Blockchain financing report for the third quarter of 2020: investment shrinks by 60%, what will happen next?
In a bull market, one of the biggest questions for most founders is: Did I do something wrong? It seems that as long as there is a “.finance” domain name, money will fall from the sky, and many founders based on sound economics are often lost in arrogance.
In terms of blockchain financing reports, there are also data issues. Due to the existence of ICOs, a large part of the total reported funds are overestimated, and there are also transactions involving large companies that use blockchain as a small part of their technology stack. With this in mind, I spent a considerable amount of time cleaning up data, which came from unidentified venture capital rounds and large companies that have no clear connection to the blockchain.
In this article, we will only focus on venture capital from seed stage to E round, excluding ICO data. the reason is simple. The stock market can provide some clues to the public token market. Take Uniswap as an example. Before it became the darling of the industry, the team raised funds from investors. Similar dynamics can be seen in multiple successful network startups. Therefore, even in a vibrant public financing market like ours today, venture capital is still an excellent relative indicator to measure the interests of investors.
Next is the digital world:
Investment will shrink by 60% in 2020
In 2018, nearly 3.8 billion US dollars of venture capital was involved in blockchain-related transactions. By 2020, this figure is estimated to be approximately $1.4 billion. 2018 benefited from the 2017 bull market, but even according to the standards of the first quarter of 2020, there has been a considerable decline. One of the reasons may be that with the increase in reports related to the epidemic, the number of rounds of late venture capital investment completed than originally planned. For example, after Bakkt completed the $300 million Series B financing, the market has more or less inclined to mergers and acquisitions for large transactions.
In the second and third quarters, the largest financing was Bitcoin Suisse and BlockFi, both of which successfully raised only about $50 million. We see more capital concentrated on fewer transactions, as I predicted earlier. As the industry develops, this pursuit of quality is not necessarily a bad thing. We will see fewer and fewer founders get more funding. We may see more fundraising activities promoted by the community, such as retroactive airdrops and fair issuance.
The decline in the frequency of risk financing is not necessarily related to the epidemic. The number of transactions completed in each quarter has decreased from a high of 350 in the second quarter of 2018 to less than 100 in this quarter. In 2020, we should only see about 400 transactions completed, while in 2018 it was 1,077. Considering that in 2018, investors are increasingly flocking to SAFT/SAFE-based transactions, hoping to get a return when the project goes live, this comparison may not be fair. However, in 2020, although we have seen the rise of DeFi today, we have not seen a significant increase in such transactions. Part of the reason for the decline in seed investment interest is the liquidity and the time involved in risk for early-stage venture capital. An investor earns 3 to 4 times in venture capital, and may not get a better return than a liquidity provider.
Taking into account the risks of project tokenization (regulatory risks, technical risks, and especially human risks), blockchain funds do not necessarily get returns in many cases because they lock capital in illiquid opportunities. This is why we will see more and more “full stack” venture capital with “early transaction pipeline”. They will be able to provide various solutions from design to legal assistance within the company like Y Combinator, and talk about better deals for themselves in a market with rich liquidity and valuation.
In the short term, this may not be a good thing, because the founder will be forced to seek other forms of financing-even if this may not be in the best interests of the company. The gap in early financing is an opportunity for DAOs to take over.
Series A and Series B transactions accounted for 65% of the total financing
While observing how venture capital is distributed within the industry, the lack of funds in the early stages becomes even more obvious. The funds attracted by the seed round’s early transactions are less than 1% of the total investment, but it accounts for nearly one-fifth. A similar situation appeared in seed rounds. Although they accounted for more than 55% of all transactions, they brought in only one-fifth of the total investment. In today’s token asset ecosystem, it is much more difficult than people think to raise considerable funds in the early stage. In addition, the number of transactions attracted in the second quarter of 2020 is about half of the number of seed rounds and one-fifth of the number of round A transactions in the same period in 2019. We can see this from the rate of startups developing from seed stage to C round within 3 years.
I use Series C as a benchmark because this is when startups usually exceed a billion dollar valuation. Since 2018, of the 1,204 seed rounds we have seen, only about 3 completed E rounds. These Series E investments occurred before 2018, so there is enough time to grow into who you are today. In other words, their probability of growing into a billion-dollar company is 1%. This does not include the fact that 95% of companies have rarely raised any funds in this area. (This is an optimistic estimate based on a number of transactions I have seen in the past few years).
Calculated as a percentage, your chance of establishing a Series C enterprise on this basis is about 0.000125%. The odds are still higher than that of a lottery ticket of similar amount, and as the founder, you do have a major influence on the result. This is why adventure games exist. But founders must know the possibilities they deal with.
Financial applications dominate every transaction around me
All of this made me think about which areas are the “hottest” in terms of financing.
As you can see, 8 of the 10 largest investments are financial applications that receive post-financing from banks or similar entities. Even after these are excluded-the largest financing outside the core digital asset business is Proxy and Anchorage, both of which are identity-related solutions, and therefore are related to finance. In addition to finance, the largest investment usually occurs at the protocol layer (such as Polkadot, Ava, and NEO), usually in the form of ICO. The situation today is different from the boom in 2017. At this stage, on platforms such as Coinlist, usually only a few qualified investors can invest through ICOs. This shows that CeFi applications involving digital assets have matured. The view that financial institutions are still outsiders is no longer tenable. They sometimes get tokens from the market (such as Microstrategy) on the largest trading platforms and eventually integrate them directly into their products (such as Square). This is why we saw the Cambrian explosion in DeFi. More experimental, early, and risky businesses are being established instead of the more traditional web 2.0.
As far as early investment is concerned, for value investors, the possibility of finding a low-value B2C non-financial application is much higher than a risk-averse, low-value financial application based on digital assets.
The focus on financial applications and related industries has the same performance in mergers and acquisitions. First, in the blockchain ecosystem, Kraken, Coinbase, and Binance are the most active acquirers (excluding banks). Since Coinmarketcap and Blockfolio are excellent sources of traffic, trading has the habit of acquiring extremely sticky and forming data sources. It is reasonable to pay a premium to obtain them because they reduce the cost of acquiring customers for exchanges. Similarly, Kraken acquired Cryptofacilities to accelerate their pace of providing derivatives; a South Korean gaming group acquired Korbit. It is difficult to expand beyond existing products at an extremely fast rate, so financial players often acquire related products.
So what will happen next? The private equity market financing in the blockchain ecology is directly related to the performance of liquid assets, and most people can draw this conclusion. . Given that Bitcoin has formed some meaningful support at $10,000 and has been configured as an asset by many companies, it is certain that we will reach a record high in the coming year. If this happens, ecological financing will prosper again, because investors’ risk investment returns will increase. Broadly speaking, excluding the possibility of this happening, I think there are three possibilities:
1. SPAC (Special Purpose M&A Company) and IPO (Initial Public Offering)-Given the scale and maturity of large blockchain-related companies such as Coinbase and Greyscale (Grayscale), they are likely to be listed within the next two years. This will provide much-needed liquidity for early investors, and in exchange, they will be converted into funds and flow from funds to startups. The new millionaires created by going public will also be those who will make angel investments and seed rounds of venture capital in the coming year. One example is the recently launched tokens. The prosperity of these tokens has allowed founders to actively invest in new businesses (such as Robert Leshner of Compound). They can bring a lot of expertise, capital and network, these are the first conditions for their success.
2. Compliance technology fire-although things like self-sovereign identities are theoretically good concepts, when viewed from the perspective of market share, their use in real life has not been proven enough significance. Small-scale use does not necessarily translate into attractiveness. However, with the institutionalization of the industry, and the SEC (US Securities and Exchange Commission), CFTC (US Commodity and Futures Trading Commission) and FATF (Financial Action Task Force) and other institutions to strengthen the review of this field, support for compliance related The necessity of enterprises will increase. Shyft.network and Notabene provide an overview of the exchange’s compliance technology. FATF’s travel regulations will be implemented in 2021, which will be a catalyst. The BitMEX situation is an early sign of the future situation. This also makes me feel that in the next few months, we will acquire from exchanges in this area.
3. The combination of DeFi and CeFi and financial technology-DeFi is now very popular and exciting. There is no doubt about this. But at some point (perhaps we have reached this point), the yield will become less exciting, and the real growth point will be the entry barrier and market expansion. There are two possibilities. One is the institutional approach. DeFi products mainly focus on hedge funds in this field. There should be related products that can help institutions participate in liquidity mining and help expand the total locked-in value of DeFi projects. Companies like Alkemi.network have already begun to do this. They make it easier for institutions to invest funds into vetted, profitable projects. There are also some people who try to connect traditional exchanges to DeFi in a meaningful and good way. Serum and Hashflow are two examples of this. On the other hand, DeFi is taking the financial technology route to expand the coverage of retail users. This situation will be most obvious in applications such as cross-border remittances and loans. The use of stablecoins is much better than traditional banks. In a suitable regulatory environment, the future of Venmo and PayPal will be based on encryption. Our example today is Gilded. Recently, they have helped companies raise more than $1 million in funding.
Finally, founders should know that even if funds seem to fall from the sky, venture capitalists and investors have liquidity preferences. This, in turn, has distorted the investment operation of the industry today. For a more traditional venture capital company, this is a huge opportunity, and its distribution channels are in place to nurture the next generation of unicorn companies. In fact, Y Combinator and A16z are already porting their experience to the Web 3.0 world, but this gap is still large for early investment. It is best for founders to observe the direction, frequency and scale of capital flows. On the other hand, investors also seem to prefer financial applications over other B2C games, and transaction speeds tend to be lower. I think that by 2021, the largest return on venture capital will be investments that are not limited to fintech applications, because the competition and the number of transactions seems to be lower. Another reason is that if the L2 experiment is really effective, we are increasingly at the forefront of consumer-grade blockchain applications.
