Venture Capital Gorges on web3
Back in 2012, just a few years after Satoshi Nakamoto published the Bitcoin white paper, a young tech founder got accepted into the prestigious tech accelerator Y Combinator. Brian Armstrong was just 30 years old and had some modest success with a virtual tutoring startup and then 1 year at AirBnb on his resume. He had an idea to make an easy-to-use wallet for holding Bitcoin, which was enough to get YC interested. He didn’t even have the thought yet to add a “Buy” button to allow people to purchase Crypto, it was just a wallet.
He raised a $600K Seed round at the end of his three months with YC, with a $300K check coming from YC partner Garry Tan of Initialized Capital. When Coinbase went public, Initialized’s stake was worth a whopping $2Bn. Garry talks about it in this video. They weren’t the only venture firm to earn amazing returns betting on Armstrong and Coinbase. Union Square Ventures and Ribbit Capital led a Series A round for the company in 2013, after that “Buy” button started the hypergrowth of the company. Andreesen Horowitz (“A16Z”) led the Series B later that year, establishing the famed VC firm as a leader in the Crypto space. You can hear more about the founding and tremendous growth of Coinbase on a great How I Built This podcast episode.
The enormous success of the Coinbase investment, which ultimately looped in 20+ venture firms, embolden the venture community to embrace investing in Crypto startups. The pension funds and endowments that were lucky enough to be LPs in the funds with early investments in Coinbase reaped outsized returns when the company went public in 2021. In addition to Coinbase, venture firms have huge unrealized gains on FTX (valuation $30Bn), OpenSea ($13Bn), Alchemy ($10Bn), Dapper Labs ($7BN), and tons more unicorns. Several venture investors were early supporters of new blockchains, and they earned 1,000X returns on private buys of Solana and other Crypto. The VC LP investors encouraged their partners to go deeper in the sector.
In 2021, venture investments into the Crypto and web3 sector totaled over $33Bn, up massively from about $8Bn in 2020. Two-thirds of this money went into jumbo rounds of $100MM raised or more. Over 40 companies in the sector achieved unicorn valuations above $1Bn last year. It was a massive gold rush. You can read more in this report.
Much of this cash came from traditional venture funds, who chose to allocate a portion of their multi-sector cash to web3. However, we are now seeing more VC shops set up dedicated Crypto and web3 funds to go all-in on the strategy. LP investors are loving it, and the cash is pouring in. In summer 2021, A16Z announced Crypto Fund III with an eye-popping $2.2Bn size. In January of this year, they started work on their fourth Crypto fund with a target size of $3.5Bn. Paradigm, a fund co-led by one of the Coinbase founders Fred Ehrsam, announced their jumbo $2.5Bn fund in late 2021. Katie Haun, a longtime leader in Crypto at A16Z, left to start her own VC shop and announced a $900MM target size for her first fund. FTX, one of the leading Crypto exchanges, announced a $2Bn fund and lured Amy Wu from Lightspeed Ventures to help run it. As I wrote about last week, the three biggest Crypto hedge funds are all allocating big money to startups in the sector. And these are just the biggest funds, there are tons more. Our group Beyond The Game Network has already made seven investments with web3 exposure, and we see new opportunities daily.
Venture dollars going to startups building in the sector in 2022 will be huge. Money will flow from Pre-Seed to later growth stage companies. We will also potentially see one or more IPOs from web3 startups. Circle runs one of the bigger stablecoins, and they are on their second attempt to go public via a merger with a SPAC that would value the company at $9Bn. Another big exchange like Binance, FTX, or Crypto.com could follow Coinbase to the public markets. The DeFi sector is having some regulatory hiccups, but if things get resolved a public offering from BlockFi or someone else in that area is in the cards. We could even see one of these large organizations bypass the traditional stock IPO and choose to go the decentralized route and distribute ownership tokens to their stakeholders instead.
The one question people are starting to ask about the VC participation in web3 is whether this is a good thing or not. Jack Dorsey, the founder of Twitter and Square, raised this issue back in December. In a Tweet, he said, “You don’t own “web3.” The VCs and their LPs do. It will never escape their incentives. It’s ultimately a centralized entity with a different label.” Jack has a point here for sure. While the products are decentralized, the ownership is generally not.
I am not surprised by this. Building a big company in a fully decentralized way is just too difficult today. The regulatory environment in the US is not supportive to a token offering that would work like equity. Maybe that changes in the future, but today it would be a stretch. This means that in order to attract the capital needed to launch and scale a big web3 business, the companies still need to work with venture funds. Also, the types of big swings required to build a world changing company often take a single leader who can set the direction, rally the team, and evangelize the product. This happened with Ethereum in a mostly decentralized way around Vitalik, but it would be hard to see lots of companies build this way. The good news is that I am starting to see more pitch decks from companies trying to run in more decentralized ways from the jump, so I expect more of this in the future.
In the near term, expect to see big involvement from the venture capital community funding the fun startups in web3. I am excited to be a part of this movement. If you are working on something cool in the space, please hit me up!
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