Compared with traditional VC and Crypto VC, how does Crypto change the ecology of new venture investment?

Written by: @cjin, Tonic Fund Co-Founder

foreword

forewordLast year (2021/8) because of friends posting suggestions on Facebook – if it is a Crypto project to raise funds, the first important thing is:"Stop looking for non-professional Crypto investors"

. I wrote a quick post about the differences between traditional VC and Crypto VC investments.

2022 Q1 is coming to an end, I want to sort it out again, from the perspective of VC, see how Crypto has brought about drastic changes in the new venture investment ecology.

Web2 enters the Crypto/Web3 era, is it really that different?

Early venture capital in the Web2 era

In fact, back in the 2010s when Web2 emerged, due to the reduction in the development cost of new software startups, the initial capital needs were not much. At that time, the most drastic change in the venture capital industry was the birth of many angels, early-stage funds, accelerators, or the establishment of social apps. Funds, Mobile apps funds, even funds investing in Google Glass apps..etc.

At that time, many "traditional venture capital or investment departments" also invited young people to look at the cases of early start-ups, or to get in touch with start-ups through investing in early-stage funds.

Originally, investors in various fields have different majors, like someone who is good at semiconductors, software, and biotechnology. As for whether they are "professional crypto investors", in addition to understanding the industry, let's start with equity vs token investment. :

Can traditional venture capital funds buy Token (tokens)?

Traditional venture capital invests in companies and uses cash to buy equity (shares) issued by the company. “Crypto” Projects naturally issue Tokens.

Each venture capital fund will sign an LPA (Limited Partnership Agreement - the investment contract between the fund and the fund investor) with the fund investor when it is established, and it does not necessarily have the flexibility to buy tokens. For example, for venture capital funds established in the United States, generally only 20% of the quota can buy Token, a high-risk asset class. Venture capital fund managers need to have a consensus with them, whether LPs are willing to bear high risks, especially many LPs are Is the more traditional large companies and funds.

Token vs Equity Public Issuance Speed

Venture capital funds originally had the opportunity to realize their shares when the company i) IPO, ii) mergers and acquisitions, iii) liquidation or iv) secondary market transactions. In many cases now, Crypto Projects has completed a round of financing with investors, and has not even raised funds with VC, and then listed on the exchange. There is no concept of Series ABCDE.. Pre-IPO, which has previous experience in fundraising for equity-type companies.

Looking at this speed, as a venture capital fund, if it does not invest in the first round, will it be necessary to buy it in the open market like retail investors on the exchange?The way VCs want to invest in teams that have issued coins recently is that VCs will negotiate with the Project on a discount to the market price, but VCs have to convince the founders to explain to the community or foundation proposals—

What can my VC do to help? This also forced the VC to grab the case at a very early stage.

Derived stories:You can see the example of Sushiswap. Their fundraising plans last year seem to have come to nothing. The community (token holders aka retail investors) has a lot of questions about VCs who want to invest—。

In addition to money, what else can you VC help? (If Sushi wants to raise funds, we also have retail investors)

The "Sushi community" also votes for VCs who want to invest. They usually don't run the "traditional VCs in the Crypto community". For example, the famous ones: True Ventures and Lightspeed are all ranked at the bottom by the community. This is a parallel world... …

Token vs Equity Liquidity

How Crypto VC decides to hold or trade tokens that are already in circulation is different from the long-term holding mentality of VC funds that mainly invest in shares in the past.

If the tokens invested in are listed on the exchange, and the venture capital faces the listing of the tokens issued by the investment project, retail investors can buy and sell them, but you have not unlocked them yet. Even if the lock-up period expires and the linear unlocking starts, many people will still check your wallet. There is no "hodl" token, and when the market is booming and the currency price is over-inflated.

Do you want to use another wallet to go short in the futures market to make the fund make money (or avoid risks and pay less), or when the fund LP wants you to make a profit as soon as possible, is this fund flexible to do so? I'm afraid this is something that traditional VCs haven't thought about yet.

The changes in the market are not only in the Crypto circle, but traditional start-ups are also targeting earlier companies.

Before the start-up was listed, the company was listed from the Seed → ABCDE round. In recent years, Europe and the United States have opened up relatively loose Equity Crowdfunding (equity crowdfunding), and the popular SPAC in the United States in the past two years (2022 SPAC has become cold) also allows companies to raise funds with ordinary retail investors earlier.

Combining the above 2) and 3), it has also caused the Crypto circle to compete for the earliest investment opportunities in the project.

Xenophobia in the Cryptosphere

In the past few years, there have been many innovative business models and new methods of raising funds and issuing tokens in the Crypto circle. Some Crypto Projects are like social experiments. But like every industry, there will be miscellaneous fish. Many people who join the Crypto circle, even developers with innovative ideas, are often treated equally by the media or people who don’t like new technologies, and think that the blockchain circle is black or fraudulent.

This leads people who believe in Crypto to say "few understand" and "WAGMI". This attitude is like, I know that Crypto is the future, and those who understand understand it, and it is very tiring to argue with investors who don't believe , NGMI.

When hearing the current entrepreneurs or investors of the old Web2 who are tired express disapproval of the various new practices of Web3, or move out of the laws enacted by humans before World War I, the young generation of Web3 entrepreneurs will naturally have a defensive mentality. I want to get in touch with entrepreneurs and venture capital who are already on the same track.

What can VC do to help?

Take the example of 2021/8 Paradigm researchers saving $350 million for Sushiswap.

Paradigm is the most desirable Crypto fund for many crypto teams. The two founders of Paradigm are Fred Ehrsam (co-founder of Coinbase) and Matt Huang (former Sequoia Partner).

There are many powerful researchers in Paradigm. One of them, @samczsun, saved Sushiswap's vulnerability and prevented $350 million from being attacked.

This is a bit of a superhero story. What’s interesting is that Paradigm is an investor in Uniswap and also helped Uniswap design V3, but found that Sushi, a competitor and tribute to Uni, had a crisis (Sushi didn’t even know it himself) but took the initiative Help put out the fire.

Later in 2021/11, samczsun saved another dYdX smart contract from being hacked:

Back to Paradigm, but can every VC have such a strong technical ability to help the team? The team can issue their own coins and go public to raise funds. What can VC help?

Traditional VC vs Crypto VC How to evaluate investment proposals?

i) Seller's market: raise funds first, then develop and acquire customers

As mentioned earlier, early venture capital has been booming for more than 10 years. Many people have rich experience in evaluating Web2 software startups. There are a lot of judgment indicators from market, team, product, Traction, to product data to see if the team has No PMF (Product-Market Fit) was found.

But evaluating Crypto Projects is inherently difficult:

Web2 venture capital Aiwen team: Active Users, Retention, CAC, LTV .. etc., but many Web3 company products have not yet been developed, and there is no user without Retention.

All Web2 channels spend money on Google/Facebook ads, and it is not difficult to calculate CAC. But now most Crypto Projects cannot buy advertisements through Google/Facebook.

Remember a very popular article in the Web2 era - "Growth Hack is the new VP Marketing" ?Current status of Crypto Projects:

Tokenomics is the new VP of Growth (this is not a famous saying, just my saying)

Crypto VC's focus is not only the business itself, but also understanding how Tokenomics can be designed to make the project grow.

ii) Can I vote for an anonymous, community-operated team, or a non-corporate DAO or Remote team?

Emphasis on privacy, decentralization, and direct trust in Smart Contracts are the nature of blockchain projects, at least Bitcoin is an example of anonymity.

If you are willing to face investors and the community with your true identity, you can of course increase the social proof of the team.

Before the epidemic, many VCs only invested in teams in certain regions (such as only investing in Silicon Valley companies). In the past, they would invest in VCs with international teams, and usually went abroad to do due diligence (Due Diligence).

During this wave of Web3 takeoff, everyone was operating a remote mode across time zones during the epidemic. Many Crypto projects have not physically met their members so far.

Crypto-native VCs and their LPs are used to this kind of ecology, and you can even see anonymous venture capital partners appearing (such as GP @vvd of Starry Night Capital), or claiming to be an anon-friendly crypto fund - dao5, or venture capital Try to set up a DAO by yourself (for example: Bessemer, a traditional big venture capital, established BessemerDAO)

iii) Use of Funds

These Crypto-native entrepreneurial ecosystems are full of challenges to traditional venture capital assessments.

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investment competitor

In the past, early venture capital would avoid investing in portfolio competitors. In order to support their own team and avoid conflicts of interest, if they invest in competing in the same field, they have to explain publicly.

Crypto Funds with a traditional venture capital background still avoid investing in competing teams. However, most of the emerging Crypto VCs come from hedge funds and traders. Their past experience in the public market does not realize that there is something wrong with investing in competing teams, and their operations are relatively short-term.

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Participate in the community, Meme

Crypto "communities" are mainly gathered in several Web2 services: Discord, Telegram, Twitter or Signal, because the customer communities established by traditional VCs in the past are aimed at entrepreneurs, and there is no need to talk to retail investors who invest in the open market, but in Crypto In this era, everyone can participate in investing in early-stage teams, and they all grab the right to speak in the community as Degen, especially in the Crypto community, which is full of various memes (Memes), abbreviations, and memes.

Under the burden of speaking in the past, traditional VCs are very unpopular in the Crypto circle, but now they want to enter the Crypto circle. Participate in investment with the increasingly overlapping roles of "community/investor/user", and even this group of "community/investor/user" may have a greater influence on the direction of the project (of course, it may not be a good thing).How to deal with traditional VC, I can think of the best way now,

Probably, traditional VCs can only spin off a Crypto Fund, or at least spin off an "intern" Twitter account.

1/ Sequoia began to use some currency circle terms on twitter to reveal that it will enter Crypto.

3/ In addition to the main account, CMS Holdings also has a CMS intern account, in addition to helping everyone post key notes and tweets that can be close to the community.

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Traditional venture capital participates in Crypto

Now Crypto Projects need to deploy some resources while raising funds: Crypto entrepreneurs with practical operation experience, experience in designing Tokenomics, able to cooperate with different chains, exchanges, and Protocol introductions, KOLs with community voice, and those who can activate the market Traders…….

For the above, it is not easy to participate under the current traditional VC structure, so we will gradually see that each traditional VC needs to independently establish its own Crypto Fund.

When Sequoia established the Crypto Fund, it said that the establishment of the Crypto Fund was the first time they established a fund for a single industry. The fund mainly operates liquid tokens (circulation tokens), including investment, pledge, provision of liquidity, and participation in governance.

The new fund of the former Pantera GP - DAO5 will bring VC and entrepreneurs closer to the interests: the founders who are invested can also get tokens and participate in the decision of DAO.