BBW23 – Day 3 – The State of Web3 Venture Capital

[Music] well good morning everyone it's pretty exciting to be on the last panel of uh what's been a really fantastic Boston blockchain week uh I really want to start out commending uh Ian Kane Jon O'Keefe and the team at cubic labs for really putting together a terrific set of panels I know I've learned a lot and I encourage you all to put this on your calendar for next year tell your friends family people involved in the ecosystem uh because we really want to grow this into an iconic event so in addition to being on the board of cubic Labs I spend a lot of time as an angel investor I'm a member of Launchpad Venture group and I have a number of investments in web 3 so this topic is really near and dear to my heart because if those Investments can't raise fall on rounds of venture capital support their growth they're not going to be successful and uh we're really fortunate to have this panel of experts in the uh VC Community uh to give us insight into the current state of web 3 Venture Capital so I'll start with self- introductions David great um yeah my name is David Shu I'm an investor at breed uh got my start doing ump research at Wellington actually Matt here and Nick were really instrumental in kind of getting me started down that path uh and then after that I did some work for fun of funds out in the west coast investing in under group of funds for joining breed where we invest in pre-seed and Seed really helping entrepreneurs at the early stage awesome uh I'm Matt Walsh um I grew up around here went to BC high shout out to these guys over here um we uh started Castle Island back in 2018 um originally was at Fidelity before that working on crypto and blockchain initiative started a fund over at Fidelity um we're a $250 million fund that invests in preed seed and series a blockchain infrastructure companies uh Kelly Callahan I'm a partner at Arrington Capital uh prior to Arrington I got into cryptos going back six years ago was one of the first employees at algorand Sylvio macau's blockchain here out of MIT in Boston uh was the CMO there where I headed up all their growth comms marketing BD all that stuff uh joined Arrington Capital boat a year and a half ago we are a dual strategy close to half a billion at this point uh liquid trading as well as about 200 portfolio companies over the past 5 years across web 3 Patrick okain I'm a partner at rw3 ventures uh we are a blockchainbased investment fund we launched in uh October of 2021 U weest invest across the ecosystem infrastructure Financial Services defi consumer facing companies and really everything in between uh prior to launching this fund I I worked in various capacities with the government um spent a lot of time with the intelligence Community um spent a lot of time with the Department of Justice um and that's that's really where I got my start in crypto in 2012 I started to build out the doj's crypto investigative camp campaigns and strategies so great well thank you all right to set the context for our discussion this morning I'm going to refer to uh the key takeaways from a recent pitchbook emerging indicator report on web 3 so the report states that Q2 2023 top VC investment in Emerging Markets only slowed slightly from the Q4 2022 Peak however it includes a key takeaway that Ai and ml dominates web 3 collapses it notes that web 3 and defi Investments notably waned reflecting challenges from the regulatory scrutiny limited practical use cases and Rising interest rates so it's a little bit of gloom and doom so in this context what's your view of the state of VC and web 3 right now start with you Patrick sure s um I mean it's very clear clear that funding for Venture firms has decreased substantially and that means that um Venture funding into the ecosystem has dried up substantially so that's turned it into essentially a from a a Founders Market to an Investor's market now um well while we don't think about cycles and whether that we're in the the bottom of a cycle or the top of the cycle a lot has been written about that um you can read it we we don't really look at that we fundamentally believe in the tech and try to find opportunities that are disruptive uh using the block using blockchain technology and um have the ability to scale um regardless of whether we're uh in a cycle or the regulatory environment but um but it is clear that the the the funding situation is is quite challenging right now line I think you know it's interesting uh it's definitely an investor Market but I got to give hats off to the founders that are still dedicated in building in this space I think they are inspirational I think they are so focused and and dedicated on what is possible with this space that they're doing amazing work they see the value even though the valuations are lower they see where things are going to happen um and the energy really is still positive if you look within the industry and the growth uh being in Singapore last week with thousands of people in town just for crypto uh I think Ai and and ml are are sort of shiny objects right now I also think if you look at that there'll be a couple of winners but if you look at blockchain blockchain is going to infiltrate a number of different Industries in kind of a different way and there's a lot more opportunities for building those component fuses one of the things that's most exciting probably about investing in the blockchain space is just that you're talking to entrepreneurs all day that are trying to disrupt some of the largest markets on earth right I mean mean you look at uh the total Market size of money or you look at the total Market size of operating systems on the internet so you're really talking about just Tams that are enormous so despite the interest rate environment and the funding cycle we're in right now I think one of the most optimistic things you see is just the ambition of these Founders that you know you're trying to disrupt gold you're trying to disrupt uh Fiat currencies you're trying to disrupt the way the internet itself is actually built uh and so I think despite the cycle uh you know the optimism at the entrepreneur level really continues which is really what drives Innovation yeah and I think the last thing that I'll just add is um the cycle is so much different from previous Cycles where you know there wasn't a lot of tech that was actually usable it's mostly just white papers and I think now there's actually application that you see like hundreds of thousands millions of people actually using um you know stable coins payments have really taken off in like Latin America emerging countries and I think that's just going to grow going forward well that's great that's uh very encouraging to hear so all right uh so uh I'd like to get some insight into what are the most exciting projects that you see and maybe provide a little bit of insight into how you screen projects and determine what's investable want to start with you David yeah sure um so we focus more on the earlier stage things so a lot of times it's kind of a team pre-product just coming with an idea so we focus a lot on team um things that we look for is what have they done in the past do they have kind of a track record of success are they really good leaders are they able to kind of bring um other uh High Caliber people onto their teams that's most important just we think that sometimes it's so early in the stage that people can pivot and you know things change in blockchain also the tech moves so quickly that you can have a good idea and it can be disrupted by some other upgrade or update that comes in the space um so that's what we look for the most um and then uh in terms of like stuff that we' were looking at recently that we're really interested in um we've been focus a lot on consumer we think that uh infra has for the most part um maybe maybe there's too much info right now and not a lot of actual use cases for like people using these applications so we're really trying to find like apps that people are using on a day-to-day basis um I think when we look in Latin America Emerging Markets we see a lot of people that are actually using this stuff like on a day-to-day basis for payments because like either their currencies are are under hyperinflation or um it's a good store of value for them and so those are areas that we that we're really interested in and then um another area is uh gaming um kind of maybe like a little bit uh ironic but um you know we think that naturally like The Gamers have um already some uh they're already used to kind of digital Assets in some way of shape or form so getting to kind of like pivot to you know digital assets where they actually own um is a little bit easier great one of my mental models for all of this in the digital assets space has always been if you just divorce protocols if you just assume that blockchainbased assets will be a thing there are certain categories that just have to exist that aren't there yet and so whether you have a digital dollar represented on chain whether you have an eth whether you have a Bitcoin whether eventually you have a a stock certificate that's represented on a blockchain how do you hold that how do you move it around how do you protect it um so in a lot of ways similar to the early days of the internet where okay you could see that the internet was going to be a thing but we need to build browsers we need to build cyber security companies to protect things that you're putting on the internet we need to build all these ancillary components so I think the equivalent of that in the blockchain space is compliance software it's trading technology it's Key Management uh custody workflow so there's just a lot of this stuff and so sort of reminds me in the early days when we started looking at Bitcoin at Fidelity in 2014 you couldn't even figure out what the price of Bitcoin was because you had all these various exchanges you need to build basic things like reference rate um providers and things like that compliance systems so there's a lot of that that is still lwh hanging fruit in the blockchain space now and I'd say that's where we tend to focus yeah it's not that it's still early it's that it's so complicated right and there's so much that needs to be done still so same thing with us we're very early stage uh we like to do preed seed sometimes we'll do a we do a lot of followon uh lot of infrastructure lot of um institutional training components more sophisticated Financial products uh you know we've been around for long enough where you started investing in these layer ones and it's sort of evolved now to like not just the apps and not just apps that are powering those marketplaces across a variety of Industries but also the infrastructure that allows developers to build those right where there's a monetization model that's a clear path to letting those things be built monetized and help grow additional apps off of it yeah I think our thesis um is very similar to to what Matt just articulated we we try to find opportunities that are feeling real present gaps in the market um but I'd also like to tack on um and I said this in my previous panel um uh tools that allow governments to get proper insight to the ecosystem um and until the governments get comfortable with it I don't think we're going to have uh favorable regulation um and then real world use cases and and companies that are are building things that are are disrupting massive industry uh Industries with massive Tams um I mentioned this again Healthcare um insurance is another one so those sorts of plays are are would get us really excited um then how do we evaluate the deals um I think you know just a really robust due diligence process we definitely look at the founders to make sure that they have uh they they have a deep experience in the industry that they're building in we look at the Tam we look at uh Revenue models uh they they really matter and and we really scrutinize the uh Revenue projections um that Founders have um my team is comprised of a lot of operators that have been at the highest levels of some of the biggest companies in the space so we really know what it takes to scale a blockchainbased business and sometimes we see Revenue projections that are are somewhat fantasy so we we focus a lot on revenue and um increasingly now in this environment we do focus on the the cap table composition both in previous funding rounds and the current rounds um we don't know what the macroeconomic environment is going to be like in a year from now two years from now so I I want to I want to invest with a solid set of partners that will come to bat for these companies if uh if times get tough when they need to raise their next round or or will provide real material value to help these companies scale that's a good point I also add you're seeing now a lot of like second time Founders in this space particular like someone that had a really big win already because we've been around for a while and now they're doing their second thing and those are pretty fun too cuz they've proven they know the space they see where there's uh gaps to fill those I think those will get interesting over the next year too as well that's great to hear so uh we one of the things I'm curious about is whether you have a sense that there's a higher failure rate in uh web3 startups and startups in general and uh what types of recommendations would you have for entrepreneurs that are starting companies in the space it off um I think there's a high failure rate with venture uh Venture companies early stage startups across the board whether it's higher in web 3 I think it's uh too soon to tell I do think that um over the past couple years there were funds and firms that felt that they were underexposed to this industry so there was an infusion of capital into potentially some unrealistic business models and as those companies uh their run way runs out um and if we're still in a a a sort of dry funding environment we might see some of those companies washing out at a higher rate compared to the broader VC ecosystem um and then you know for for recommendations for companies um I I think in this regulatory environment um incumbents seem to seem to win out um Bill Gurley actually did a big talk on this uh for the Allin Summit um everyone should watch that really good talk but um companies might want to start thinking about um a little more critically about the exit um are these companies going to go public I mean for for token deals you know there's going to be a public listing of the token and that's fine but if it's an uh an operating company that uh people invested for Equity think uh I think the founders need to think more critically about their their exit and if aspects of their business or their entire business is will be desirable to to be purchased or acquired by one of the bigger incumbents whether that's like a a crypt native incumbent like coinbase or a traditional financial institution that's starting to play a more meaning meaningful role in this ecosystem yeah I would agree with that maybe to build on it I think one of the critical failures of a lot of companies in the crypto space has been issuing a token too early that did not have actual utility and in a lot of cases issuing a token that was an registered security and now they're dealing with the Fallout from the SEC and so I'd say the number one thing from the 2017 2018 cycle that would have knapped a company would be to just issue that too early and so that has fed more failures probably in the web 3 space than the broader uh Venture ecosystem I I do think they're resilient though like I'd have to say web three founders are pretty resilient I think you know I've got teams it's a young man's game for sure young woman's game but you know we've got teams that are relocating to different GEOS because it's less expensive living cost and they can extend their Runway longer and it's safer for them to be there for regulatory purposes so you know I think there is a lot of resilience in web3 and for those that have been around for a couple of years they've seen a couple of cycles and so uh you know there's an understanding that things will eventually turn they're outgoing to these things where they're meeting new people new Founders coming into the space that are coming from traditional worlds and you see more and more of that so I think you know I think there's probably a high level of failure cross Venture in general maybe a little bit higher on web 3 but I'd challenge that a little bit it's great to see such a champion for entrepreneurs here panel so David I was just going to add like I do think that um building in web 3 is a lot harder than building in traditional um like a traditional startup just cuz like one you have kind of like the regulation risk of like if you launch a token there's all sorts of scrutiny there but then on top of that you have to worry about things like security making sure that you know like your customer funds aren't going to get hacked you know there's like State actors out there that are actively trying to attack a lot of these blockchains and so that's kind of another element and it's just like you know you might be really good at product you might be really good at building like a consumer application but then you know you have to have like a cryptographer on your team to figure out the cryptography you have to have a security expert and these are just added costs you also have to like it costs a lot of money if you're building a live protocol to get your protocol audited those can also run kind of like hundreds of thousands there's just kind of like extra steps that you don't need to go through if you're building a traditional web 2 company so I think think the biggest advice that I can give to entrepreneurs is like trying to build something in web 3 is like I think you you have to be really devoted to like the crypto ethos like you really want to build something that's like decentralized going to change the world it's going to be tough and then like once you're on board like that's great I I feel like we've seen a lot of entrepreneurs I think that maybe aren't really like committed and or don't understand like how difficult it is to actually like build something in the space and don't understand like those other challenges um and they just think that it's kind of like a traditional web to company and then you know you build something it's not secure and your your funds get hacked and then it just feels like you you take like a big L so um that's that's that's sort of like my my advice okay great well thank you uh so there's been a lot of discussion about regulation during this conference so let's touch on that here uh what are your thoughts on how regulation will impact crypto and web 3 in general so yeah you've had like two panels on regulations so far this morning right it's funny Singapore was anybody else in sing okay like nobody there you meet with f nobody's looking over their shoulders saying oh yeah we got to talk about the regulatory thing nobody's saying oh yeah I got to raise a bunch of money and seven figures of it is going to go to legal in my first 6 months nobody's doing any of that it was so awesome they're just like I'm building this product this is what it's going to do I'm going to do a test net in three months and then we're going to go main net and then we get this whole plan it's like amazing let's do it Dam the Torpedoes it it was great it was great I I'll be a little bit tactical I don't know if you want toad I mean I we live in Steven Lynch's District here um there is no person in the House of Representatives who has been more hostile to this Innovation than Steven Lynch Steven Lynch proposed a bill that was the stable coins are security bill which would make every single US dollar stable coin that is issued on a blockchain of security which is insane he's also proposed legislation that would make it such that only federally chartered Banks can issue these things which goes counter to everything that happens in financial services where New York trust Charters are a thing where companies like Bank of New York Mel and and Fidelity can operate under these Frameworks and so ultimately you know as actors in this space we need to take it upon ourselves to get rid of the politicians that are standing in the way um if Steven Lynch was around at the beginning of the internet he would have said that only Bell Atlantic and NX can operate internet companies I mean this guy's a total joke so um we really I think need to take it upon ourselves as an industry to really elect officials that are going to be pro-innovation um you know so that's my take yeah tell us how you really feel so I think it's great also from the prior panel we know how to contact our legislators to put some pressure on them and really I think that's probably an important part of this yeah she was she was here talking about St withth crypto.com we've also heard a lot of um just like us entrepreneurs thinking about launching projects overseas and so I think like as if you see more of a clamp down of Regulation happening where like people can't do what they want to do in crypto you're going to see a lot of talent leave this area and go to other areas um I think that's just a a net loss for for the US yeah you're already seeing that and it is a loss for sure so yeah I mean TBD on on regulation I fundamentally believe that there there needs to be um strict and clear regulation because I I I think that there needs to be a Level Playing Field for everyone um from an informational standpoint so regulation that that term has gotten you know it's like a dirty word but I I don't think it should be um I am hopeful that we'll have some meaningful Clarity soon and um I keep track of a lot of the the bills being presented there's a lot of crypto and blockchain related bills out there floating around there's bipartisan bills um I think I think something's going to come down the pipeline um in the the intermediate future here uh so I'm hopeful I don't think a good solution is to pack up your company and go overseas just because the environment um might not be that fair able I don't like that approach I mean every I I want America to thrive I want the US to to still be that Beacon and you know it's provided a lot of the these companies the opportunity to even get started so I don't think that's the solution I do think the solution is um playing a more active role in reaching out to your Congress people uh getting involved with trade associations I think that's very important like the blockchain association coin Center they do really great work and I think that's very important and I think more people should get involved with that that that's great I hope people leave inspired to do that and I'd certainly like to see the regulation that enables Innovation rather than constrains the Innovation so anything anything else add on that area I think just because we're here in Boston I I just echoing what everyone's already said but I think it's a shame with all the universities it's amazing to see all of you here with all the universities that we have in the city of Boston and all of the potential and all of the stuff that's all ready and to come out of places like MIT it's just a shame that like Massachusetts in Boston uh being a Boston girl myself like we're just not more out there and More in front of it here like I I'm I'm spending two weeks a month in Miami that's the same yeah and maybe just a you can get me going on the regulation I'll go forever but there I this shouldn't sound theoretical I mean there's two things that really should be passed out of the House of Representatives this cycle probably won't number one is a stable coin Bill and so there should be clear rules of the road on how a financial services firm or fintech should be able to issue a stable coin right now if you look at public blockchain 75% of every transaction is a US dollar moving on chain from a geopolitical perspective having the dollar be strong internationally is in the best interest of the US uh two is a market structure Bill and so this fit act that's working its way through the house right now would give clear rules of the road on how broker dealers Banks and asset managers can safely engage in the crypto ecosystem if those two bills were to pass it would be the equivalent the Telecommunications Act of 1996 which really opened up the internet and so that's what we're asking for as an industry and again back to my point on the politicians we should be electing politicians that want the US to be a dominant place to build a great startup and for companies like Fidelity and back nework melon who want to be in this space to give them regulatory Clarity so that they're not employing an army of lawyers just to get off the ground with their product well great well thank you well in addition to uh the lack of regulatory Clarity uh what other constraints do you see in terms of being able to have web3 projects grow and be successful such as uh lack of sufficient Workforce do you want to start with that David um yeah I mean I I think one of the big problems is just like a public perception I do feel that um sometimes web 3 has a bad public perception given the hacks and given the insecurity and a lot of people think that you know it's there's a lot of like pump and dump mentality people just feel like it's the price action that's dedicating a lot of stuff and they don't really take a peek at what what's going underneath and so I I I feel like there's just a big sort of like brand problem with with crypto and um I also think that crypto uh folks don't really do a good job of kind of like you know putting a good image out there it's very kind of like antagonistic sometimes um and so I don't really know like what the solution is to solve that but I think if we just have a better image of like here's some real useful Tech that can actually help a lot of people and it is and kind of showcasing it that way um you can really get a lot more people on board and supporting the movement great one of the things I think about a lot is just product management and user experience and so a lot of these projects are engineering Le and there's maybe a lack of empathy for users that are not deeply Technical and so if you think about that in the context of the internet it would be like command line interfaces versus web browsers so I think there's a big opportunity for non- crypto people to come into crypto with a product sense and just make things a lot easier to use for people that don't want to engage directly on blockchains yeah I was say the same thing it's still it's still clunky there's still too many missing pieces that smooth it out and those will come but crypto blockchain we haven't had our social media moment yet we haven't really had our gaming moment yet if you think about it there's like a lot of things that the insurance moment the St like there's a bunch of stuff right that crypto hasn't really been able to come because those apps don't exist that are super user friendly and uh everyone can get like Mass majority can get uh value out of but I think that'll come yeah that makes sense um I agree with all that I I think maybe speaking from less of a a retail focused project to a more institutional facing project I see a lot of teams focusing so much on the tech aspect and not paying enough attention to the business development aspect scaling these businesses and if you're if your if your business is geared towards institutions scaling and getting sales is really really challenging and you have to have an equal focus on your business development strategy as you do with making sure the tech is is airtight okay that's a great Insight I I think we have time for one question from someone who speaks very quickly so Aiden I'm honor to be the the representative thank you I was Patrick you said something earlier about um Founders being ready to IPO basically and it struck me is that that like we're right now in a situation where the SE has pretty much a a full like ground stop on passing filings I think we saw that with the circle dpack deal I mean now that the IPO window is apparently opened up effective this week how does that formulate to the panel's like view about how you ultimately are going to get an exit and liquidity to pay your l p i mean that it it it varies by the type of company that that you're talking about there's some the the less kind of like protocol pure protocol projects um so think about uh like chainalysis for example I think a company like that would have a real path towards an IPO I think that would be uh the SEC would be friendly towards towards a company like that but um I think uh realistically a lot of these companies won't IPO and they will be uh incorporated into incumbant Tech stack um you know pay whether it's PayPal coinbase so I think that's a a real a more realistic outcome for a lot of the stuff that we look at and then you know on the token level um there's always the uh the the token launch and that's essentially the the IPO for a token project but um not sure I answered your question there but uh but I think um Acquisitions is is probably a likely outcome for a lot of these [Music] projects