What Is Bitcoin Mining? How It Works and What It Takes to Make It Pay

Despite the cryptocurrency’s wildly volatile price, increased regulatory scrutiny, and environmental impact, Bitcoin mining opportunities continue to emerge in North America. The state of Texas, in particular, has become the epicenter since 2021, when China banned the industry and sparked an exodus of miners from the country. The ban, which reportedly reduced China’s control of Bitcoin mining from about two-thirds of the global industry in April 2021 to zero in July 2021, created a new opportunity for North American companies, particularly those in the energy industry, to become more familiar with Bitcoin mining and how to incorporate it into their business models.

For those unfamiliar with Bitcoin’s inner workings, “mining” is how transactions are validated for a blockchain. It’s essentially a cryptographic competition to add blocks, or records, to the cryptocurrency’s ever-expanding blockchain network. In exchange for this service, winning miners are paid in Bitcoin (BTC), which reached a record price of more than $68,000 for one Bitcoin in November 2021.

In the wake of the Chinese ban, companies based in North America, including Riot Blockchain and Marathon Digital Holdings, have been raising record amounts of capital as they ramp up production and expand their industrial-scale operations. At the same time, Chinese companies have joined what’s been termed the Great Mining Migration to North America, investing in US facilities and constructing their own massive warehouses equipped with thousands of small computers specifically designed to mine a number of cryptocurrencies, the most popular of which is Bitcoin.

What I’ve learned from my experience conducting feasibility studies for Canadian companies exploring this booming business is that new entrants, specifically energy companies, are also moving into the sector in a material way through joint ventures and other partnerships. The cost of power is one of the most significant factors in cryptocurrency mining. That means companies with access to reliable, low-cost electricity—particularly from renewable sources—have an opportunity to play a central role as the industry evolves in North America.

In this article, I offer insights into the fundamentals of Bitcoin mining, and show how to calculate the costs and the rewards. I also address the challenges of the industry, including questions around energy usage and risks, like the ever-evolving crypto regulatory environment.

Bitcoin Is Resilient

Bitcoin has inspired thousands of cryptocurrencies since it launched in 2009, but in terms of value, it still stands alone. Despite the volatility of its price, its monetary policy builds in a measure of stability by limiting mining to 21 million Bitcoins across a predefined schedule. Although there are almost 19 million now in circulation, the reward for mining is periodically cut in half so that it will take until 2140 to exhaust production of Bitcoin.

While other crypto networks also manage supply, none has been able to replicate Bitcoin’s popularity. As investors embraced the asset class, Bitcoin’s futures and exchange-traded funds became the first to be introduced in regulated US and European markets. It soon appeared on the balance sheets of companies like Tesla and Overstock. This demand helped push Bitcoin’s market cap past $1 trillion in November 2021. By way of contrast, the second-most-popular cryptocurrency, Ethereum, had reached only about half that value the same month.

Bitcoin’s dominance may explain its resilience in the wake of the 2022 crypto winter—a disastrous series of crashes (the TerraUSD algorithmic stablecoin and its associated cryptocurrency, Luna), alleged fraud (FTX), and bankruptcies (including Three Arrows Capital and BlockFi, among others) that wiped out nearly 70% of the crypto market’s value. While Bitcoin took a significant hit as well, it has rebounded more than 80% since January 2023, a testament to its durability in a famously volatile market.

Bitcoin also stands out because of the industrial-scale mining operations, or farms, it has spawned. The largest crypto facilities with the most advanced technology are focused primarily or exclusively on Bitcoin, like the Iceland-based Genesis Mining farm, which consumes more electricity than any other company in the country. One of the biggest farms in North America is Riot Blockchain’s Texas facility, which occupies three large warehouses on 100 acres of land containing 60,000 mining computers focused only on Bitcoin.

Bitcoin Mining Basics

At the root of every cryptocurrency is a blockchain, which is essentially an electronic ledger sustaining a continuously growing list of records. The blocks in the chain are basically files in which data such as Bitcoin transactions is recorded, including which miner successfully created that particular block. Each block also includes a hash, a unique 64-digit hexadecimal value identifying it and its contents, as well as the hash of the previous block in the chain.

In order to win a block in most cryptocurrencies, Bitcoin included, a miner has to be the first to guess a hash value equal to or lower than the one that Bitcoin generates for the transaction. As more miners compete, and more computing power is deployed, each miner’s chance of coming in first is reduced—the current odds are one in the tens of trillions—helping ensure a pace for creating new blocks that is currently about one every 10 minutes.

This competition among miners also collectively secures the blockchain by allowing transactions and data to flow in what is known as a trustless manner, meaning that an intermediary like a bank isn’t required to ensure that a Bitcoin can’t be spent twice. Instead, the difficulty of solving for the right hash and the financial reward for success create a secure consensus mechanism by making it too cost-ineffective for malicious users to hack.

The consensus mechanism used by Bitcoin is known as proof of work, or PoW. Because this algorithm ultimately relies on the collective power of thousands of computers, it’s a particularly robust way to maintain a secure and decentralized network. Still, it has drawbacks. Most significantly, it’s exceptionally energy-intensive. As more computer power is used for mining, the amount of electricity required to both earn cryptocurrency and maintain the network rises.

Some other cryptocurrencies, notably Ethereum, have switched to a different algorithm called proof of stake, or PoS. PoS doesn’t require the same extensive, decentralized network of miners to support its operations and is thus far less energy-intensive. While it’s not as secure, its lesser energy demands may make it easier and more cost-effective for those blockchains to support a next generation of crypto applications like smart contracts, non-fungible tokens, and decentralized finance. Bitcoin, however, has not announced any plans to transition to PoS.

Finally, as part of Bitcoin’s supply management system or monetary policy, the reward for mining a block is set to be cut in half, from 6.25 BTC per block mined after the most recent halving in May 2020 to 3.125 BTC around April 2024. The bullishness around mining, even in the face of that planned drop, says a lot about the profitability of the industry and the expectation that the original cryptocurrency will keep appreciating. It also reflects the fact that the so-called hash rate, which measures the total number of hash guesses being computed at a given time in the network, plummeted when Chinese operators were forced to shutter in 2021. In December 2021, the hash rate was about 175 quintillion hashes—or 175 exahashes—per second (EH/s). This created a huge opportunity for new miners. By early June 2023, the hash rate had increased to 375 EH/s, more than doubling in just 1.5 years.

Bitcoin Mining Setup

The resources required for mining Bitcoin include:

• At least one specialized computer (called an Application-specific Integrated Circuit or ASIC miner) designed to compete for and support a particular cryptocurrency.
• A reliable and inexpensive energy supply.
• A dependable internet connection.
• A cooling infrastructure (whether you’re mining at home or on a Bitcoin farm).
• A computer, software, and the technical skill to establish and monitor operations.

A home mining operation might consist of just a computer and a handful of ASIC miners.

Solo hobbyists were largely responsible for Bitcoin’s initial popularity, but now they’re more likely to join a virtual mining collective like Slush Pool or AntPool in order to increase their odds of success.

Today’s industry is more accurately represented by an industrial-scale mining farm containing thousands of ASIC miners housed in a warehouse or even a series of warehouses.

Whether you’re setting up at home or in a warehouse, the mining framework will be similar, regardless of scale.

You’ll first need to acquire an ASIC miner optimized for Bitcoin, such as one produced by Bitmain or Whatsminer. New top-end ASICs start at about $3,000 to $5,000, though older secondhand models can be purchased for less. All else being equal, newer versions generate more terahashes per second (TH/s) so look for the newest and therefore most efficient ASIC you can afford.

The next priority is power, which is needed to run and to cool the ASICs. Given the relatively low overhead and variance in equipment costs, the price of electricity becomes the most significant factor in calculating your bottom line. The University of Cambridge’s Centre for Alternative Finance produces a global map that shows how the industry searched for cheap power after mining was banished from China, and how countries like the US, Canada, and Russia saw significant increases in hash rates.

Then, of course, you will need to account for the cost of housing and maintaining your operation, keeping it cool, connecting it to a fast, reliable internet provider, and staffing it if you don’t plan to manage it yourself.

In terms of revenue, miners can expect to earn the block reward and a transaction fee (the fee with which the network reimburses successful miners and incentivizes them to continue confirming transactions) if and when they win a block. Transaction fees can vary based on network conditions and how much the transactor is willing to pay for expedited processing. As of June 2023, the fees have averaged about 0.31 BTC, or about 5% of the block reward.

Bitcoin Mining Economics

To illustrate the financial considerations involved in Bitcoin mining with a hypothetical example, let’s look at the estimated costs and revenue for mining with one ASIC miner.

These tables represent typical costs and revenue based on values from June 2023.

The model, then, looks like this:

Hashes required to mine one Bitcoin:

= Network hash rate * Seconds per day / Bitcoin mined per day (including fee)

= 375 EH/s * 86,400 seconds / 945 BTC = ~34,000 EH / BTC

Time taken for an ASIC miner to mine one Bitcoin:

= ~34,000 EH * 10^6 / (141 TH/s * 60 seconds * 60 minutes * 24 hours * 365 days) = ~7.7 years

Note: The 10^6 above is used to convert exahashes (EH) to terahashes (TH)

Capital expenses (CapEx):

• Bitcoin mined per ASIC lifetime = 2.5 years / ~7.7 years = ~0.32 BTC
• Effective price per Bitcoin = Price of ASIC miner / Bitcoins mined in its lifetime

= $4,600 / ~0.32 BTC = ~$14,300

Operational expenses (OpEx):

• Electricity cost per Bitcoin = Time required to mine one Bitcoin * Energy consumption * Cost = ~7.7 years * 365 days * 24 hours * 3,032 W * $0.05 / 1,000 = ~$10,200
• Cooling and other overheads per Bitcoin = 20% of electricity cost = ~$2,000

Note: The 1,000 above is used to convert watts (W) to kilowatts (kW).

With these underlying assumptions, the total cost of production per Bitcoin is:

= CapEx + electricity + other OpEx per Bitcoin

= $14,300 + $10,200 + $2,000

= $26,500

Note: Totals have been rounded, and figures are approximate. Cost does not consider network hash rate growth.

After laying out your particular operating assumptions and calculating the cost of production, ask yourself one crucial question: Does mining Bitcoin result in a significantly lower cost of acquisition than simply buying it on the spot market? For the miner’s economics to make sense, and to justify the CapEx and effort involved in mining, the answer should be a resounding yes.

In our hypothetical single-ASIC operation, our cost of production is $26,500 per Bitcoin. Compare this to the cost of acquiring one Bitcoin on the spot market, where it costs about $26,600 as of June 2023, and you can see that we’d be more or less breaking even under these operating assumptions. A sensitivity analysis will tell you the equipment cost and electricity price you would need to make a profit, since both the price of Bitcoin and the network hash rate can swing wildly.

Small-scale miners may not always be able to optimize their production costs enough for mining to be very profitable, especially when hash rates and electricity costs are high. Large-scale miners, however, typically still can.

Bitcoin Mining Risks

No new venture is risk-free, of course. Since miners are paid in Bitcoin, the price volatility is a major revenue risk. Another risk is increased competition: The more miners there are, the harder it is to win a block.

Operating risks include factors like potential problems with internet connectivity, overheating ASICs, and system hacks—though given the size and security of the Bitcoin network, hacking risk remains low.

Top of mind should be the availability and reliability of electricity. Because power is so central to this operating model, miners need to look very closely at the redundancy of their supply. While Texas has emerged as a center for the industry, there are significant questions about the vulnerability of its power grid that potential investors should consider.

The cost of electricity is also a concern: Anything higher than $0.05/kWh will be unprofitable for today’s mining operations. The rise of electricity costs across the country in 2022 led to a cascade of increased overhead throughout the industry, sending many companies into danger—and in some cases, bankruptcy.

The regulatory environment also poses a potential risk, as miners in China and other countries have been learning. Even countries that were previously welcoming to miners, such as Kazakhstan and Iceland, have begun to curtail new and existing mining operations in order to manage demand on their energy grids. Like Texas, a number of US state governments have embraced Bitcoin mining, with some going so far as to offer incentives to producers. But the US federal government is paying closer attention to the industry now, with new tax reporting requirements set to begin in 2023 and heightened scrutiny from the Federal Reserve into crypto’s risks to consumers, banks, and the overall financial system.

Because crypto regulations in both the US and around the world are still very fluid, miners need to remain vigilant and watch for changes that could undermine their bottom lines.

Bitcoin mining’s energy demands result in another concern: the environmental impact of mining, which carries both ethical and reputational risks. The crypto industry has been subject to withering criticism for its carbon footprint. The New York Times recently equated the total power consumed by Bitcoin annually to what’s used by Finland in one year. The fact is that even the most efficient Bitcoin mining operation takes roughly 155,000 kWh to mine one Bitcoin. By way of comparison, the average US household consumes about 900 kWh per month.

Climate is not a niche issue any more. According to a recent Deloitte report, reducing carbon emissions is now essentially a universal priority, and brands are responding. In May 2021, Tesla, which had been a major investor in Bitcoin, announced it would suspend purchases using Bitcoin due to environmental concerns. The company has since said it would resume accepting Bitcoin once it could confirm that at least 50% of Bitcoin mining operations used renewable sources.

The crypto industry has begun to respond as well. Many of the larger producers are committing to transition to renewable energy, either through direct purchases or by acquiring carbon credits. Companies such as Great American Mining and Crusoe Energy have also developed ways for mining farms to utilize power that would otherwise be wasted, like flared natural gas at oil fields, excess solar or wind power that can’t be stored, or hydropower generated by overflows from dams. This strategy is only effective, of course, as long as crypto mining doesn’t increase demand in the process.

Bitcoin Mining: Opportunities in a Challenging Environment

So far in 2023, we have seen an overall decline in Bitcoin mining profitability. This has mainly been driven by a massive increase in the network hash rate, increases in electricity costs due to inflation, and the decrease in Bitcoin price unit revenue from its all-time high. Even though ASIC costs have fallen since the Bitcoin mining boom of 2021, this has not been enough to offset these adverse factors. However, opportunities remain, especially among larger companies with highly optimized operations and balance sheets robust enough to snap up distressed assets.

Producers must also continue to recognize their regulatory and environmental context. For new entrants like power companies, incorporating Bitcoin mining into existing operations to better manage their own energy output offers a unique opportunity to leverage public opinion in addition to excess resources.

The University of Cambridge found that around 40% of PoW mining is already powered by renewable energy, but the pressure is on to significantly increase this figure. Companies with environmentally conscious energy solutions can play an important role in doing so while also reaping the rewards.

This article has recently undergone a comprehensive update to incorporate the latest and most accurate information. Comments below may predate these changes.