Grayscale Ethereum Staking ETF: Form 10-Q for the period ended Jun 30, 2024

The following discussion and analysis of our financial condition and results of operations should be read together with, and is qualified in its entirety by reference to, our unaudited financial statements and related notes included elsewhere in this Quarterly Report, which have been prepared in accordance with generally accepted accounting principles in the United States (“U.S. GAAP”). The following discussion may contain forward-looking statements based on assumptions we believe to be reasonable. Our actual results could differ materially from those discussed in these forward-looking statements. Factors that could cause or contribute to these differences include, but are not limited to, those set forth under “Part II, Item 1A. Risk Factors” in this Quarterly Report, or in “Part I, Item 1A. Risk Factors” and “Forward-Looking Statements” or other sections of our Annual Report on Form 10-K for the year ended December 31, 2023.

Trust Overview

The Trust is a passive entity that is managed and administered by the Sponsor and does not have any officers, directors or employees. As of June 30, 2024, the Trust holds Ether and, from time to time on a periodic basis, issues Creation Baskets in exchange for deposits of Ether. On July 22, 2024, in connection with the approval of application under Rule 19b-4 of the Securities Exchange Act of 1934 and the effectiveness of the registration statement on Form S-3, as amended, the Sponsor authorized the commencement of a redemption program. Shares of the Trust began trading on NYSE Arca on July 23, 2024. The Trust issues Shares only in one or more blocks of 10,000 Shares (a block of 10,000 Shares is called a “Basket”) to certain Authorized Participants from time to time. Baskets are offered in exchange for Ether. Through its redemption program, the Trust redeems Shares from Authorized Participants on an ongoing basis. As a passive investment vehicle, the Trust’s investment objective is for the value of the Shares (based on Ether per Share) to reflect the value of Ether held by the Trust, determined by reference to the Index Price, less the Trust’s expenses and other liabilities. While an investment in the Shares is not a direct investment in Ether, the Shares are designed to provide investors with a cost-effective and convenient way to gain investment exposure to Ether. The Trust will not utilize leverage, derivatives or any similar arrangements in seeking to meet its investment objective.

Historically, and as of June 30, 2024, the Trust had not met its investment objective and, prior to their uplisting to NYSE Arca on July 22, 2024, the Shares quoted on OTCQX have not reflected the value of Ether held by the Trust, less the Trust’s expenses and other liabilities, but instead have traded at both premiums and discounts to such value, which at times have been substantial, although the Sponsor has observed that the Trust has begun to meet its investment objective more closely following the uplisting of the Shares to NYSE Arca. The Trust is not managed like a business corporation or an active investment vehicle.

Recent Developments

The ETH Trust Distribution

On July 23, 2024, the Trust completed its previously announced pro rata distribution of 310,158,500 shares of Grayscale Ethereum Mini Trust (ETH) (the “ETH Trust”) to shareholders of the Trust as of July 18, 2024 (the “Record Date”), as described in the Trust’s definitive information statement on Schedule 14C, filed with the SEC on July 18, 2024 (referred to as the “Initial Distribution”). In connection therewith, on July 23, 2024, the Trust contributed to the ETH Trust an amount of Ether equal to 10% of the total Ether held by the Trust as of the Record Date, equal to approximately 292,262.98913350 Ether, as consideration and in exchange for the issuance of shares of the ETH Trust.

Subject to the limitations and qualifications set forth in the Trust’s definitive information statement on Schedule 14C, filed with the SEC on July 18, 2024 (including with respect to the qualification of both the Trust and the ETH Trust as grantor trusts for U.S. federal income tax purposes and the proper allocation of existing tax basis between Shares of the Trust and shares of the ETH Trust), it is expected that neither the Trust nor any beneficial owner of the Shares will recognize any gain or loss for U.S. federal income tax purposes as a result of the Initial Distribution. Accordingly, it is expected that neither the Trust’s contribution of Ether to the ETH Trust nor the Trust’s distribution of shares in the ETH Trust to shareholders as of 4:00 PM ET on the Record Date will be reported to any beneficial owner of Shares (or to any intermediary holding Shares) as giving rise to income, gain, loss, deduction, credit or proceeds. Any beneficial owner of Shares who receives shares of the ETH Trust in the Initial Distribution, and any intermediary holding Shares of the Trust or shares of the ETH Trust, should consult their own tax advisor regarding the U.S. federal income tax consequences of the Initial Distribution, including the proper allocation of existing tax basis between Shares of the Trust and shares of the ETH Trust. Please refer to the Trust’s definitive information statement on Schedule 14C, filed with the SEC on July 18, 2024, for more information, including other U.S. federal income tax considerations relating to the Initial Distribution and ownership of shares of the ETH Trust.

Listing on NYSE Arca

On May 23, 2024, the SEC approved an application under Rule 19b-4 of the Securities Exchange Act of 1934, as amended, by NYSE Arca to list the Shares of the Trust. Shares of the Trust began trading on NYSE Arca on July 23, 2024, under the ticker symbol

“ETHE.” Shares of the Grayscale Ethereum Mini Trust (ETH) also began trading on NYSE Arca on July 23, 2024, under the ticker symbol “ETH.”

Commencement of Redemption Program

In connection with the uplisting of the Shares, the Sponsor authorized the commencement of the Trust’s redemption program in reliance on Regulation M exemptive relief available to similarly situated commodity-based exchange traded products.

Critical Accounting Policies and Estimates

Investment Transactions and Revenue Recognition

The Trust considers investment transactions to be the receipt of Ether for Share creations and the delivery of Ether for Share redemptions or for payment of expenses in Ether. As of June 30, 2024, the Trust was not accepting redemption requests. However, the Sponsor has since authorized the commencement of the Trust’s redemption program on July 22, 2024 in connection with the uplisting of the Shares to NYSE Arca. The Trust records its investment transactions on a trade date basis and changes in fair value are reflected as net change in unrealized appreciation or depreciation on investments. Realized gains and losses are calculated using the specific identification method. Realized gains and losses are recognized in connection with transactions including settling obligations for the Sponsor’s Fee in Ether.

Principal Market and Fair Value Determination

To determine which market is the Trust’s principal market (or in the absence of a principal market, the most advantageous market) for purposes of calculating the Trust’s net asset value in accordance with U.S. GAAP (“Principal Market NAV”), the Trust follows Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 820-10, which outlines the application of fair value accounting. ASC 820-10 determines fair value to be the price that would be received for Ether in a current sale, which assumes an orderly transaction between market participants on the measurement date. ASC 820-10 requires the Trust to assume that Ether is sold in its principal market to market participants or, in the absence of a principal market, the most advantageous market. Market participants are defined as buyers and sellers in the principal or most advantageous market that are independent, knowledgeable, and willing and able to transact.

The Trust only receives Ether in connection with a creation order from the Authorized Participant (or a Liquidity Provider) and does not itself transact on any Digital Asset Markets. Therefore, the Trust looks to market-based volume and level of activity for Digital Asset Markets. The Authorized Participant(s), or a Liquidity Provider, may transact in a Brokered Market, a Dealer Market, Principal-to-Principal Markets and Exchange Markets (referred to as “Trading Platform Markets” in this Quarterly Report), each as defined in the FASB ASC Master Glossary (collectively, “Digital Asset Markets”).

In determining which of the eligible Digital Asset Markets is the Trust’s principal market, the Trust reviews these criteria in the following order:

• First, the Trust reviews a list of Digital Asset Markets that maintain practices and policies designed to comply with anti-money laundering (“AML”) and know-your-customer (“KYC”) regulations, and non-Digital Asset Trading Platform Markets that the Trust reasonably believes are operating in compliance with applicable law, including federal and state licensing requirements, based upon information and assurances provided to it by each market.
• Second, the Trust sorts these Digital Asset Markets from high to low by market-based volume and level of activity of Ether traded on each Digital Asset Market in the trailing twelve months.
• Third, the Trust then reviews pricing fluctuations and the degree of variances in price on Digital Asset Markets to identify any material notable variances that may impact the volume or price information of a particular Digital Asset Market.
• Fourth, the Trust then selects a Digital Asset Market as its principal market based on the highest market-based volume, level of activity and price stability in comparison to the other Digital Asset Markets on the list. Based on information reasonably available to the Trust, Trading Platform Markets have the greatest volume and level of activity for the asset. The Trust therefore looks to accessible Trading Platform Markets as opposed to the Brokered Market, Dealer Market and Principal-to-Principal Markets to determine its principal market. As a result of the aforementioned analysis, a Trading Platform Market has been selected as the Trust’s principal market.

The Trust determines its principal market (or in the absence of a principal market the most advantageous market) annually and conducts a quarterly analysis to determine (i) if there have been recent changes to each Digital Asset Market’s trading volume and level of activity in the trailing twelve months, (ii) if any Digital Asset Markets have developed that the Trust has access to, or (iii) if recent changes to each Digital Asset Market’s price stability have occurred that would materially impact the selection of the principal market and necessitate a change in the Trust’s determination of its principal market.

The cost basis of Ether received in connection with a creation order is recorded by the Trust at the fair value of Ether at 4:00 p.m., New York time, on the creation date for financial reporting purposes. The cost basis recorded by the Trust may differ from proceeds collected by the Authorized Participant from the sale of the corresponding Shares to investors.

Investment Company Considerations

The Trust is an investment company for GAAP purposes and follows accounting and reporting guidance in accordance with the FASB ASC Topic 946, Financial Services—Investment Companies. The Trust uses fair value as its method of accounting for Ether in accordance with its classification as an investment company for accounting purposes. The Trust is not a registered investment company under the Investment Company Act of 1940. GAAP requires management to make estimates and assumptions that affect the reported amounts in the financial statements and accompanying notes. Actual results could differ from those estimates and these differences could be material.

Review of Financial Results (unaudited)

Financial Highlights for the Three and Six Months Ended June 30, 2024 and 2023

(All amounts in the following table and the subsequent paragraphs, except Share, per Share, Ether and price of Ether amounts, are in thousands)

(1) Net assets in the above table and subsequent paragraphs are calculated in accordance with U.S. GAAP based on the Digital Asset Market price of Ether on the Digital Asset Trading Platform that the Trust considered its principal market, as of 4:00 p.m., New York time, on the valuation date.

Net realized and unrealized loss on investment in Ether for the three months ended June 30, 2024 was ($633,884), which includes a realized gain of $53,774 on the transfer of Ether to pay the Sponsor’s Fee and net change in unrealized depreciation on investment in Ether of ($687,658). Net realized and unrealized loss on investment in Ether for the period was driven by Ether price depreciation from $3,637.95 per Ether as of March 31, 2024, to $3,423.00 per Ether as of June 30, 2024. Net decrease in net assets resulting from operations was ($695,324) for the three months ended June 30, 2024, which consisted of the net realized and unrealized loss on investment in Ether, plus the Sponsor’s Fee of $61,440. Net assets decreased to $10,015,786 at June 30, 2024, a 6% decrease for the three-month period. The decrease in net assets resulted from the aforementioned Ether price depreciation and the withdrawal of approximately 18,245 Ether to pay the foregoing Sponsor’s Fee.

Net realized and unrealized gain on investment in Ether for the three months ended June 30, 2023 was $291,139, which includes a realized gain of $26,999 on the transfer of Ether to pay the Sponsor’s Fee and net change in unrealized appreciation on investment in Ether of $264,140. Net realized and unrealized gain on investment in Ether for the period was driven by Ether price appreciation from $1,828.98 per Ether as of March 31, 2023, to $1,925.83 per Ether as of June 30, 2023. Net increase in net assets resulting from operations was $256,260 for the three months ended June 30, 2023, which consisted of the net realized and unrealized gain on investment in Ether, less the Sponsor’s Fee of $34,879. Net assets increased to $5,777,883 at June 30, 2023, a 5% increase for the three-month period. The increase in net assets resulted from the aforementioned Ether price appreciation, partially offset by the withdrawal of approximately 18,759 Ether to pay the foregoing Sponsor’s Fee.

Net realized and unrealized gain on investment in Ether for the six months ended June 30, 2024 was $3,372,665, which includes a realized gain of $99,554 on the transfer of Ether to pay the Sponsor’s Fee and net change in unrealized appreciation on investment in Ether of $3,273,111. Net realized and unrealized gain on investment in Ether for the period was driven by Ether price appreciation from $2,281.10 per Ether as of December 31, 2023, to $3,423.00 per Ether as of June 30, 2024. Net increase in net assets resulting from operations was $3,257,732 for the six months ended June 30, 2024, which consisted of the net realized and unrealized gain on investment in Ether, less the Sponsor’s Fee of $114,933. Net assets increased to $10,015,786 at June 30, 2024, a 48% increase for the six-month period. The increase in net assets resulted from the aforementioned Ether price appreciation, partially offset by the withdrawal of approximately 36,604 Ether to pay the foregoing Sponsor’s Fee.

Net realized and unrealized gain on investment in Ether for the six months ended June 30, 2023 was $2,193,202, which includes a realized gain of $48,793 on the transfer of Ether to pay the Sponsor’s Fee and net change in unrealized appreciation on investment in Ether of $2,144,409. Net realized and unrealized gain on investment in Ether for the period was driven by Ether price appreciation from $1,201.33 per Ether as of December 31, 2022, to $1,925.83 per Ether as of June 30, 2023. Net increase in net assets resulting from operations was $2,128,685 for the six months ended June 30, 2023, which consisted of the net realized and unrealized gain on investment in Ether, less the Sponsor’s Fee of $64,517. Net assets increased to $5,777,883 at June 30, 2023, a 58% increase for the six-month period. The increase in net assets resulted from the aforementioned Ether price appreciation, partially offset by the withdrawal of approximately 37,427 Ether to pay the foregoing Sponsor’s Fee.

Cash Resources and Liquidity

The Trust has not had a cash balance at any time since inception. When selling Ether in the Digital Asset Market to pay Additional Trust Expenses on behalf of the Trust, the Sponsor endeavors to sell the exact amount of Ether needed to pay expenses in order to minimize the Trust’s holdings of assets other than Ether. As a consequence, the Sponsor expects that the Trust will not record any cash flow from its operations and that its cash balance will be zero at the end of each reporting period. Furthermore, the Trust is not a party to any off-balance sheet arrangements.

In exchange for the Sponsor’s Fee, the Sponsor has agreed to assume most of the expenses incurred by the Trust. As a result, the only ordinary expense of the Trust during the periods covered by this Quarterly Report was the Sponsor’s Fee. The Trust is not aware of any trends, demands, conditions or events that are reasonably likely to result in material changes to its liquidity needs.

Selected Operating Data

(1) The Trust performed an assessment of the principal market at June 30, 2024 and 2023, and identified the principal market as Coinbase.

(2) As of June 30, 2024 and 2023, the Principal Market NAV per Share was calculated using the fair value of Ether based on the price provided by Coinbase, the Digital Asset Trading Platform that the Trust considered its principal market, as of 4:00 p.m., New York time, on the valuation date. Prior to February 23, 2024, Principal Market NAV was referred to as NAV and Principal Market NAV per Share was referred to as NAV per Share.

(3) The Trust’s NAV per Share is derived from the Index Price as represented by the Index as of 4:00 p.m., New York time, on the valuation date. The Trust’s NAV per Share is calculated using a non-GAAP methodology where the price is derived from multiple Digital Asset Trading Platforms. Prior to February 23, 2024, NAV was referred to as Digital Asset Holdings and NAV per Share was referred to as Digital Asset Holdings per Share. See “Item 1. Business—Overview of the ETH Industry and Market—ETH Value—The Index and the Index Price” in the Trust’s Annual Report on Form 10-K for a description of the Index and the Index Price. The Digital Asset Trading Platforms included in the Index as of June 30, 2024 were Coinbase, Kraken, LMAX Digital and Crypto.com. The Digital Asset Trading Platforms included in the Index as of June 30, 2023 were Coinbase, Kraken and LMAX Digital. See “Item 1. Business—Valuation of ETH and Determination of NAV” in the Trust’s Annual Report on Form 10-K for a description of the Trust’s NAV per Share.

For accounting purposes as of June 30, 2024, the Trust reflects creations and the Ether receivable with respect to such creations on the date of receipt of a notification of a creation but does not issue Shares until the requisite amount of Ether is received. On July 22, 2024, in connection with the approval of application under Rule 19b-4 of the Securities Exchange Act of 1934 and the effectiveness of the registration statement on Form S-3, as amended, the Sponsor authorized the commencement of a redemption program. Effective July 23, 2024, the date on which the Shares of the Trust began trading on NYSE Arca, the Trust reflects creations and redemptions and the Ether for proceeds receivable or payable with respect to such creations and redemptions, respectively, on the business day following the receipt of a notification of a creation or redemption order by an Authorized Participant. Creation and redemption orders can be settled on T+1 or T+2, as established at the time of order placement, therefore the Ether for proceeds receivable or payable with respect to such creations and redemptions, respectively, will be recorded as a receivable or payable until the Ether are delivered or removed from the Trust for settlement.

As of June 30, 2024, the Trust had a net closing balance with a value of $10,016,283,542, based on the Index Price (non-GAAP methodology). As of June 30, 2024, the Trust had a total market value of $10,015,786,118, based on the Digital Asset Market price of Ether on the Trust’s principal market (Coinbase).

As of June 30, 2023, the Trust had a net closing balance with a value of $5,781,783,736, based on the Index Price (non-GAAP methodology). As of June 30, 2023, the Trust had a total market value of $5,777,883,471, based on the Digital Asset Market price of Ether on the Trust’s principal market (Coinbase).

Historical NAV and Ether Prices

As movements in the price of Ether will directly affect the price of the Shares, investors should understand recent movements in the price of Ether. Investors, however, should also be aware that past movements in the Ether price are not indicators of future movements. Movements may be influenced by various factors, including, but not limited to, government regulation, security breaches experienced by service providers, as well as political and economic uncertainties around the world.

The following chart illustrates the movement in the Trust’s NAV per Share (as adjusted for the Share Split for periods prior to December 17, 2020) versus the Index Price and the Trust’s Principal Market NAV per Share (as adjusted for the Share Split for periods prior to December 17, 2020) from December 14, 2017 to June 30, 2024. For more information on the determination of the Trust’s NAV, see “Item 1. Business—Overview of the ETH Industry and Market—ETH Value—The Index and the Index Price” in the Trust’s Annual Report on Form 10-K.

The following table illustrates the movements in the Index Price from July 1, 2019 to June 30, 2024. During such period, the Index Price has ranged from $109.83 to $4,776.32, with the straight average being $1,703.32 through June 30, 2024. The Sponsor has not observed a material difference between the Index Price and average prices from the constituent Digital Asset Trading Platforms individually or as a group.

The following table illustrates the movements in the Digital Asset Market price of Ether, as reported on the Trust’s principal market, from July 1, 2019 to June 30, 2024. During such period, the price of Ether has ranged from $110.29 to $4,776.95, with the straight average being $1,703.36 through June 30, 2024.

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The following chart sets out the historical closing prices for the Shares as reported by OTCQX and the Trust’s NAV per Share from June 20, 2019 to June 30, 2024.

ETHE Premium/(Discount): ETHE Share Price vs. NAV per Share (Non-GAAP) ($)

The following chart sets out the historical premium and discount for the Shares as reported by OTCQX and the Trust’s NAV per Share from June 20, 2019 to June 30, 2024.

ETHE Premium/(Discount): ETHE Share Price vs. NAV per Share (Non-GAAP) (%)

The Trust Agreement does not authorize the Trust to borrow for payment of the Trust’s ordinary expenses. The Trust does not engage in transactions in foreign currencies which could expose the Trust or holders of Shares to any foreign currency related market risk. The Trust does not invest in derivative financial instruments and has no foreign operations or long-term debt instruments.

The Trust maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in its Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to the Principal Executive Officer and Principal Financial and Accounting Officer of the Sponsor, and to the audit committee of the board of directors of the Sponsor, as appropriate, to allow timely decisions regarding required disclosure.

Under the supervision and with the participation of the Principal Executive Officer and the Principal Financial and Accounting Officer of the Sponsor, the Sponsor conducted an evaluation of the Trust’s disclosure controls and procedures, as defined under Exchange Act Rule 13a-15(e). Based on this evaluation, the Principal Executive Officer and the Principal Financial and Accounting Officer of the Sponsor concluded that the Trust’s disclosure controls and procedures were effective as of the end of the period covered by this report.

Changes in Internal Control Over Financial Reporting

There was no change in the Trust’s internal controls over financial reporting that occurred during the Trust’s most recently completed fiscal quarter that has materially affected, or is reasonably likely to materially affect, these internal controls.

There have been no material changes to the Risk Factors last reported under “Part I, Item 1A. Risk Factors” of the registrant’s Annual Report on Form 10-K.