Ethereum Q2 Data Analysis: Gross Profit of $700 Million, ETH Burn Rate Increased from 0.3% to 0.8%

Written by: SAM ANDREW

Compiled by: Deep Tide TechFlow

What kind of company would Ethereum be if viewed from a corporate perspective?

In Q2 2023, there were 340,000 daily active users, with gross profits equivalent to $700 million (453,000 ETH), a gross margin of 84%, and net income equivalent to $420 million (227,000 ETH), representing a quarter-over-quarter growth of 187%.

Under strong network effects, the ETH burn rate accelerated from 0.3% to 0.8%. The successful implementation of the Shapella upgrade did not lead to an ETH sell-off, and indicators across the Ethereum ecosystem (including L2) are experiencing comprehensive growth.

This article is an unofficial data report on Ethereum for Q2 2023, primarily analyzing and commenting on the following aspects to provide a comprehensive understanding of Ethereum's operations and financial situation from a data perspective.

1. Ethereum's operational metrics;

2. Ethereum ecosystem (including L2 metrics);

3. Ethereum's profit and loss statement;

4. Key impacts.

I. Q2 2023 Operational Metrics

Daily Active Users: The daily active users in Q2 were 340,588, a year-over-year decrease of 3%, showing improvement compared to approximately 10% in Q1 2023 and Q4 2022. In the first few days of July, the average daily active users decreased by 12% compared to Q2 2023. The decline in daily active users indicates a reduction in the number of people using Ethereum daily.

Average Daily Transactions: The average daily transactions were 1,046,592, a year-over-year decrease of 4%. Compared to the previous two quarters, the rate of decline has slowed. The average daily transactions have remained almost stable at -1%. The decrease in average daily transactions is due to the reduction in daily active users. The average daily transactions showed a downward trend in the first week of July.

Staked ETH: Staked ETH accounts for 17% of the total supply. The amount of staked ETH has increased by 58% year-over-year and by 13% quarter-over-quarter.

The Shapella upgrade was successfully executed on April 12, 2023. Contrary to some concerns, there was no sell-off of ETH after Shapella.

The amount of staked ETH continues to grow, but the growth rate has slowed. The weekly incremental amount of staked ETH has decreased before and after Shapella (see the chart below). Approximately 1.8 million ETH were staked in April, 4 million ETH in May, and 2.2 million ETH in June.

Price: The average price in Q2 was $1861, with ETH rising 55% year-to-date and 4% quarter-over-quarter. ETH experienced significant volatility during the quarter, dropping 22% from its peak to its lowest point before rebounding.

Total Value Locked (TVL): The TVL of ETH decreased by 41% year-over-year, and the downward trend is worsening. The TVL decline aligns with a 14% drop in Q1 2023.

II. Ethereum Ecosystem

The health of Ethereum is increasingly assessed through the status of its ecosystem, which includes its Layer 2 scaling solutions. Arbitrum, Optimism, Polygon zkEVM, StarkNet, and zkSync Era are used to determine the health of Ethereum's Layer 2. Activity has migrated to Layer 2, providing cheaper and faster transaction settlements. Evaluating the Ethereum ecosystem, including activity on both the base layer and Layer 2, presents a different picture. Daily active users (DAU) and average daily transactions in the Ethereum ecosystem are on the rise.

Since 2021, the growth of daily active users (DAU) on Ethereum has stagnated. Over the past year, the number of DAUs in the Ethereum ecosystem has grown from 400,000 to around 800,000 (see the chart above). However, the growth in DAUs in the Ethereum ecosystem does not necessarily mean more people are interacting within it. A more likely explanation is that a portion of Ethereum's DAUs have also become DAUs on Layer 2.

Data from Polygon PoS is not included in the Ethereum ecosystem. Polygon PoS is a sidechain of Ethereum. Users of Polygon PoS may gradually migrate to the Polygon zkEVM chain. Polygon focuses on the zkEVM chain, and this migration could benefit the Ethereum ecosystem. Polygon PoS has 360,000 DAUs, surpassing Ethereum's 300,000 DAUs. Ethereum's DAUs will not double after migration. A significant number of Polygon PoS DAUs are likely also Ethereum DAUs.

With the emergence of Layer 2, the number of transactions conducted by DAUs in the Ethereum ecosystem is increasing. Since the second half of 2020, the average daily transaction count on Ethereum has hovered around 1 million. Ethereum's transaction count is capped at about 1 million daily. Layer 2 has collectively added 2 million daily transactions. The total transaction count in the Ethereum ecosystem has nearly quadrupled over the past year (see the chart below). For every transaction on Ethereum, there are 2 transactions on Layer 2.

Polygon's PoS chain averages 2.4 million transactions daily. If these transactions migrate to the Polygon zkEVM chain or other Ethereum Layer 2s, it would nearly double the daily transaction count in the Ethereum ecosystem.

The average daily transaction volume across the entire Ethereum ecosystem reached 3 million in Q2 2023, up from 2 million in Q1 2023. The quarter-over-quarter growth rate of the average daily transaction volume in the Ethereum ecosystem accelerated from 17% in Q1 2023 to 50%. In Q2 2023, the average daily transaction volume in the Ethereum ecosystem grew by 139% year-over-year (see the chart below).

The average daily transaction volume in the Ethereum ecosystem is 3 million, accounting for 16% of the total daily transactions of programmable blockchains excluding Solana (see the chart below). Solana's transaction data cannot be directly compared with other chains. Solana executes 20 million transactions daily, making it one of the highest-performing blockchains. However, due to its very high transaction throughput and low fees, a significant portion of these transactions are spam transactions.

If Polygon PoS is taken into account, the Ethereum ecosystem's share of total transaction volume would double to about 30%. Excluding BNB and Tron, the Ethereum ecosystem holds a 60% market share in daily transaction volume. BNB and Tron are significantly different from other blockchains in this group, being more centralized.

III. Ethereum Profit and Loss Statement

Total Fees: The total fees in Q2 were 453,235 ETH ($843,470,335), a year-over-year decrease of 17%, with transaction fees down 13% and transaction volume down 4%. Total fees increased by 56% quarter-over-quarter. The quarter-over-quarter increase was due to a 57% rise in fees per transaction, while transaction volume decreased by 1%. Total fees represent the total cost users pay to process all transactions published on Ethereum. In traditional financial terms, this is the total revenue generated by the "company."

Gross Profit: Gross profit was 381,565 ETH ($710,092,465), with a gross profit margin of 84% for the quarter, meaning 84% of total fees were burned. Gross profit is often referred to as "network revenue." It captures a portion of the total fees accrued by token holders. Gross profit grew year-over-year compared to total fees.

Daily fees and gross profit (i.e., revenue) doubled in May (see the chart below). This increase was driven by the meme coin frenzy surrounding Pepe. Subsequently, fees and gross profit (i.e., revenue) returned to normal levels. Unless there is another one-time fee driver, fees are expected to decline quarter-over-quarter in Q3 2022. Compared to the average daily fees in Q2 2023, the average daily fees in the first week of July decreased by 27%.

Net Income: The net income for Q3 was 227,147 ETH ($422,720,567), with a quarter-over-quarter growth of nearly 3 times. The growth in net income was due to a 56% increase in total fees quarter-over-quarter. The quarter-over-quarter growth in net income demonstrates Ethereum's operational leverage. Ethereum's costs do not increase with the growth in total fees. While total fees increased by 56%, Ethereum's fixed costs (the cost of issuing tokens to validators) decreased by 5% quarter-over-quarter. As a result, net income grew by 187%.

Since the introduction of PoS, Ethereum has been profitable every quarter. The significant improvement in profits is due to a 90% reduction in the cost of issuing tokens.

Tokens to be Issued: The number of tokens burned by Ethereum in Q2 2023 exceeded the number issued. The number of tokens to be issued decreased from 120.45 million to 120.22 million. The net issuance of tokens (calculated as annualized net issuance divided by the initial balance) dropped from a low single-digit percentage to -0.8%. Ethereum increased the number of tokens to be issued by about 3% in 2022. Now, it has reduced the circulating token supply by about 1%.

IV. How to Interpret Ethereum's Profit and Loss Statement?

Total fees represent the costs users pay to publish their transactions on the Ethereum blockchain. Total fees include base fees and tips. Tips are passed-through costs paid to validators. Note that the tip item is the same number as the fees paid to validators. It is a variable cost that grows proportionally with usage. Users pay tips to prioritize their transactions.

Base fees are the costs users pay to process transactions. Note that the base fee number is the same as the gross profit number. Gross profit indicates how much money the Ethereum blockchain earns for processing its transactions (measured in ETH). It is sometimes referred to as "network revenue." The gross profit margin indicates how much of the total Ethereum fees are burned. Burned tokens will be removed from circulation. This is similar to a stock buyback.

The cost of issuing tokens is the fee paid to validators to maintain network security. This is a fixed cost that does not grow proportionally with usage.

Net income is the difference between base fees (i.e., gross profit) and newly issued tokens. Ethereum's net income for Q2 2023 was 227,147 ETH, meaning it collected 227,147 more in base fees than the newly issued tokens. Consequently, the number of tokens to be issued decreased by 227,147.

The more net income Ethereum generates, the more ETH is burned, and the fewer tokens are to be issued. The fewer tokens to be issued, all else being equal, the higher the value of each token.

V. Conclusion

a. The Surge in Total Fees in Q2 is Temporary

The surge in total fees in Q2 and the resulting token burn are temporary. It was driven by a one-time event—the meme coin frenzy. This surge lasted about two weeks. A poorer quarter-over-quarter performance is expected in Q3 2023.

b. Focus on L2 Solutions

The operational metrics of the Ethereum ecosystem, including Layer 2 scaling solutions, indicate a healthily growing network. In contrast, Ethereum's standalone operational metrics suggest stagnation. The growth of Ethereum is driven by Layer 2 scaling solutions. Their success is crucial for Ethereum. The upcoming implementation of EIP-4844 will have a significant impact on Layer 2 scaling solutions and Ethereum.

In the short term, the only way to increase Ethereum's fees is by raising the fees per transaction, i.e., higher gas prices. Currently, Ethereum's daily transaction count is capped at about 1 million. It is believed that Layer 2 transactions will grow significantly. Layer 2 transactions will be processed in batches as an input to the Ethereum base layer. The cost of an expensive Ethereum transaction will be shared among many Layer 2 transaction fee payers.

c. The Growth of Staked ETH is Slowing

Before and after the successful implementation of Shapella, the growth of staked ETH was rapid. The trend of slowing growth suggests that the amount of staked ETH may not grow as quickly as previously expected to exceed 50%. To reach a 50% staking ratio, an additional 40 million ETH would need to be staked. At the current rate of approximately 1 million ETH staked monthly, it would take 40 months or 3 years and 4 months to reach a 50% staking ratio.

For ETH stakers, this is not necessarily a bad thing. The lower the staking ratio, the higher the staking rewards paid to validators, thus increasing the ETH yield. The ETH yield is the sum of staking, rewards, MEV earnings, and the inflation or deflation of the token supply. The most economically attractive scenario is a low staking ratio, resulting in high staking rewards, high fees, and therefore high yields. The least economically attractive scenario is the opposite. The economic perspective is not the only parameter driving ETH value. The higher the staking ratio, the higher the security of the blockchain, theoretically leading to a higher ETH value.

The slowdown in the growth of staked ETH has led to poor performance for Lido and Rocket Pool. In this quarter, LDO and RPL fell by 17% and 18%, respectively, while ETH remained relatively stable. The slowdown in the growth of staked ETH, combined with the smaller scale of Rocket Pool's mini-pools, means fewer buyers for RPL.

d. Ethereum's Operational Leverage Leads to Massive Burn

Ethereum's profitability and burn mechanism are crucial. Ethereum has transformed a daily sell pressure of $22 million (at an ETH price of $1860) into a daily buy demand of $5 million, resulting in a difference of $28 million. This $28 million change is equivalent to 4.5% of Ethereum's market cap.

Ethereum's PoW model has two economic issues. First, Ethereum previously issued 17,000 tokens daily to miners, equivalent to an annual dilution rate of 5%. Second, it is estimated that 70% of these tokens were immediately sold to cover the high costs of mining. At an ETH price of $1860, issuing tokens to miners and subsequently selling them resulted in a daily sell pressure of $22 million.

The introduction of PoS and the burn mechanism have transformed the daily sell pressure of $22 million into a daily buy pressure of $5 million. Ethereum now burns (i.e., buys back) tokens worth $5 million daily, whereas it previously sold ETH tokens worth $22 million daily. The table below outlines the projected profit and loss statement from PoW to PoS.

Most people misunderstand Ethereum's operational leverage. Operational leverage is a traditional financial term used to describe assets where profit growth significantly outpaces revenue growth. The reason profits grow substantially is that operational costs do not increase while revenue does. Technicians often do not understand operational leverage. Traditional financial investors do not understand cryptocurrency.

The "projected" column in the above chart illustrates Ethereum's operational leverage. The projected column assumes total fees grow 5 times. A 5-fold increase in fees leads to a 9.9-fold increase in net income. When total fees increase, Ethereum's fixed operational costs, i.e., the cost of issuing tokens to validators, do not increase. The net result is that Ethereum's deflation rate increases by 9.9 times. Compared to the current deflation rate of 0.4%, when revenue grows 5 times, Ethereum will reduce the number of tokens to be issued by 4.2% annually. The buying demand will increase 5.2 times, from $5 million daily to $28 million.