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Dive deep with us we explore whether ETC or Ethereum PoW will help to bail the Ethereum Miners out of the dilemma they would face after The Merge.

Bybit Insights

With The Merge just around the corner, a 

 Chinese Ethereum miner, Chandler Guo, called for a hard fork of Ethereum, which will continue to adopt proof-of-work (PoW), and thus diverging from the proof-of-stake (PoS) model upon The Merge. The hard fork, dubbed Ethereum PoW (ETHW), is essentially a post-Merge continuation of the PoW Ethereum Mainnet after removing the difficulty bomb, and perhaps 

Ethereum PoW came into the limelight and prompted widespread discussion on whether incumbent players might support post-Merge Ethereum PoS (ETH2) or Ethereum PoW. As the saga evolves, a few centralized exchanges have started offering ETHS tokens for ETH2 and ETHW tokens for Ethereum PoW. 

Diving deep into the emergence of Ethereum PoW, it seems that this fork stems from Ethereum miners who are fighting back. With the shift to PoS looming, Ethereum miners risk losing lucrative profits they used to gain from mining activities. The meteoric progress of The Merge caught miners off guard, as HIVE Blockchain (HIVE) initially predicted 

 when Ethereum mining becomes financially unattractive.

Besides forking Ethereum PoW, miners may choose other GPU-mineable PoW chains, including  Ethereum Classic (ETC), to compensate for revenue loss.

Against this backdrop, in this report, we explain miners' dilemma after Ethereum turns to the PoS model, revealing their intentions behind forking the Ethereum PoW. Following this, we explore whether ETC or Ethereum PoW will help to bail them out of the dilemma. 

Miners’ Role and Dilemma Following The Merge

Despite its low throughput and emergence of various so-called “Ethereum killers”, Ethereum’s dominance in DeFi and NFTs is tenable thanks to its superior security. The security partly derives from its PoW model, where myriads of miners process on-chain transactions in return for transaction fees and coin rewards. 

Miners run mining rigs (consisting of chips and other configurations) and connect them to Ethereum nodes, adding blocks of transactions to Ethereum while consuming significant electricity. Due to the design of mining algorithms, most miners adopt GPUs, and the ones with more substantial computing power (hashrate) are more likely to process the next block of transactions.

Miners have invested in many new mining rigs, contributing to spiraling hashrate in the past two years. With The Merge dissipating the craze, the huge investments and expected revenue loss began to bog down miners’ financials.

Percentage of Transaction Fee as of Miners’ Total Revenues

Source: Glassnode (data as of Aug. 3, 2022)

Mining has been a lucrative process in the past two years, with average daily revenue amounting to 25K ETH. Miner revenue consists of transaction fees and coin rewards. After The Merge, those processing transactions would be validators instead of miners, which in turn leads to miners losing most coin rewards and, should they choose to join the ranks of validators, only sharing transaction fees with other incumbent validators. 

In addition, as on-chain activities on Ethereum wane, fee transactions as a percentage of total miner revenue continue to fall below 10%, suggesting that miners will have lost at least over 90% of pre-Merge mining revenue. 

The emergence of Lido and other liquid staking providers lowers the threshold for an average user to earn validating rewards, thus putting further pressure on the already declining mining revenue. More validators mean fewer rewards for each miner.

Source: HIVE annual filings, Bybit Estimate

(Note: around 80% and 50% of HIVE’s mining revenue is from Ethereum for the year ended March 2021 and March 2022, respectively. We neglected the impact of Bitcoin mining on its profitability)

With respect to investment returns, becoming a validator post-Merge is still not as lucrative as mining. Despite the fact that Ethereum's higher hashrate signifies increasing competition, HIVE's ROIC still maintained a rate close to 50% as a result of skyrocketing Ether prices. As such, large miners may refuse to become validators because the validating return is not up to par. 

Valuable mining rigs will become obsolete after The Merge. From the graph above, the hashrate more than tripled in 2021, revealing a slew of mining rigs added by miners during the period. If The Merge happens in September, the added new rigs will have only served for 1-2 years. With an estimated useful life of 2-4 years, those mining rigs will become idle if miners cannot figure out how to repurpose them.

You may wonder why miners do not sell GPUs to contain the loss. This is because GPUs purchased in 2021 were at more than a 50% premium from their retail prices; however, now that the premium is almost gone, it spells a potential 35-70% realized loss.

Following The Merge, uncertainties in income streams would complicate cash flow management. Take HIVE as an example; the mining company has spent significantly on capital expenditures and raised remarkable debt or equity financing in the past two years. The uncertainties in Ethereum mining will put pressure on the future operating cash flow, and miners may not be able to recover their earlier investments and fundraising.

More notably, most mining companies have outsized purchase commitments, e.g., $65M for HIVE, to buy additional mining rigs. Hence, miners would feel obligated to receive a return on their investments on the rigs, which adds a burden to miners after The Merge is completed.

Miners would have to seek alternative income sources to compensate for revenue loss, repurpose obsolete GPUs, and manage their cash flow carefully. The immediate solution suggests using GPUs to mine other existing PoW chains or the possible Ethereum PoW that went viral recently. 

Finding a Safe Haven in Alternative GPU Mineable PoW Chains

Since GPUs will become obsolete in the Ethereum ecosystem following The Merge, Ethereum miners would have to repurpose them for sustainable income and cash flow. The immediate alternative is to mine other GPU-mineable PoW chains, including ETC, RVN, and ERG, among others. 

Source: WhatToMine, CoinMarketCap (data as of Aug. 8, 2022)

Unfortunately, mining revenues from other GPU-mineable chains do not live up to the revenue gained from mining ETH. The above table reveals that the daily mining revenues from other GPU mineable coins are nowhere close to Ethereum. Despite taking the second spot, ETC trails far behind ETH. Notwithstanding the fact that ETC jumped 270% from its lows in June due to speculations, ETC mining revenue may still be lower if the token price normalizes.

Source: WhatToMine (data as of Aug. 3, 2022)

To further illustrate the impact of miners migrating to ETC 

, we perform the below calculation. With one RX 480 GPU, daily ETC mining revenue is $0.61. As the ETH hashrate is 29 times that of ETC, the daily mining revenue is estimated to drop to $0.02 if all Ethereum miners migrate to ETC. We estimate a 0.15/kWh energy cost, equivalent to an everyday energy bill of $0.5. With the above numbers, miners may incur a daily loss of $0.48 per GPU. Barring an exponential jump in market capitalization, ETC would not be a haven for Ethereum miners.

Source: BitInfoCharts, DefiLlama (data as of Aug. 3, 2022)

In totality, it seems that without any radical changes, Ethereum Classic or any other GPU mineable chains will fail to provide a haven for miners to repurpose their GPUs while generating sufficient returns. 

Can Ethereum PoW Turn the Situation Around?

If the mining revenue of Ethereum PoW wants to match that of pre-Merge Ethereum, ETHW token price has to be higher than ETC and, hopefully, a higher fraction of ETH.

As of the time of writing, the market capitalizations of ETH and ETC are at $207B and $5B, respectively. We will discuss the intrinsic value of ETHW in reference to that of ETH and ETC based on the following assumptions:

Is Ethereum PoW Worth More Than Ethereum Classic?

Despite the underlying blockchain of Ethereum, Ethereum POW, and Ethereum Classic being the same, the value of ETH, ETHW, and ETC differ. Since Ethereum Classic separated from Ethereum in 2016, they missed the DeFi Summer and NFT developments, which contributed to the lagging developer and user activities on Ethereum Classic. Comparatively, Ethereum PoW will be a fork of the existing state of Ethereum. Hence, with web3 infrastructure and dpps built in the past few years, it seems that ETHW could potentially be more valuable than ETC should Ethereum miners jointly support this new hard fork.

In addition, should the miners band together in support of the new fork, Ethereum PoW may cannibalize on Ethereum Classic due to their similar nature — Ethereum forks without a plan of shifting to PoS. As there is no widespread consensus and cooperation among miners to build Ethereum PoW, Ethereum PoW would likely 

 its small community even further. As we look to the future, there may possibly be newer forks that could dilute the value of the incumbent PoW hard fork.

Ethereum PoW’s Valuation Relative to ETH2

Developer and user activities are essential to create value for a blockchain. From the perspective of DeFi and NFTs, we will explore the valuation of Ethereum PoW compared to ETH2.