Crypto's Old Money Struggles Against Bigger Players
The "Berkshire Hathaway of crypto" could get squeezed out.
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Crypto investing used to be a small niche, and the number of professional investment firms could be counted on one hand. But as digital assets began to rise, the giants of Wall Street and Silicon Valley are now pushing the original players to the fringes of the market.
That’s a threat to KR1, one of the first investment firms in the cryptocurrency industry. According to co-founder George McDonaugh, the UK-based firm has been providing seed funding to blockchain projects since 2016 – decades, as measured in crypto years.
Seed capital is less complicated than standard venture capital funding. Startups often use seed funds to pay for initial development in exchange for a stake in the company. In crypto, seed investors receive tokens at a steep discount.
KR1 has invested in 35 blockchain projects, including big names like ethereum and Augur. By investing at seed-level, McDonough says, the company normally receives a 40% discount compared to asking prices in later-stage offerings.
This has advantages, and not just for immediate returns. Getting in at the seed round “basically means we can still turn a profit at almost any level,” McDonaugh says.
One of the less-successful names in their portfolio is Elastos (ELA), which was accused of holding an unlicensed securities sale in the U.S. Although token prices soared to nearly $60 after the ICO in January 2018, Elastos is currently trading at just over $3, barely above the asking price at the public sale.
“[T]his is why it’s vital to get in at the seed level,” explains McDonaugh. “You get to invest early and with discount…Elastos has fallen spectacularly since last year but we still made a profit.”
Crypto’s Berkshire Hathaway
Unlike some other crypto investment companies, KR1 is a public listed company (plc). Anyone can buy shares in KR1 and receive dividends. This approach has many advantages, McDonaugh explains.
For one, it makes it easier for institutional investors, who are sometimes restricted from buying digital assets, to gain exposure to cryptocurrency. It also makes it conceptually easier for traditional investors to add crypto to their portfolios without setting up an exchange account or a cold wallet.
Even for those that want to own digital assets, there are other advantages. Like any other investment company, KR1 does the legwork and research so investors don’t have to. Because they invest at seed level, their returns are generally bigger, which ultimately benefits the shareholders.
It sounds quite a lot like the set-up at Berkshire Hathaway, Warren Buffet’s outfit. Investors gain the same exposure as the “Oracle of Omaha” by buying shares in the company on the open market. Asked if KR1 is could be considered the Berkshire Hathaway of crypto, McDonough responds with a grin. “We get that a lot”, he says.
But the real cinch, he explains, is that UK investors can put KR1 shares in their individual savings account, making their gains exempt from income and capital gains tax up to £20,000 ($26,000). “KR1 retail shareholders can effectively make a tax-free return from crypto,” McDonaugh says.
The network effect
McDonaugh still relies heavily on the network of developers and other investors who were with him from the early days. There is “no point” in employing teams of researchers to scour whitepapers, he says: the best projects almost always come recommended.
“Whitepapers are a resource,” McDonaugh says, “but projects change and edit them over time. The best thing any investor can do is to stay close to the magicians who are building this stuff.”
The projects in which KR1 invests come almost exclusively from within their network. KR1 didn’t invest in EOS last year, because many of their contacts were highly skeptical about the underlying tech and actual offering. “If we had invested in EOS, we would have effectively shut the door on many of our allies,” McDonough explains.
Sometimes they are drawn to a project because of the underlying tech, other times because of an interesting use-case. One project they almost invested in was a proposition to tokenize vast swathes of the Scandinavian fir forests. “It was pretty out-there,” McDonaugh admits.
KR1 keeps busy, and typically speaks to five projects at a time. Most are based in Europe or the USA, with a few from Hong Kong. But the UK capital remains the main focus. “Our main thing is that we don’t want anything coming out of London which we don’t know about,” McDonaugh says.
But more fish seem to be slipping through the net. The network painstakingly built by McDonaugh and his team over the past three years is facing competition from ConsenSys and, increasingly, from tech giants, like Facebook, who are making their presence known.
These players have deep pockets and insist on exclusivity, and promising projects are increasingly being snapped up by KR1’s larger rivals. “We helped Aztec [an Ethereum privacy protocol] out and then ConsenSys snapped them up,” McDonaugh says. “We actually found Chainspace [a smart contract solution] and then Facebook acquired the people building it.”
“I’ve tried speaking to the Chainspace team but they’re all tied up with NDAs at the moment,” he added.
Squeezed by Giants
Crypto is slowly integrating into mainstream society, and the behemoths of traditional finance and Silicon Valley are dipping their toes into digital assets. Even Elon Musk recently tweeted to his followers, asking for the best potential applications for Ethereum.
What should be developed on Ethereum?
— Elon Musk (@elonmusk) April 30, 2019
That was unimaginable back in 2016, when KR1 launched.
Investment is a numbers game: the bigger you are, the more money you make. KR1 and other seed-round investors have benefited from having the space to themselves for a very long time. That is slowly changing, and the Berkshire Hathaway of crypto finds itself struggling to survive in a space that is filling up with giants.