Kodak has long made profits from licensing out their brand to third party companies. Scrambling to stay relevant as the poster child for not adapting to technological sea changes, they have recently expanded their brand portfolio to blockchain companies to great success; at the time of writing KODK is up 275% from $3.05 to $8.40 in a week. While KodakCoin is being lauded as a strategic pivot, Kodak’s Bitcoin cloud mining offering is not only a poor investment, it is most likely illegal. Lending their brand to this scheme calls into question Kodak’s understanding of blockchain, the soundness of their strategy, and therefore the justification for this recent rise in stock price.

Let’s look at the contract mining scheme

Source [1]

Here’s the gist — you pay Kodak $3400 and receive 50% of the return generated by the machine. Spotlight Energy of California — the third party company borrowing Kodak’s brand — covers all other expenses including import duties and shipping, maintenance and operational costs including electricity and assumes all responsibility for repair of the machines[2]. A flyer distributed at CES (seen above) handily lists the payouts in USD terms and shows you that “$9125 divided by $3400” yields a 268% return on capital for the unit, and generously offers half (134%) to the subscriber. Payments are then delivered through a “joint account” on Coinbase, and the contract term is for two years.

Here are 4 Major Red Flags with this proposition:

While many balk at the price of the unit, there’s actually nothing wrong with the upfront cost, it might even be generous. As of early January, average price on the secondary market for S9s (and yes, these are S9s) is upwards of $5500. The real issue? The subscriber does not own the unit. It’s all downhill from this crucial point. If you don’t own the unit, then what exactly is the $3400 paying for? How do you know there’s a unit at all and it’s not a Ponzi scheme? This is the classic conundrum of cloud mining. Without separation of machine ownership and machine payouts, this would indicate that this contract is a financial security and thus subject to all of the rules and regulations governing issuance of securities. Money is being put down with the expectation of future cashflows — which by the rules of the Howey Test — is money investment as a common enterprise. Compare this to other offerings that will sell equipment and separately provide a home for them. In this case, it’s not the position of the stable to guarantee your horse’s success in the race. With Kodak, you can’t decide to re-house your machine if you’re not happy with the service; you are at the behest of the contract issuer to continue to disburse payments to you. They are inherently coupled.This actually resembles a floating rate bond or a floating leg of a swap (with a large upfront negative notional) that pays out 50% of the yield from an Antminer. An investment bank would need to be consulted to issue said securities, and a corporate law firm retained to structure the SEC filings. Under the assumptions that these steps have and will not be taken, I posit that this endeavor is quite possibly illegal. The payoff structure is calculated linearly. I’ve written at length about the limitations of linear models, but as this is being marketed as a set of cashflows to be returned for an upfront payment, this can be considered somewhat negligent and misleading to investors as those “potential” profits are being included in marketing material. If you want a more accurate projection, there are better projections available than “$25 x 365”. Now this could be played off as a harmless mistake, except that the fine print of the pamphlet explicitly says “**Based on $14,000 Bitcoin value”. If you hold the price fixed, and mining hash rate is obviously set to increase, then payments cannot by definition remain the same. Bitcoin would have to appreciate in value with respect to the USD for payouts to remain consistent. This is either negligent, or intentionally deceptive information. Finally, it never really specifies what currency you’re being paid out in. If you’re being paid out in USD, then the above three items cover the major issues with the contract. However if you’re being paid out in Bitcoin (why else use Coinbase?) then Kodak is acting as a foreign exchange. At the very least they would require to be registered as money transmitters to engage in the act of exchanging USD for a non-domestic (in this case crypto-) currency.

So what’s really going on here?

“Kashminers” are Antminers. You could do some photo forensics and tell if it’s just photoshopped[3] but given our warehouses full of machines I feel pretty confident in being able to identify miners in the wild. So it’s a Bitmain unit with a sticker on it. Where is Kodak receiving the machines from?

There’s been news that China is likely moving to end domestic Bitcoin mining. Now before international miners rejoice, let’s consider a few facts. The way business works in China is that business are independent of the government, until they aren’t. Those miners aren’t going offline permanently, they’re just being relocated. Perhaps the existing supply of the Bitmain longhouses are are finding a home in Rochester with a Kodak sticker on the side, resold to investors with the above contract terms.

Or perhaps this is Kodak’s plan to repurpose their Rochester power plant. The RED-Rochester plant was just recently reconfigured from coal to natural gas. If the plant isn’t running at maximum utilization, this would be a wise synergistic move to convert that unused capacity to proof of work.

Perhaps most likely, and most disappointingly, Kodak’s executives simply chose a project out of a hat to foray into the world of cryptocurrency without any understanding of the pros/cons or even a basic understanding of the project.

What could have been…

The KodakCoin idea is a great one. It fits nicely within the mandate of Kodak to tackle the issue of establishing intellectual property ownership rights of images on an immutable blockchain. However, to release both at the same time and not make them separate is deliberately misleading and discouraging to see a good idea commingled with such a bad (or at least ill-thought out) one.

Now, if Kodakcoin is to be mined with SHA-256, then the ecosystem works and Kodak could have among the most innovative cryptocurrency strategies in the corporate world. A company could invent a blockchian protocol to be supported by specialized mining infrastructure. Machines could be manufactured and even hosted for interested parties — the issuing company could absorb the manufacturing and upfront risks associated with development of mining hardware and the initial implementation to ensure stability as the network effect takes hold. This could then be sold off to mitigate mining risk and decentralize the currency.

But alas, as this article was being written, it came to light that Kodak is already pre-selling KodakCoins. The optimism was nice while it lasted.

If executed properly, this could have been the come-back-kid story of the decade for Kodak, but instead it appears that yet another corporation is tying their name to blockchain projects with little to no due diligence, or worse yet, understanding of how the nascent paradigm works. Instead, as one like-minded blogger aptly put it, it appears Kodak wants to go out with both a figurative and literal dumpster fire.

Disclosure: I own no direct positions in Kodak. It’s possible it’s buried, or even nested, in a fund held in my 401k. I did once look into taking some sort of short position in municipal bonds issued by the city of Rochester to capitalize on the impact Kodak’s dissolving would have on the city that grew around it. Apparently not just anybody can have Credit Default Swaps issued for them.

[1] ^ It seemed especially prescient to attribute the sources of images in an article that covers KodakCoin

[2] ^ This is required of them as per the Bitmain terms of service. More on that later…

[3] ^ Another possible application of KodakCoin?