance sheet headaches live on the host's desk. Because we all kind of agree that dealing with that piece of it, owning that hard asset, doing the thing, it's a pain. We're going to be able to, you know, what they're really doing is like value chain hacking. They're saying like, here's a value chain that traditionally would accrue over here to the real estate. We're going to hack that traditional approach and we're going to try to pull. all of that value accrual into this matching engine.

Starting point is 00:09:25 They're basically pulling it into this liquid place within that traditional business model. Kudos to them. They build a generational business. It's incredible. But it's very much a creature of 2013 to 2020, clearly early 2020. And then the other, which is an example that I much sort of don't respect is just like the WeWork playbook, where WeWork is like the screaming example of. of money is hilariously too cheap.

Starting point is 00:09:55 If you're allowed to do this, if your board of directors lets you do this, then the interest rates aren't accurate. Exactly. And the risk models are wrong. Yes. You know, good on you. Chamath does a great, you know, he did a great Stanford Business School speech where he said the playbook, I think he presents his own problems and he's a challenging person that

Starting point is 00:10:15 wrap your head around generally. But he's exactly right in this speech because of the moment that he gives the speech. speech in, which is his point is getting money. Why? Because it's free. So if you're not just going out and raising as much money as humanly possible at that point in time, whether it's debt or it's equity or it's an ICO or whatever the case may be, like everyone's giving it away for free, go get yours and make sure you sit down before the music stops. Eos and Block 1 are a great example of this. They raised $4 billion and paid out $20-some-odd million dollar SEC fine. You don't think the money's too cheap? Let's pull the thread on this. So when we think about this cost of capital

Starting point is 00:10:55 being nothing effectively, and you think about how everyone's kind of maneuvering, we've seen the Michael Saylor playbook. But from a mining business standpoint, they're crazy not to go out there and be borrowing as much of this as possible in order to buy more hardware and put it to work. So are you seeing more companies here in the States, anywhere in the world, it doesn't really matter. Using that playbook of the rates are manipulated, so let's take advantage of it while we can and conduct this speculative attack on fiat currency. I don't see it in practice yet. I see the edge of it. I think people are 5% of the way into that strategy you just described. And I think that one of the reasons that I love mining so

Starting point is 00:11:41 much is that it is a really hardcore meritocracy. And it's a hardcore meritocracy from a standpoint that it's actually challenging business to build and operate. So you may be able to roll the way that Michael Saylor is rolling out this attack strategy is much, much easier to execute, because all he has to do is go by Bitcoin. That's the playbook. Raise money by Bitcoin. He doesn't care how the money gets raised, whether it's equity, debt, convert, you know. And they're happy to give it to him. Yeah. Well, for sure. And so I think like that version of the attack is a lot easier to bring to market maturity, where even if there was as much demand to bring a similar strategy to market and mining, I just think the execution's way harder.

Starting point is 00:12:22 Yeah, because you're having to know where you're at in the cycle and just like there's a lot more moving parts to this. So tell us some of your thoughts on all these moving parts. Yeah, I want to use the counter again just for a moment. Yeah, yeah. The worst thing that can happen to Mike Saylor is that Bitcoin goes down and stays down. Yeah. Way down. Like 90 plus percent for a protracted period of time.

Starting point is 00:12:45 He's got five-year notes. So like, yeah, he needs it to be down for a very long time. He needs Bitcoin to do something. It's never done. Yeah. In mining, there's a lot of other places where the business models break on an interim basis, right? So you're subject to, let's just use a bunch of examples.

Starting point is 00:13:04 The machines you buy don't work. You raise $100 million in some Michael Saylor style. funding event and you go by S-17s, and let's just assume this is early 19, the S-17s had an incredibly high failure rate. And Bitmain did their best to basically string you along until warranty period rolled over, and you get what you get, you don't get upset. So there was, you know, so there was a blend between like hardware quality risk and counterparty good behavior risk that has nothing to do with borrowing money and buying hardware. So my immediate thought when I'm hearing this story is like, so, okay, for people that aren't

Starting point is 00:13:44 familiar, Bitmeans over in China. And so, you know, you're just looking at hardware manufacturing in general. With the China ban and with examples like the one you just provided, I would think there's massive demand for hardware that's not being produced inside of China. Is that the case? Are you seeing some hardware manufacturers trying to migrate out of there? Talk to us about that industry. Well, I think, like, it's important to double-click on why you don't want the machines to be made in China.

Starting point is 00:14:15 And I break it down sort of into three major categories. One of them is, like, straight up tariff risk. Buying a machine out of China is 25% more expensive than a machine not made in China, apples apples. The second is jurisdiction, litigation stuff. So you send them money, they renege on a contract. Where do you sue them? You don't. You don't.

Starting point is 00:14:39 Or you go to China, you try to sue them, you know, hundreds of thousands of dollars, millions of dollars, in legal bills later. You hope you win? Do they pay you for legal fees in Chinese courts? I don't know. I don't care to know. So the second is really that, like, you don't have a lot of recourse. The third is some kind of intervention. of some kind that blows up the deal. And, you know, we've seen it from a governance perspective

Starting point is 00:15:03 within Bitmain. So those, you know, who aren't familiar with sort of their corporate governance structure, there's been a lot of upheaval that's gone on within their, you know, their corporate structure. They've, they've forked the company. I get into sort of the bit name conversation, but the truth of the matter is they still make a really good machine. So I'm of these two minds that like you're onboarding counterparty risk by dealing with them, but you're also dealing with sort of the best manufacturer. It's this duality where like you got to buy enough to satisfy your growth, but you've got to manage those procurement channels pretty carefully to protect yourself from sort of the bad scenarios and run bit main machines. We continue to

Starting point is 00:15:40 buy and run bitmaid machines. We think they make a good machine. But navigating a business relationship with them takes savvy and takes skill and is part of why you can't just jump into this thing. Now, are you seeing any change or any guidance that's being put out for in the future now that China has their ban in place as far as for Bitmain specifically or any other Chinese manufacturer? I think that it's too early to tell. We don't have anything, you know, super definitive that they're going to cut their volumes by 50%. You know, we don't see anything like that. We see that they're looking to sell more machines. Demand for hash continues to be high, but there's complexity at all of that.

Starting point is 00:16:19 We've heard some reports around dropping existing existing kind of production quantities so that some of the existing orders or pre-orders can migrate elsewhere. And this is also part of the challenge where the way that they manufacture as they forward sell so many of those machines. You know, they're selling a year ahead even longer from time to time. That allows for a lot of different stuff to happen, especially in a business as dynamic as mining and as an industry that's 24-7 as Bitcoin. And a lot can happen in 12 months as we've seen time and time again. Let's say the worst case scenario plays out and China just shuts Bittmain down. No more of this. You're not making any more of these things.

Starting point is 00:17:00 The company is toast, right? What does that mean for the market? Like, what does that mean for the hash rate? Just like, if that scenario would play out, what would that mean for you guys? It would put a lot of pressure on the used market. So you'd be paying prices way higher than what they're going for today. Yeah, I mean, I think... How about the hash rate in general?

Starting point is 00:17:22 The hash rate would still rise. There's other manufacturers, and, you know, more than likely I would expect. So TSM and Samsung, which are the two chip foundries, are both not on mainland China. So the ability to produce chips would still no impact there. It's really about sort of the organs of the corporate structure. And there's, you know, there's outside of mainland assemblies. as well. So there are paths that would be achievable from a supply chain standpoint. It would be disruptive for sure. I think that we would, it's a hard thing to speculate on. There's a lot of

Starting point is 00:17:57 moving pieces around where it could go. Our assumption is that there's a lot of market demand for hash, enough demand where alternative supply chains would be established over time. And they would strengthen over time. And it was strengthened over time. Yeah. I mean, I think we're already seeing that. We're seeing whatever, 40-some-odd billion dollars invested in U.S. foundries, the price of machines would go up because the price of labor and component parts might go up. But there's, there are pathways to continue to produce significant amounts of basics that don't involve mainland China's involved. So let's go back, I don't know, 60, 90 days. And the China announcement comes out. I know my

Starting point is 00:18:37 personal opinion when I saw the headline, I just kind of rolled my eyes and was like, yeah, yeah, sure. Yeah, right. Like, seeing this story multiple times in the past, like, there's no way this is real. And I guess my first question for you is like, what was your interpretation? I see you nod in your head. But then from a company standpoint, from a mining company standpoint, how did you guys start to interpret it as it started to look like, oh, no, hold on a second. This might be real. Yeah. So, you know, number one is we've seen this story before. Yeah. We've heard about China banning Bitcoin, banning Bitcoin mining. Everything. 30 days for the last three years. So, you know, our first instinct was not to take it too seriously. We've been taking China regulation a little more seriously since we've seen Inter-Mongolia really did go through significant reductions in hash rate prior to this. And so there was some provincial pressure that we'd seen that was real and significant. And so our instinct obviously was to say, all right, let's see if it's real, not giving this any credence right away at all. But, you know, we had seen at the province level effective regulation in some regions already.

Starting point is 00:19:47 And quite quickly, it became clear that this was happening. We were hearing and seeing real panic. And the other thing that, you know, that we don't want to let get memory hold too quickly is that we'd seen the significant disruption to the coal sector where there had already been sort of a 10 plus percent reduction in hash rate, you know, a few, forget if it was weeks or months earlier, where there was a coal plant that. that significantly malfunctioned. And so they ran a series of tests across all of the plants in that region over the next,

Starting point is 00:20:18 I think it was maybe 10 or 12 days. And we saw 10 to 15 percent of hash reduce during that difficulty adjustment as well. It came back towards the end of the adjustment. Yes. So there were signs prior to this that we should A, be sizing the reduction in hash maybe more aggressively than we would have thought otherwise. you know, that was the first piece. And the second was that these markets were more vulnerable and susceptible to, you know, Black Swans, whether they be in the energy generation piece or

Starting point is 00:20:49 from the regulation, we should be taking that more seriously than we have historically. So we quickly digested that this was real. Frankly, my first thought was, this is really challenging. No doubt every minor is competing with every other minor. But, you know, having now gone through multiple cycles with grid and having stood up significant operations with grid. We have compassion for other operators. This is a really hard business. And so to have built your business in a place with regulatory vulnerability and to see that vulnerability get played out through no fault of the business that you run and built, it sucks. We have friends with close ties to some Chinese miners and we feel there is capitalistic and aggressive and competitive

Starting point is 00:21:36 business owners and operators as you could ask for. So we recognize that, you know, they're no different than us. And we compete with them like any other minor, not like a Chinese minor. Let's take a quick break and hear from today's sponsors. All right. I want you guys to imagine spending three days in Oslo at the height of the summer. You've got long days of daylight, incredible food, floating saunas on the Oslo Fjord, and every conversation you have is with people who are actually shaping the future.

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Starting point is 00:25:49 That's Shopify.com slash WSB. All right. Back to the show. So, Harry, if you could put on your hat as if you were one of these participants over in China that are going through this regulatory situation, how do you think they were thinking through how they solve their situation as far as selling their rigs, as far as getting them out of the country, do I just walk us through that thought process and how they were probably handling it in the highest probability kind of way that you would suspect what the typical minor in China

Starting point is 00:26:25 was thinking? In my experience with how they think and operate, and, you know, they don't I don't think can operate one way. They're a huge segment of this market. They operate all over different provinces with all different kinds of energy relationships. Their families own the coal plants that they're operating out of. Some of them are building out a bilateral agreement with a hydro dam. So there's a really wide range of how these miners are actually running their operations. I think the first is like you should have been planning for this already. Do you think most were?

Starting point is 00:26:55 The biggest were. I think that like with everything, there's a barbell. The biggest, we're planning for this already, the smallest might go unnoticed. But it's that sort of middle 50 to 70% that are in the dangerous zone of not being big enough to fully invest in diversification, but also being too big to escape the sort of the, you know, I have soren. I think for that cohort, it's, it's, you know, seeing, you know, where can I move these things outside the country and how can I be first, first or last, you know, rushed for the door. And so first order business would be speed, how do I move the rigs? Second order of business is what price can I get for the rigs and try to sell them similarly, be at the front of that order book. Do you think many were

Starting point is 00:27:43 trying to move their company so they're trying to retain the rigs or are they just trying to get them out the door? And then also like how are they managing their own personal balance sheet, which I would imagine is heavily denominated in Bitcoin? I think that the sort of the most common behavior is those rigs are in storage. There's just dry powder, so to speak, that a lot of folks don't like the pricing they're getting to sell them. They don't have a place to move them because we'll get into a lot of this. But I think that the shift has moved dramatically from hardware premium to rack space premium.

Starting point is 00:28:17 You're saying for all the ones buying the rig. So, like, they didn't have the infrastructure in place outside of China in order to buy. Wow. Interesting. No. There's no rack space to put these machines. There's a ripple effect, right? So then you say, why isn't there enough rack space,

Starting point is 00:28:35 some mixture of the inability to execute on building out the locations or the inability to sign enough scaled power contracts? So now you run into all of the normal supply chain problems that we're seeing across used cars and other industry. You're not going to buy those rigs unless you know the electrical expense that you're signing up for whatever that contract's going to be before buying. I got you. And I think the other thing that people that aren't familiar with the mining space, the infrastructure itself, like pouring the concrete, having the heating cooling in place, having the building itself, all the CAPEX that's associated with the stuff that just goes beyond the rig itself is massive, takes a significant long time to establish.

Starting point is 00:29:19 Like we're talking a year to get some of that stuff stood up or six months? I think six months is aggressive and I think 18 months is conservative. And it depends on what there's almost reverse economies of scale. So dis-economies of scale are totally present. The bigger, the mining operation you're trying to build. So the longer lead time items are, you know, that lead time extends the higher up the power stack you get. So a low voltage transformer used to take like 12 to 16 weeks.

Starting point is 00:29:50 Maybe now it's closer to 20 or 30 weeks. that doesn't talk about sort of a substation transformer. Those are 18 months in the making. And those aren't getting any quicker. They're not getting shipped any quicker. They're not, you know, boats aren't moving. Ports aren't seeing the type of throughput that they need to be seeing to achieve this kind of stuff. So the bottlenecks in the supply chain, other than the miner, are significant and growing.

Starting point is 00:30:13 And so trying to get another 100 megawatts stood up, there's a thousand megawatts trying to get out of China. So the ability to build the rack space for all of this new supply is not easy. Man, that's not something that I considered was just how much time is associated with doing that. Now, what I want to get back to is in China. So if you're one of these companies that had just tons of rigs, correct me if I'm wrong, but this is like half of the entire hardware infrastructure for the Bitcoin network that's been turned off. Okay. So half the rigs are in storage is what you're saying.

Starting point is 00:30:51 You think a majority of them went to, mostly because they didn't have a buyer at the price that the person would be willing to sell it for. They would just rather get some type of storage and put them in the storage until they can find the right buyer and the right price to offload it. Some of them have left. Where are some of the locations that those have gone to? I'm seeing a lot of noise around Kazakhstan, even though they've introduced. used a new sort of Bitcoin miner power contract tariff of a quarter cent for kilowatt hour.

Starting point is 00:31:22 We're still seeing a lot of volumes migrate there. But those supply chain problems, those are country agnostic. They're a little easier to overcome in some countries because they have different electrical standards. But I think that by and large, it's hard to build rig-ready rack space for miners. So we're seeing Kazakhstan, we're seeing a ton to the U.S. even though we don't have the ability to plug it all in right away, what is available is coming here. And so really what's interesting is we're seeing updates to deal structures.

Starting point is 00:31:53 So the folks who are able to get their machines out of China and they want to retain interest at them, they're striking much more creative, much more hosting friendly deals in the U.S. or partnership friendly. I don't know that I would call all of it hosting. But for the folks that are hosting, you know, it's an opportunity to sign way above market power prices. So what used to be a four, five, or six cent rate all of a sudden is a nine, ten, eleven cent rate, which is crazy and introduces a bunch of interesting price vulnerability to some of these mining operations. If, if hash rises and price rises slower or hash stays the same in price falls, all of a sudden, you know, the machines that are, you know, at a higher, a higher, a higher, marginal profit than they would have been otherwise. Yeah, it's a short-term game at that point. Exactly.

Starting point is 00:32:46 And so, you know, for us, for us at grid, we've always had the same thesis, which is we're vertically integrated and we self-mine. Full stop. That's what we do. We build rack space for ourselves. We plug in our own machines, you know, like we talked about earlier, like it's a balanced sheet game. And, you know, one of the beautiful things about being a Bitcoin miner is that the A60

Starting point is 00:33:05 purchase are just like little baby Bitcoin bonds. And so, you know, their value is largely associated with the price of Bitcoin because their future cash flow streams are Bitcoin. And so we love, you know, we love being sort of an asset heavy business in a market that used to love asset light because it gives us this opportunity to build sort of these multiple compounding layers that are highly correlated to Bitcoin price. And so we saw sort of all this migration happening and we said, all right, well, we liked being a self-miner who's vertically integrated before double down. Let's do more. We want to do more of this. We think that more value is going to accrue to our business model. And what we've seen as, you know, other folks have kind of woken up to this strategy.

Starting point is 00:33:49 But, you know, that's why we've been building it this, you know, the whole business this way with this in our DNA for two years. Any other comments about the lens from the Chinese miners from the business standpoint? I think really it's sort of this introduction of fragility into the unit economics that they're that they're now going to see, which is, you know, they used to buy three cent power in China. A U.S. hosting used to be five or six cents. They come to the U.S. and now they've got nine cent power and they're given up whatever, a 10% or 20% profit share.

Starting point is 00:34:22 So you're getting crushed on both ends. And what used to be totally immovable hash is now pretty fragile hash relative to the unit economics of the network. So something I'm watching closely is what do we see? start to see around those rigs if the favorability of Bitcoin economics and mining change, and how do we win those deals. So, Harry, I've kind of always had the thesis that the hash rate is really kind of setting the floor on the price action.

Starting point is 00:34:53 And just like if we were thinking about gold and gold's kind of reaching a steady stock to flow kind of issuance and demand and all that kind of stuff, you're going to get to really kind of what's the production cost to pull this out of the ground that would really kind set your floor price. So when we're thinking about Bitcoin and we're thinking about half of that network, half of that hardware that's conducting this mining has now moved to a location where the price to the electrical expense to put this into the market is significantly higher than where it came from. Are you of the opinion that this might favorably impact the underlying price or like that floor price that Bitcoin might achieve on the cycle that we're

Starting point is 00:35:36 currently in? It's a good question. It's hard to speculate on what price will do over time. I think that it's not an unreasonable thesis. I think that there are folks who might take profits at levels in other environments that no longer can because there is no profit to take. But I think it cuts both ways, right? So if you have a higher cost structure on your mining, you're selling more coin to fund operations. On the other hand, you're selling less coins to take profits into, potentially. Or maybe you always kept all your profit in Bitcoin, but I think there's evidence both ways on that. So I think that a higher cost of production, net net, a higher cost of production means selling

Starting point is 00:36:15 more Bitcoin. It's kind of interesting. And you hear a lot of arguments, and I think we're kind of hitting at this a little bit is this price follow hash or does hash follow price? And when I'm thinking about which one of those two are kind of leading the other, I see it more as kind of this homeostasis between the two, like they have this tethered relationship with each other where sometimes the one's driving the other and sometimes it's the other way around. But I'm kind of curious to hear some of your thoughts on that idea as well.

Starting point is 00:36:44 It's just like which one of those two is driving the other? So I think that price drives hash at the tails, basically. When you say at the tails, what do you mean by that? So I mean that when Bitcoin price precipitously falls during COVID Black Thursday, that drives hash. That says to people, I need to turn my machines off. I'm worried about paying for power. Similarly, when Bitcoin price goes from $10,000 to $60,000, people say, if I don't plug a machine into my garage, that's the cheapest way for me to mine a Bitcoin, not to buy it.

Starting point is 00:37:21 So I think when we see the most extreme price action, it drives, maybe not irrational, but it drives extreme behavior with regard to mining. And you can see, you know, I think the chart is most clear when you look at Black Thursday, right? You saw a price come down borderline 50%. And you saw hash drop, you know, double digit into the 20s, 20s, 20s and 30 percent on a very short term basis. I think people panicked.

Starting point is 00:37:47 And I think you saw the same. The problem is, is that hash coming online. lags, hash coming offline is real time. So the way to try to correlate price and hash on the upside is with Bitcoin price and machine price rather than Bitcoin price and hash rate. Because with hash rate, we just talked about it. There's significant lead times of plugging anything new in at scale. So I can't say, oh, Bitcoin went from 30 to 60. Time to plug in all those machines I've just been sitting on. Oh, maybe now it's time to kick off purchase orders for transformers. Now it's time to engage with my general contractor. Now it's time to work with my

Starting point is 00:38:23 electrical engineering team to start plotting out, you know, expansion within existing operations. I got to go back to negotiate with power producers. So there's a lot of levers that get, that have to get pulled to bring that new hash online. I'll pull all those levers. I'll pull all those levers right away. But that doesn't mean that the hash is going to come online any shorter than sort of 90 days. But on the way down, shut the machines up. I just want to go back to the China piece one more time. So this was a common question that we saw from people online is, how confident are we that we're actually seeing rigs leave China? Or it's kind of like a theory that people have that China might have just made it appear like they're turning off their rigs, but they're really going to

Starting point is 00:39:04 be there for some type of attack into the future. So I'm kind of curious, yeah, I'm with you. I'm kind of curious, what percent of that hardware do you think is actually leaving the country right now. So we both talked earlier that 50% of the hardware was in China. How much of that 50% is staying versus leaving? I'll caveat and say leaving thus far. So I bet you we've seen one in five of those machines leave. 20% of what was there. Yeah, 10% total network, 20% of what shut off. And that's because we're having conversations with folks that are trying to move machines. This is still a pretty small club of folks who mine Bitcoin at scale. A, we're seeing it in pricing.

Starting point is 00:39:48 So if those machines weren't really leaving, we wouldn't have seen prices and machines come down so far. B, we're seeing the network recover. Those machines are going somewhere. Our feeling is they're coming to the U.S. and they're going to Eastern Europe. Okay, so this one was pretty politically charged and got a lot of people in the community pretty emotional, and that's the Mining Council. I'm kind of curious to hear what your thoughts are on the mining council.

Starting point is 00:40:13 And then I'm also curious to hear your thoughts on Elon Musk's piece about Tesla, no longer accepting Bitcoin because of the high energy costs. How are you seeing that as somebody in the mining industry? Yeah, it's a tough topic. The Bitcoin Mining Council, so long as the objective is opt-in data disclosures, is a good thing. I mean, it's no harm, no foul. If people want to provide their data, they can. If they don't want to, then they don't have to. And there's no, like, anybody holding a gun to anybody's head saying they have to do it.

Starting point is 00:40:49 Exactly. And these were two questions that got asked at their first, I think they did, it was that first either monthly or quarterly, they did at Twitter spaces. And the two questions that Pete McCormick asked that I was really grateful for were, you know, number one is, can anyone join the Bitcoin Mining Council, no matter. or the energy mix that they use? And the answer is yes. And number two is, does this group commit to never lobbying for legislation around the energy mix that Bitcoin miners should be using or should we regulate against? And the answer was similarly, you know, we're not here to, we're not here to drive legislation on any of this. We're here to provide opt-in voluntary data disclosures. And from that perspective, I think it's awesome. I think providing tools to the community to make fact

Starting point is 00:41:37 based arguments around how this industry works is a really positive thing. I think that the minute you try to get into, hey, I just heard about Bitcoin and I'm here to fix it, or hey, we want to censor green blocks and clean blocks and a Bitcoin is a Bitcoin except for that one. That's the type of stuff that doesn't work in this network. I think the thing that got everyone so excited about it is just they were having flashbacks to the summer of 2017 with the Bitcoin cash. Oh, yeah. Yeah, the big New York agreement. So I think that's where a lot of it was stemming from.

Starting point is 00:42:11 And at the same time, like, you kind of breathe energy into this ESG fud that's out there by just talking about, well, where did you get your source from? So I can kind of understand that side of it, too, where people are upset that they're even, like, doing it because when you look at the trend and, like, we're both well aware of, like, the trend and the direction that this is going to go, which is the person who can get the energy the cheapest is going to be the ones that. are really kind of driving the train in the future. So with that, let's talk a little bit about geothermal. I know the El Salvador piece with the mining the volcanoes was just a huge, you know,

Starting point is 00:42:49 story. Everyone's got like volcanoes and their Twitter handles and stuff. What are some of your thoughts on that? Where do you see that going? Is it really that cheap of electricity that's being produced out of these volcanoes or any other type of geothermal activity? I'm just curious to hear how you, how you view it. I want to click out one level and just talk about like what goes into choosing a jurisdiction for a miner, which I think is, is, you know, maybe not well understood yet. This is forgive any talking of my own book, but we're of the opinion that the U.S. is the best place in the world of my Bitcoin. Because of all the regulatory, the lack of vulnerability. Oh, really? More than that. Yeah, we think that if you are in the business of converting energy to money,

Starting point is 00:43:30 the best place to do it is here. And that's for a number of different reasons. One, One of those reasons is that we've got an incredible electric grid. It has its warts, Urquot outage this year, and it has its political warts where state representatives from my beautiful state of New York are concerned. But at the end of the day, like, our ability to deliver energy across this country is a modern marvel. It has challenges, but we deliver power with more reliability to 340 or 50 million people every day, which is just it's an astound.

Starting point is 00:44:04 feet of engineering. And we've designed that system in such a way where there are huge pockets of overengineering that are begging for revenue enhancement in the form of a Bitcoin mining power relationship. You layer into that that we are still the best place to form capital. We're still the best place, you know, to protect property rights and take, you know, and take a bad after to court. We're the, you know, the ideal business environment for Bitcoin mining as far as I'm concerned. And And we've got a lot of runway before that thesis is maximized. So we are heavily, heavily invested in the future growth of Bitcoin mining in the U.S. We think this is the place to do it.

Starting point is 00:44:43 We've had conversations with half a dozen other countries that are really exciting places to also mine Bitcoin. And we haven't been convinced that that's a better place to do it. That being said, El Salvador, other areas of South America that have truly abundant sources of energy are really, really good electrical priced places. Let's take a quick break and hear from today's sponsors. No, it's not your imagination. Risk and regulation are ramping up, and customers now expect proof of security just to do business.

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Starting point is 00:48:32 Like, where are we at with something like that? My guess is that they're able to get it for two cents or lower. Wow. And I haven't talked to anybody from El Salvador and asked them for a power purchase agreement. This is pure speculation. But I think that there's a number of different countries in South America, geothermal hydro, as the two sources in particular, where I think the sub two cent power is probably So when we fast forward 10 years into the future, 15 years into the future, these locations that

Starting point is 00:49:00 have these naturally occurring just abundant, ridiculously abundant energy. I mean, these are going to be the hubs. These are going to be the financial hubs of where Bitcoin is distributed at a geographic location of where those coins are going to initially flow into. Now, whether the ownership is of the business that owns them is there where the hardware is located is maybe not necessarily going to be the case. But as far as the location where the hardware is at, that's going to be it, correct? It is correct. Over time, you know, I think of Bitcoin mining is basically like a giant egg crate. And you basically throw a glass of water under the

Starting point is 00:49:40 egg crate. And if you give it enough time, the water settles at the lowest points in the egg crate. That's where the miners will end up in the long term, in the steady state. The scenario you introduce is actually game theoretically very interesting. There's a huge premium right now on mining the soonest Bitcoin, not necessarily mining for the longest, where in 10 years, there's many fewer bitcoins available to you per megawatt hour of energy purchased or per terra hash unit contributed to the network. And so, in our opinion, time premium is actually bigger than Mark. marginal energy cost premium at the edges. That doesn't mean go buy seven cent power for us.

Starting point is 00:50:26 But it also speaks to the regulatory vulnerability being probably one of the biggest factors right now in the near term as you're thinking about capturing as many coins as possible in the near term versus in the future. It's everybody's going to allow it because they'd be crazy not to as they're trying to compete with this global money that's made its way through the entire global economy. Exactly. Interesting. The thing with Bitcoin is that it's pretty easy or not easy.

Starting point is 00:50:56 It is reasonable to predict the 20-year future. It is utterly impossible to predict the two-year future. Talk to us about, I don't know how familiar or well-versed you are on this, but Blockstream just came out with a note that's associated with their mining. And this was in order to raise capital so they could buy hardware, buy infrastructure, and then the amount of coins that are being mined with that hardware, because it's tied to the hashashing power, like whatever amount that you buy the Note 4 has an associated hashing amount that comes with it.

Starting point is 00:51:29 And then whatever Bitcoin they were able to mine with that over a three-year period of time, you're able to collect that in Bitcoin. You're going to receive that back as your coupon. This seems like a really, really innovative way to kind of structure the cost of hardware and also kind of structure the operational risk, all of those things all kind of wrapped into this really unique financial instrument. And I'm kind of curious if you're seeing other businesses that are looking at doing something similar to this or just kind of your thoughts in general on that type of vehicle. There's two financial products wrapped up into one in your question.

Starting point is 00:52:05 One of them is how to miners reliably engage in capital formation to buy hardware that's really expensive. These are not a traditional BC backed business. We certainly are. I think we'll achieve sort of BC backable returns, but because Bitcoin does have to work and we do have to work. And so as long as as long as that relationship exists, you know, it's a weird, we're a weird business. You know, really what we're best fit for is like a bunch of project finance, but that doesn't really exist at maturity yet because the pricing of the future Bitcoin cash flows isn't seen as as safe enough, I think. In a lot of capital market. So I think that what Blockstream is doing, A, is really good for the investors. I think

Starting point is 00:52:47 people taking on mining risk and receiving their coupon in Bitcoin is awesome. I think it's really valuable. It's an exciting financial product. So they're solving capital formation in an interesting way. The other instrument that they're in the process of solving for is how do I hedge difficulty and how do I hedge Bitcoin price? And there have been a lot of swings at this that a bunch of different people have taken, but, you know, really what people want to do is they want to be, and I'm speaking from the perspective of the minor, is they want to be long difficulty and they want to be short Bitcoin price. I need to wrap my head around that.

Starting point is 00:53:27 They want to be long difficulty and short Bitcoin price. A miner's natural position, I buy rig, I plug in rig, I mine Bitcoin. You're short difficulty because your Bitcoin yield goes up when difficulty goes down, so you're naturally short it, and your long Bitcoin because your ASIC is correlated to Bitcoin and your revenues are obviously Bitcoin-denominated. So the way you hedge that is with a product that gets you long difficulty and short price. I gotcha. Your returns aren't going to be nearly as good as just buying the underlying, but if you're looking for something that removes the volatility, out of Bitcoin, you're going to achieve it through owning something like this, but it's going to be at a lower return.

Starting point is 00:54:14 Exactly. And so ideally, this would be a product that you would be able to roll out for whatever percentage of your cogs, your business needs to achieve reliably. And then it's about how much of a haircut are you willing to take to achieve stability on your cogs? Got it. Got it. Got it.

Starting point is 00:54:34 Hey, so we had a question on Twitter. A person was asking, what's the hottest topic right now in passive cooling and where the technology is heading to? Yeah. I mean, this is a very technical question. It's a very interesting one. But the question is really, what is the best way to design a Bitcoin mining facility? Right. Like that's really what's being asked here.

Starting point is 00:54:58 It's being asked around, you know, how do you cool? And there's sort of a two-prong school of thought, which is air cool versus a bit more versus liquid cool. We think that air cooled can really work effectively, but not everywhere. So we're seeing a ton of machines come online in Texas from a lot of different operators. And there's certainly areas within the ERCOD grid within West Texas that needs liquid cool, immersion cooling, you know, to function effectively. And so our expectation is that that's going to be an area of growth. We're excited about where it's headed, you know, but we want to make sure, you know, we want to make sure to be part of the group that gets it right, not that tries to get it early.

Starting point is 00:55:38 It just shows, I think the question really kind of demonstrates to people just how complex all of the considerations that you have to make as you're trying to allocate the free cash flows of your business while constantly offsetting them with just the price of Bitcoin and retaining your earnings in Bitcoin. Right now is a perfect example where the price, we just had the price get down to like 30,000 now. I'm looking at the price right now. Evidently, it just went up to 40,000. It's, yeah, I see your eyes kind of just lit up. It's back to 38. Like the thing's all over the place, right? It's so volatile. And you're trying to get that timing right of like this, this precious thing that you're mining and you're trying to retain at all costs, but you also want to

Starting point is 00:56:23 keep buying more rig so that you can get more of this stuff. And that equation is anything but simple, especially when you're talking about like, well, so what does the cooling get you as far as being able to run the machine harder? And I mean, oh, my Lord, it's just so complex. It's amazing. And the beauty of this business is, and part of this is, you know, what you just described is why I have so much respect for anybody operating mining at scale is just that there are no experts yet. The most expert people have been around for four, five, six years. what other business has the most seasoned veterans with five years experience? Yeah.

Starting point is 00:57:02 Nobody. Nobody. Nobody. You know about sort of how the history of airplanes. Wouldn't the airplane industry look like five years in relative to today? Relative today. Yeah. People pedaling.

Starting point is 00:57:14 Yeah. And we're there. So my perspective is that like that truly mature industrial scale future proof Bitcoin miners are. getting forged today, but that operations don't look like that yet. You know, there's a, there's a tremendous amount of money to be made. There's a tremendous amount of capital formation required to do it, but that, you know, the people operating these businesses successfully are really, really, really, really special. And that's not me. That credit on our team goes to the

Starting point is 00:57:43 engineering folks, goes to the, you know, the people writing, you know, all of this proprietary software, running all of this, this, you know, detailed analysis around hardware and mechanical engineering. This is a deeply technical business and we're lost without them on our team. I really like this question. A person asked, easiest method to shill BTC to state grid operators. No megawatt goes unsold. So with that, I love that. How do you involve the bigger players in energy production like GE, Mitsubishi, Siemens?

Starting point is 00:58:19 How do you start to get them more involved and more excited about this? because, I mean, that's the sell, like you said, what was it, three or four words? The sell is like, show me a detail breakdown of every hour in the last five years and the price you sold it for. And all the ones where you didn't sell them, you got to be honest and cop to it. So look at those revenues and compare that to a 1% energy mix allocation to Bitcoin mining. And what does that do for financial returns? It's ridiculous. Yeah, especially if you drop it on their balance sheet at the price that they mined it.

Starting point is 00:58:52 Exactly. Exactly. Yeah. That's the thing. Like, you know, the detractors to Bitcoin and Bitcoin mining just aren't running the numbers. Like, this is a ridiculously valuable business. And it's, you know, and the reason that it's so exciting is it's so transferable conceptually to massive infrastructure across other areas of the grid, of energy generation, of utilities, of, you know, all the ONG stuff that's going on. So the sell for Bitcoin to a hedge fund is pretty easy. The sell for Bitcoin mining to an energy operator should be easier. But you're saying it's not? Because it's, you know, at least with a, to me, it's like the same thing that we just talked about with the way that Mike Saylor is able to enact his capital formation Bitcoin allocation strategy versus why a miner can't do it as easily. There's operational risk.

Starting point is 00:59:49 There's business risk. There's volatility risk. that's harder to tolerate in our business. And that's why we sort of have levered upside to the underlier. We get paid for it. Do you see them coming around? Has the conversation gotten easier in the past year it has? We get inbound at this point.

Starting point is 01:00:06 Oh, that's awesome. I think that there's a gap in between people saying, we're ready to mine Bitcoin directly to our balance sheet versus, hey, can we develop a relationship with you grid, the Bitcoin miner, to better optimize our energy? revenues. So we're still living in the we generate and sell power and we're living in the world of we buy power. That's still the nature of the relationship rather than the energy producer saying, hey, how do we get the ground or balance sheet? And how do we use mining to do it? So we're not there yet. But I think that the, you know, the conversation around what role does the Bitcoin

Starting point is 01:00:41 miner play within a stable, reliable, high uptime grid? That has changed dramatically. And we've been, And we've been at the forefront of that. So when we think about how to make Bitcoin mining work in the U.S., we spend a massive amount of time investing in our energy relationships, and those investments have paid off massively. We love working deeply with energy partners, and we think that it's at the core of everything we do. All right. Harry, it's hard for me to believe that we've been talking for an hour already, because that went super fast. My last question is for you to pull out your crystal ball here, and everyone wants to know when you think the hash rate is going to reach a new all-time high.

Starting point is 01:01:23 And then I'll tell you what my guess is after this. And then when we're both wrong, probably everyone can tease us. Yeah. Let's hear it. Fair. I think that we see new hash rate all-time high. Let's just be specific. Does that mean 180x a hash?

Starting point is 01:01:39 Yeah. If that's whatever the high was before, then yes. I don't even know what it was. And here I am guessing. Let's use the data. I'm looking at a seven-day average over the last year. The peak on the seven-day average was 179.3. I think we returned to that in 10 months.

Starting point is 01:02:03 All right. I was going to say Christmas Day, but now you got me concerned because you're a little bit further out there than me. You're biasing my original guess. All right. I'll say Valentine's Day, 2022. We'll see what happens. Okay. I'm with you.

Starting point is 01:02:19 I think it's going to take a lot of time for this to come back online, everything that was shut down in China. So it's almost like you have to rebuild all that has occurred. And when you look at how far it's come down, I mean, that took a year from where to build to where we got to. That was like a year of building hash rate. So yeah, it's going to be interesting to see how long this takes. And I know there's a lot of people that are interested in knowing when the price is going

Starting point is 01:02:45 to recover back to the previous all-time high. But I'm pretty sure we're going to get there faster than the hash rate recovery. But who knows, we'll find out. Any highlights or anything, any articles that you read that were really interesting or anything that you want to point people towards here at the end? I think that the industry really benefits from more people who are fluent around energy. And so there's a great book that's out there right now call, and I promise no affiliations called The Grid One-I. It's by Gretchen Bach, after the colon is the fraying wires between Americans on our energy future.

Starting point is 01:03:22 And I think that even if some of your listeners are not all the way bought into Bitcoin, which I don't know after listening to you how they wouldn't be, but we all have a huge vested interest in high reliability, high stability, energy being available to us. It's integral to everything we do. It's part of leading sort of a modern high-quality life. And so getting more informed around how energy is created, how it's transmitted, and how it gets consumed is just a really, you know, I think it's sort of a fundamental, you know, sort of coherence building block for the modern conversation around energy, which is, which is bigger than Bitcoin for now. But I think Bitcoin plays a vital role in that conversation going forward. Awesome. Awesome recommendation. I'm going to pick that up. People, if they, if you want to find Harry, I'm going to have a link in the show notes to his Twitter. What is the handle on Twitter? Harry. It's Harry underscore Sudok, S-U-D-O-C-K. I welcome all resumes.

Starting point is 01:04:19 Ha-ha. Well, there you go, folks. If you're interested in working with Harry, make sure you guys follow him on Twitter. And we're also going to have a link to the book recommendation there as well. And Harry, with that, thank you so much for coming on. I always enjoy these chats. Awesome, Preston. I appreciate it. Thank you. Hey, so thanks for everybody listening to the show. If you enjoyed the conversation, be sure to subscribe to the show on whatever podcast app you're using. We really appreciate that. And if you have time, leave us a review. So thanks for joining us this week and we'll catch you next Wednesday. Thank you for listening to TIP. To access our show notes, courses or forums, go to theinvestorspodcast.com.

Starting point is 01:04:59 This show is for entertainment purposes only. Before making any decisions consult a professional. This show is copyrighted by the Investors Podcast Network. Written permissions must be granted before syndication or rebroadcasting. I don't know.

We Study Billionaires - The Investor’s Podcast Network - BTC036: Bitcoin Mining Update w/ Harry Sudock (Bitcoin Podcast)

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