Picking Apart the State of Blockchain, And Have We Earned It?

Cutting to the chase, here’s what I’m seeing in blockchain and crypto markets. I started writing these thoughts last week, before signs of the current market downturns became visible.

Meme Coins Will Not Yield Anything Except Speculative Fever

I understand the power of community sentiment and excitement as levers that can lift demand, but the intent of a cryptocurrency is not just about the cliché statement: “number goes up”. A bonafide cryptocurrency must serve a purpose and have multiple utilitarian use cases. Meme coins are an interesting phenomenon, but they offer little utility outside of speculative trading. Cryptocurrency markets are already irrational to start with. If you add uncertainty on top of uncertainty, you get irrationality at a multiplied level. The meme coins mania will not end well. Cryptocurrency is not a game or a joke.

SEC and Regulators Still Too Slow

There are the two types of regulators: the slow ones, and the negative ones. As the leading body amongst Western regulators, the SEC continues to be slow and overwhelmed in terms of bringing significant change. A ray of hope was recently uttered by SEC Chairman Gensler when he hinted that a new regulatory entity might be needed in order to properly deal with crypto-regulation. In my opinion, a focused (new) U.S. regulatory body will be necessary if we want to see real innovation in the form of benign regulation. Otherwise, we will get a continuation of hit-and-miss positions, incomplete guidance, overlapping regulatory frameworks, more wild-west behavior and overall risk for all involved. No new regulation is as bad as some incomplete regulation.

China Needs To Blockxit

Let’s be straight: China does what is good for China. Corollary: China doesn’t care about the impact of its actions on the rest of the world. True for technology, economy, trade, healthcare, politics and cryptocurrency. When the Chinese government says they are banning cryptocurrency, miners, crypto-banks, ICOs, or whatever the next thing is, these directives are oriented towards its own people. However, these communications missives muddy the water because of global interdependence implications. For example, I’m looking forward to the day when Chinese miners aren’t the majority anymore. Like the boy who cried wolf too many times, China’s roars on cryptocurrency are often like thunderstorms that don’t bring rain, or a bark without the bite. Each time China tries to whack the next mole, the crypto industry goes “ouch”, feels some pain, but things quickly rebound thereafter, by discounting these actions, and the whole market gets stronger overall.

Exchanges Crave Volumes, Not Validation of Projects

Most exchanges are challenged about managing their vertiginous growth. Volumes are their drug, and they need increasing fee revenues to continue funding their operations. In addition, they are fighting like hell to differentiate themselves from what appears to be a commoditized business. However, exchanges are not the ultimate quality validators for projects, despite what they might lead you to believe. At the end of the day, they just want volumes and will list token projects that are making headlines. Just look no further to how quickly many of the top exchanges tripped over each other to list the top meme coins, caving-in to “popular” demand.

No Price Discrimination

The reality is: some projects are under-valued, while many others are over-valued. But here’s the key question: how do you rationally evaluate tokens? Transaction levels, number of users and fee volumes (if applicable) are still the true North of activity; assuming there is a real raison d’être for a token. Many token-based projects have “apparent” success if you judge by their market caps, a number that has become a vanity metric more than anything more indicative of real value. Many crypto market caps need to be discounted, as there is little correlation to their fundamental metrics.

Governance Tokens Are Overrated

At the heart of most governance tokens, you will see a common legal rider that “the token has no economic value...holders have no claim on financial rights...governance token is used to oversee the xyz ecosystem”. That said, the dichotomy is that, no sooner are these tokens declared to be governance tokens, and supposedly distributed to “voters”, that you see that same token being listed on exchanges (central or decentralized), and very quickly these “no economic value tokens” start to earn exponential economic benefits to their holders. Incidentally, many of these “governance-first” projects end-up with very low voting turnouts (1-3% is not uncommon), and most of them don’t even have a utility role that is critical to operations.

Bitcoin and Ethereum Still The Only True Leaders

I’m not only referring to market cap leadership, although these 2 coins command close to 64% of the overall crypto market cap (as of June 22 2021). Rather, the fact that there are only 2 true leaders in a new emerging era is problematic when you contrast to the 5 Web2 leaders that comprise the FAANG analogy. Today, Facebook, Apple, Amazon, Netflix and Google have a combined market value of $6.7 Trillion, and if you add Microsoft, those 6 tech leaders add-up to $8.7 Trillion. Bitcoin is sitting at about $600B market cap and Ethereum close to $220B. What will be the FAANG of crypto? We are probably far from seeing that group emerge, although for fun, I have made-up the CUBBE gang: Coinbase, Uniswap, Binance, Bitcoin, Ethereum, as potential blockchain lighthouse leaders.

DeFi Is Underhyped, And Mostly Mysterious

Despite its kwarkiness and risk, DeFi is the tip of the iceberg when you think of the future of global finance. But DeFi’s impact won’t be so significant unless it reaches awareness and adoption levels that are orders of magnitudes over the current ones. For that to happen, the barriers to user adoption must be lowered even further. Democratizing liquidity provisioning might be a foundational core upon which other layers build on top of. But each successive layer must be solid first, so that the whole doesn’t come crashing when things start to shake or when the boundaries get tested.

Talking Heads Who Are Not Experts

The market is fickle with commentaries from talking heads who don’t see anything but price action and momentum plays. Every other TV financial commentator is now asked to talk about Bitcoin or cryptocurrency when their knowledge is actually superficial or opportunistic. Most of them are clueless and just spitballing stuff. The loudest or most articulate mouth isn’t the smartest nor the most insightful. Beware of so-called experts who aren’t really experts. Ask them to enumerate several cryptocurrency use cases, or to intelligently describe DeFi, and their knowledge will be as thin as a razor. Someone who invested in an NFT company or just bought an expensive NFT last month is not necessarily an expert on NFTs or their future.

Ethereum Killers Who Are Not

“Ethereum killers” will not kill Ethereum, but will make the market larger. So-called Ethereum killers are still gunning for it, touting this or that feature as their ace card. However, those claims aren’t going far, because each blockchain should stand on its own, by self-differentiating itself based on its peculiar features or achievements. The reality is that - as other emerging blockchains become successful, they make the market larger as a whole. Ethereum and Bitcoin are in a league of their own. Most other blockchains attempt to mimic Bitcoin/Ethereum key aspects, with some degree of variation. Claiming feature superiority is one thing, but acquiring a network effect level of users to validate market success is an entirely different ball of wax.

Working Together Doesn’t Exist

The blockchain is natively global. It knows no borders, and doesn’t like barriers. Just as global issues require global cooperation to solve our world problems, I wished there was more native cooperation between some blockchain standards to increase interoperability, and make the user experience more seamless. Take stablecoins for example. When sending them around, you often need to specify which blockchain network you want them settled on. Sometimes, it’s a choice of 6 different networks. The user shouldn’t need to worry about that. On the other hand, wrapping coins on Ethereum has proved to be another way to ingest standards instead of fighting them.

Wallets Are Still Archaic

On one extreme, there are innovative wallets that are optimized for DeFi (e.g Zapper or Zerion), and on the other side of the spectrum, there is a variety of straightforward wallets that are simply optimized for token swaps. Of course, there is MetaMask as the uber wallet for non-custodial transactions. But there isn’t an all-around wallet that combines ease of use, security, variety (e.g. voting/rights access), DeFi, NFTs and generalized Dapps entry. General-purpose wallets will be to blockchain what browsers were to the Web. We need to see an evolution of wallets that captures the imagination of millions of users. Just as browsers stitched together the hyper-connectivity of content, wallets are stitching together the hyper-connectivity of money.

ICOs By Another Name

ICOs are still happening, but they aren’t called ICOs in order to stay under US regulatory radars. They typically start via a private offering of tokens at a favorable price to accredited investors. Then, a small percentage of tokens is offered (typically to non-US investors) at attractive prices with a cap on the allowed amount (in the $500-$1,000 range) in order to fake the decentralization of ownership, which is a factor along the decentralization spectrum. All these have some lock-up periods that are not excessive. Then, the network is launched, and the token is gradually released into circulation, and finds itself trading on DEXes first, then it gets picked-up by exchanges, depending on the number of headlines generated.

I do not see how the industry can positively move forward while logging garbage tokens with it. Some large market cap tokens in the top 20 will be a train wreck when it is revealed that the Emperor had no clothes. Some other under-valued tokens that represent real token usage, transactions, a circular economy, and active users will emerge and earn their rightful place along the valuation spectrum.

Irrational exuberance and bubbles are good propellers of activity. But bubbles don’t discriminate between good and bad activity.

No matter where we are in the overall market cap spectrum, we need to ask again this fundamental question that Vitalik Buterin once asked in December 2017 when the crypto market hit its first half Trillion mark: “Have we earned it”? Now, this question needs to be applied to each and every token and organization behind it, not just to the market as a whole.

The Elusive Value-to-Usage Linkage in Cryptocurrency Market Valuations

We continue being obsessed in wanting to draw rational relationships between the price of crypto-tokens and the value behind them. There is no shortage of research and analytical viewpoints from analysts, entrepreneurs, developers, pundits or investors attempting to draw definitive relationships that are reliable and widely applicable. Just Google “crypto tokens valuation metrics”, and you will see the variety of what has been written so far on this topic.

My own last attempt was from September 2019, as I enumerated 9 different variables for measuring the health of cryptocurrencies and tokens. But I didn’t profess to have cracked the code on a magical formula or found the magical equation that would become the telling star for these valuations. 

As I lamented in 2017 in The Darkness Side And Long Honeymoons Of Token Sales, we are in dire need for fundamental metrics that could be equated to how public companies’ stock prices are routinely valued:

In public companies, analysts and investors use metrics such as revenues, net income, EBITDA (earnings before interest, taxes, depreciation and amortization), EPS (earnings per share), P/E ratio (price to earnings ratio), and sales growth in order to correlate market capitalization justifications.

For ICOs and token-based projects, what are the equivalent performance metrics?

Some time at the end of 2017, there was hope that a turning point might occur, as the number of token users started to increase to the point where it might have surpassed the number of token speculators. That is when I wrote The Other Flippening: Token Users vs. Token Traders.The hope was that usage activity would eventually prevail as the driving force in token valuations. It was believed that the number of actual token users and the sheer usage inertia behind them would overrule the speculators’ sentiment who were thus far dictating the particular value trajectory of a given token. Fast forward to today, 3 years later. I believe we find ourselves caught in the same dilemma. 

Two promising blockchain metrics have struggled to become real prognosticators of token value that we could have banked on, because they failed the test of times. 

First, take gas fees on the Ethereum network, as an example. As the network became more popular (a good thing), it also became slower (a bad thing), resulting in increased gas fees to run the variety of smart contracts. The interpretation of the increased gas fees became a point of contention: on one hand, increased gas fees count as part of “network revenue” (a good thing), but on the other hand, it also meant that each given transaction became too expensive to run on the Ethereum network (a bad thing), and that forced some use cases to consider either moving to Ethereum side chains or other chains (a bad thing for Ethereum). 

What did the Ethereum token price do during this period? First it went up, then it went back down, but it was very hard to establish a real correlation via any type of equation or quantitative measure that could be followed reliably.

Second, take DeFi, a sector that has been described to be “on fire”, and on an aggressive growth trajectory. As recently as July 2020, it was commonly accepted that the DeFi Total Value Locked (TVL) was a good indicator for the valuation of the DeFi market. As TVL continued to grow, so did the total market cap of the top DeFi tokens, until that correlation broke-down shortly thereafter. At the time I wrote my last piece on DeFi in early September 2020, (For DeFi to Grow, CeFi Must Embrace It), the total DeFi market cap was hovering at $16B. Today, it is about $12B despite a TVL continued climb from $9B to $11B today. 

One could justify this pull-back by citing traditional market behavioral dynamics that typically price underlying instruments ahead of expectations, but deflate themselves after the news has been made public, and that is a common psychological yin and yang in markets behavior. Perhaps that was the case. 

That said, keep in mind that the DeFi “TVL-to-market cap” relationship I cited above draws on “macro” metrics, based on the health of the entire segment, and that is a lot easier to quantify than trying to apply metrics to individual tokens based on their own intrinsics. Good luck in trying to translate the macro view at individual token correlation level.

In addition, DeFi had the peculiar artificial reality that for many of these tokens, their price was often driven by automated market maker algorithms that do not factor prior judgement in, or knowledge about usage metrics, and rather derive their core from a given demand / supply dynamic curve and the presence of a variable liquidity pool. Tight liquidity/float pools create artificial price points that need to be tested over time.

This leaves me to conclude that, in the absence of correlatable metrics, we are only left with vanity metrics, or perhaps just “input-type” of data points that could one day find their way into some set of correlative equations that will make sense. 

The other peculiar anomaly between traditional stocks and crypto markets is the fact that, in crypto markets, the same currency that has actual (user) utility is the one that investors/speculators partake in owning. This is in contrast to stocks that are just a unit of account, but cannot be used to purchase related products or services from the underlying issuer. 

You would think that this intrinsic singularity within crypto markets should give room for an even tighter correlation to emerge between usage and value, but this hasn’t happened yet, at least not in a way that we can start to build a body of support behind it. 

Of course, we still have hope that one day, the usage of highly popular cryptocurrencies (whether via user or developer traffic) would append and dictate the actual value trajectory of the underlying token, but that day is yet to be expected sometime in the future. 

Imagine if you were mandated to pay for charging your Tesla via a fraction of a Tesla stock. In essence, you would need to keep buying Tesla stock, (therefore creating demand for Tesla stock and contributing to its eventual rise) in order to pay for an electric charge (excluding from your own charging station for example). Of course, as the Tesla stock price goes up, your actual cost for charging would go down, and that would be a good thing. If for some reason, Tesla owners stopped driving their cars, the ensuing decrease in activity would result in less demand for Tesla stock/currency and its price would dwindle accordingly. But at least, there would be a real linkage between usage and demand, something that is natively intrinsic to crypto tokens. 

In the blockchain space, on-chain fees/revenues still hold a good promise for being a leading indicator of blockchain network value. Ethereum has a proposal for making the fees schedule more dynamic (EIP 1550 and Fee Structure), which promises to make payments more equitable, but also potentially more difficult to correlate. That is certainly a development area to watch.

My friend Evan Van Ness aptly called a number of chains “Zombie Chains”, based on the little number of transactions that actually pass through them. That is an example of negative metric correlation that is nonetheless logical and easy to understand or validate. 

The top 7 🧟🧟‍♀️🧟‍♂️zombiechains have 30+ billion in market cap ($XRP/$BCH/$LTC/$ADA/$BSV/$EOS/$XTZ)

The top 7 DeFi protocols ($AAVE/$UNI/$YFI/$SNX/$MKR/$COMP/$UMA) have 1000x more users than the zombiechains and are together about $3.5b

Which do you think is overvalued? 🤔

— Evan Van Ness (@evan_van_ness) October 5, 2020

We continue to be in the iterative stages of finding the holy grail of correlation metrics between crypto tokens value and usage. 

For this reason, I believe we are still in the stage of qualitative crypto tokens valuation, where the price of tokens is primarily driven by speculative perceptions, brand value, and creator promises. 

Pulse, Impact and Breadth (PIB): A Simple Framework of Metrics for Evaluating Cryptocurrencies and Tokens

The valuation of cryptocurrencies and tokens has been an ever challenging topic in the blockchain space. Numerous methods and formulas have been proposed. However, in my opinion, nothing has yet emerged as being generally accepted or a de-facto standard, in the same way the widely accepted “earnings-per-share” (EPS) is the common metric traditional financial markets adhere to. 

Before jumping to devising models and equations, I think we need to have good visibility on the basic units of “input data” that could be used to then construct such formulas or later develop quantitative methods. 

Last year, I enumerated a number of Blockchain Metrics for quantifying usage. It was a step in the right direction, but here I’m organizing 9 metrics as the essential ones on top of which valuation frameworks could be constructed. Here, I have focused on bringing visibility to few metrics that have potential characteristics of being absolute in the sense of clarity, and therefore, they could carry little ambiguity when being published.

I believe that the industry needs precise data points that cannot be challenged (similar to the EPS analogy). For example, the number of public shares a company floats or issues is known and can be trusted as the real number. This is why the EPS number is trusted and cannot be debated. The EPS multiples that analysts decide to project for a given stock to derive market capitalization is a subjective number that is chosen later. 

That is why, for the blockchain sector, as a starting point, we need fewer, but more essential data points, not a panoply of metrics with no head or tail. Furthermore, the language around the metrics should be clear, non-technical, and easily understandable. 

The following is my attempt to list the essential data points organized under the PIB moniker, referencing the following descriptive sub-categories: Pulse, Impact, Breadth. 

In the field of quantification methods, there are inputs and outputs. There is causal activity and there are resulting effects. These metrics I’m proposing are in the “input” and “causal” categories, which means they can be used to in a variety of analysis methods to derive resulting outputs and effects.

PULSE

The metrics in this category pertain to the dynamics behind the network’s operations. 

P1 Number of (active) Nodes 

The nodes are an essential native unit for blockchains. 
What is the number of nodes that are servicing the underlying peer to peer network?

P2  Ownership distribution of nodes 

Decentralization is a key attribute, and it can be argued that a more even distribution of ownership is better for the future health of the network.
What is the ownership distribution of the nodes in operations? 

P3 Speed of transactions 

Although public blockchains (and many dApps) are not known for their transaction speeds, how quickly are transactions finalized is an important factor that indicates the actual throughput of a blockchain or app.

IMPACT 

In this category, we look at the financial and economic aspects behind the cryptocurrency. 

I1 Transactions Volumes (in fiat denomination)

Here, we need to make a clear distinction between currency-to-currency transactions (C2C) where the user is just exchanging one cryptocurrency for another (I1a), versus on-chain transactions that are used for a given utility, eg. earning/spending, gas costs, staking costs, etc. (this excludes the native earnings from mining or minting activity (I1b). Here, I1 = I1a + I1b. 

I2 On-chain Revenues 

These are the revenues from mining, minting, or rewards related distributions.

I3 Values in Wallets

What is the fiat-denominated value of current holdings in all issued wallets? See B3 to also include the segmentation between user vs. non-user wallets. Here, I3 = I3a (users) + I3b (non-users).

BREADTH

Breadth pertains to the available token/cryptocurrency. It is closest to the number of shares (float, restricted, issued) in public stocks.

B1 Units in Circulation 

What is the total number of tokens/cryptocurrency units in circulation? (both in the hands of users or investors)

B2 Units Held

What is the number of units that are either un-vested, un-minted or not yet issued? (publishing a vesting schedule is useful)

B3 Number of Wallets 

A distinction should be made between the wallets being held by users versus non-users. Users include app end-users or developers that need to use the token or underlying cryptocurrency to run their programs. Here, B3 = B3a (users) + B3b (non-users).

It is my opinion that we need to start with the above metrics before constructing valuation models. Once these numbers are available, any analyst can decide what equations to fit them in, what multiples or weights to give them, and how to construct various methods to derive meaningful comparative metrics. These can apply for blockchain protocols, networks and applications. 

I encourage crypto projects, blockchains, analysts and data sites (I provided a list to some of them in this blog post, Where Are All the Decentralized Applications) to help make that data easily available so that we don’t have to spend time finding it. It is the responsibility of each issuer to make sure their data is visible and easily measurable with integrity. 

Of course there are other metrics, but I believe these are the ones where a differentiated analysis can be built upon. Almost everything else could be a derivative of the above numbers. Many other blockchain/protocol metrics are table stakes or vanity metrics not worthy of comparative studies.

In a subsequent post, I’m going to propose some meaningful derivative ratios to consider, in the same way that the EPS is a meaningful ratio and reference point. As usual, I welcome suggestions on what these ratios should be, and any feedback on the proposed PIB framework.

The Other Flippening: Token Users vs. Token Traders

In June 2017, the cryptocurrency world got distracted with the flippening prediction, a reference to when Ethereum was going to overtake Bitcoin in terms of market capitalization. That flippening got close, but didn’t happened.

While Ethereum’s chances of closing the gap between its valuation and Bitcoin’s have recently dwindled, there is another significant flippening we are yearning for: the number of token users versus the number of token traders.

Tokens are issued for a specific purpose, typically as the main economic unit of a blockchain protocol, infrastructure, or application. That’s the user view. More user activity in the form of engagement with the platform being provided (infrastructure, protocol or application) is the ultimate goal.

In contrast to the end-user (or developer) view, the investor view is to see the token as a financial instrument whose value appreciates over time.

Currently, there is a divergence of motivation between users and investors. If the bulk of activity is tilted towards investors, that tends to increase the token value, with a risk of over-valuation.

This balance must be achieved on a case by case basis. Each application, protocol or infrastructure must strive to increase its token usage level to counter the natural pressures of investor frenzy that want to push the token price up, without any regard to token-based user engagement. Some investors don’t even understand what the token actually does, let alone have an interest in experiencing its utility. This isn’t unlike the current structure of public capital markets where, for example not all stockholders of Tesla’s stock (TSLA) own a Tesla, but at least they believe in the long term growth of the company, hence buy the stock as a value appreciation proxy.

During my presentations at conferences, my favourite audience question is to ask how many own cryptocurrency versus how many are using the token to actually perform the function it was intended to. While 95-100% typically own cryptocurrency, only 5-10% raise their hands when facing the token usage question.

I’m not sure what the right equilibrium ratio is, or whether knowing it accurately matters. Maybe we can point to Bitcoin and Ethereum as references, since these two networks are mature now with plenty of actual usage. But even then, the volatility in price fluctuations for these two currencies is still high, which points to the fact that speculators still believe that these networks are undervalued, and there is this constant cat-and-mouse chase of value versus valuation.

It is generally accepted that the divergence between value and valuation is more prevalent in the early parts of a token’s life. Until there are tangible metrics for quantifying the real value of a token’s utility, the gap between value and valuation will continue to defy conventional wisdom and conventional valuation methods.

The following chart depicts a theoretical progression for the value vs. valuation gap, over the lifecycle of a token. Note that the depicted gap is relative.

I’ve already written about this in this past article, where I’m re-publishing a relevant passage that is worth re-reading:

In traditional venture investing, we are used to relatively well defined stages: angel, seed, Series A, B, C, D, E, F, then IPO. Each one of these phases has generally accepted stage characteristics pertaining to product evolution (alpha, beta, launch), product-to-market fit, and continued user growth, and resulting market acceptance and share.

In public companies, analysts and investors use metrics such as revenues, net income, EBITDA (earnings before interest, taxes, depreciation and amortization), EPS (earnings per share), P/E ratio (price to earnings ratio), and sales growth in order to correlate market capitalization justifications.

For ICOs and token-based projects, what are the equivalent performance metrics?

In the long term, there is no escaping real metrics, and these are only visible after the market launch stage. Perhaps they will be similar to traditional financial performance metrics, and maybe there will be new ones that emerge.

Ultimately, how do we achieve valuation rationality? What will replace the price to earnings ratio, a key driver to market capitalization values?

Some argue that a decentralized protocol doesn’t need a direct revenue model, because an open protocol is free to use. It is typically driven by an open source community and/or a foundation. However, even non-profit foundations need an operational budget which could come either from donations, or from a percentage of token ownership. Foundations and ICO projects can theoretically continue selling some of their tokens in order to finance their operations indefinitely, as long as the markets continue to give them healthy valuations, based on the strength of their ecosystem, volume of transactions, or real revenues.

However, it is still unsure whether continuously dipping into the publicly crowdsourced markets to finance operations is a long term viable approach.

Not all ICOs are created equal, and not all of them are protocols who can live on the strength of an ecosystem around them, let alone the token that gave them birth. Although all projects have visions of being the next Bitcoin or Ethereum (just as regular startups dream of being the next Google or Facebook), we are seeing many ICOs looking just like applications, marketplace products, or technology solutions. They will need to eventually show real revenues or viable business models in order to strengthen and support the public valuations they will be receiving.

I believe we will eventually return to more palpable metrics to guide us in measuring the valuation characteristics for marketplace, product, and applications-based ICOs because they will have revenue expectations. Protocols are a bit different, and they are still a new beast whose success characteristics may still be unclear. To make things more interesting, not all decentralized applications need a special protocol, and not all protocols necessarily need a special token. Keep in mind that some decentralized applications rely on an underlying protocol that only serves the application itself, which means that the protocol’s market importance could be over-stated.

I’m looking forward to seeing more ICO projects provide increased clarity about the performance metrics expectations they plan to exhibit during their future adult lives, in addition to the assumptive utility of that token they are selling.

This is why I’m a proponent of seeing some visible form of operational token utility prior to allowing the token to trade in the hands of public speculators. Even if the token utility is still not mature or complete, at least seeing its beginnings would give a reality check on where it is going. (Melonport is a very good example of a protocol that can already be used with its token, prior to its final public release)

The speculative hype can live for so long before there is real value. A vision, a white paper, or market advocacy are not tangible value. They are a promise for future value.

The Darkness Side and Long Honeymoons of Token Sales (Part I)

There is a period between the initial token offering and overall market rollout/acceptance where darkness prevails.

If we look at the lifecycle of a crowd sourced crypto technology project, there are 3 apparent evolutionary phases:

1. Initial Launch

2. Development

3. Market Rollout

The Initial Launch steps include explaining the vision, writing a white paper, and obtaining funding via the initial crowd sale offering. In this stage, lots of excitement prevails.

The Development stage is primarily devoted to software development of the technology, protocol and capabilities, team buildout, and early testnet or beta usage.

The Market Rollout focuses on entering the marketplace via user acquisition and growth, ecosystem development, user engagement and overall market acceptance.

In some cases, software development has already started before the token sale, and there are degrees of readiness and elapsed time ahead of the market rollout.

Shortly after Launch, however, most projects quickly step into a Darkness stage. Darkness relates to the scant amount of transparency that prevails, relating to exactly how they are doing. Outsiders do not really know the precise status of the project, despite transparency attempts.

This prevailing darkness also relates to how the cryptocurrency markets value the company (or speculate on it), as the public tries to interpret progress and evolution from the development stage into the market installation phase, by reading the tea leaves.

Especially in the first year, optimism continues to prevail for most projects, and the market is told what the founders want it to hear, making the darkness appear to be less frightening. Whereas a half-empty glass stance sees this period as darkness, a half-full position would see it as a long honeymoon.

Along the journey to the market rollout, there is an interim step,- a Transitional period where early signs of market acceptance and usage begin to appear, but clarity on the product-to-market fit hasn’t necessarily taken hold yet.

The ultimate destination is, of course when the market begins to accept the technology. At least at that stage, users should be able to start extracting value from the product, protocol, application or technology offering. In essence, we can start seeing a reality unfold, and quantifiable metrics start to emerge that could be correlated to market valuation. It can take a good two years before these real market signals emerge.

From Transparency to Real Valuation Metrics

In the traditional venture capital segment, investors are privy to how companies are doing. In the case of these ICO-driven projects, as I’ve stated several times before (Watch Out, the ICOs Are Coming), the level and quality of public transparency is varied, and there is a lot of dressing-up going on.

I am interested in better understanding the relationship between the speculatory and real intrinsic valuations for these projects (a subject that we will debate and discuss at the upcoming Token Summit in New York on May 25 2017).

Of course there is value in the degree of transparency provided, but self-transparency can be incomplete, resulting in subjective interpretations.

In many cases, the markets are giving forward valuations that are based on the speculatory expectation for what the technology can do, or promises to do. But these forward valuations are not squarely related to where the project really is.

So, how do you value these companies, projects, decentralized protocols, applications or technologies?

New Performance Metrics or Old Ones?

In traditional venture investing, we are used to relatively well defined stages: angel, seed, Series A, B, C, D, E, F, then IPO. Each one of these phases has generally accepted stage characteristics pertaining to product evolution (alpha, beta, launch), product-to-market fit, and continued user growth, and resulting market acceptance and share.

In public companies, analysts and investors use metrics such as revenues, net income, EBITDA (earnings before interest, taxes, depreciation and amortization), EPS (earnings per share), P/E ratio (price to earnings ratio), and sales growth in order to correlate market capitalization justifications.

For ICOs and token-based projects, what are the equivalent performance metrics?

In the long term, there is no escaping real metrics, and these are only visible after the market launch stage. Perhaps they will be similar to traditional financial performance metrics, and maybe there will be new ones that emerge.

Ultimately, how do we achieve valuation rationality? What will replace the price to earnings ratio, a key driver to market capitalization values?

Some argue that a decentralized protocol doesn’t need a direct revenue model, because an open protocol is free to use. It is typically driven by an open source community and/or a foundation. However, even non-profit foundations need an operational budget which could come either from donations, or from a percentage of token ownership. Foundations and ICO projects can theoretically continue selling some of their tokens in order to finance their operations indefinitely, as long as the markets continue to give them healthy valuations, based on the strength of their ecosystem, volume of transactions, or real revenues.

However, it is still unsure whether continuously dipping into the publicly crowdsourced markets to finance operations is a long term viable approach.

Not all ICOs are created equal, and not all of them are protocols who can live on the strength of an ecosystem around them, let alone the token that gave them birth. Although all projects have visions of being the next Bitcoin or Ethereum (just as regular startups dream of being the next Google or Facebook), we are seeing many ICOs looking just like applications, marketplace products, or technology solutions. They will need to eventually show real revenues or viable business models in order to strengthen and support the public valuations they will be receiving.

On the positive side, some metrics are starting to emerge.

For example, consider SIA and Storj Labs, both providing decentralized cloud storage services. SIA has stated they will retain 3.5% of contracts revenues, and Storj will be charging users a flat cost for their service. ICONOMI will keep 30% of the fees generated by fund managers that use their platform. In essence, these 3 companies are implying that they will be eventually profitable, and we will eventually be able to correlate their financial performance to their market valuations.

The above examples can lead to quantifiable metrics, and they will be helpful in proving whether a real business supports the longevity of a project.

I believe we will eventually return to more palpable metrics to guide us in measuring the valuation characteristics for marketplace, product, and applications-based ICOs because they will have revenue expectations. Protocols are a bit different, and they are still a new beast whose success characteristics may still be unclear. To make things more interesting, not all decentralized applications need a special protocol, and not all protocols necessarily need a special token. Keep in mind that some decentralized applications rely on an underlying protocol that only serves the application itself, which means that the protocol's market importance could be over-stated.

I’m looking forward to seeing more ICO projects provide increased clarity about the performance metrics expectations they plan to exhibit during their future adult lives, in addition to the assumptive utility of that token they are selling.