“The downgrade reflects our view that weakened trading volumes in the aftermath of FTX’s collapse will continue to pressure Coinbase’s profitability,” S&P said, adding that the sector also faces heightened regulatory risks.
The failure of FTX Trading Ltd. amid allegations of fraud “has severely hit the crypto industry’s perceived credibility,” causing a drop in retail investor interest in the sector, which has resulted in a sharp drop in trading volumes at other platforms, including Coinbase, S&P added.
“Coinbase’s revenues depend heavily on trading volumes, with transaction revenues representing approximately 80% of total revenues in the first nine months of 2022,” it said.
In the face of revenue pressures, Coinbase has slashed its workforce in an effort to reduce its operating expenses. But those cuts will only partially offset Coinbase’s revenue decline, “in the absence of a meaningful uptick in retail engagement,” S&P warned.
The rating agency noted that its negative outlook on Coinbase’s ratings “indicates continued uncertainties about the depth and duration of the crypto market downturn, insufficient visibility around the path of trading volumes following the collapse of FTX, and heightened regulatory risk.”
Earlier this month, the company’s U.S. subsidiary was sanctioned by the New York Department of Financial Services (NYDFS) for compliance shortcomings. In a settlement with the regulator, the firm agreed to pay US$50 million in penalties, and to invest another US$50 million to beef up its controls.
“The consent order agreement is credit negative for Coinbase because it sheds further light on the regulatory costs of conducting a digital assets business and the additional efforts needed to bolster its compliance functions even after its significant investments and hiring over the past few years,” Moody’s Investors Service said in a report.
While the compliance issues at Coinbase pre-dated the FTX debacle, Moody’s predicts the FTX failure will “slow crypto adoption and mute user activity at Coinbase.”
Yet, despite the negative effect on revenues, “slower crypto adoption could be an opportunity for Coinbase to focus on bolstering its compliance program,” it said.
