How We Invest (and Why We Haven’t Done a Web3 Deal)

This week has been a fascinating one with the blowup of crypto-exchange FTX and the related fallout. Unlike Theranos, many well-known Silicon Valley funds were investors in FTX and will lose serious money, which seems to be causing a lot of folks to dunk on venture in general.

I have two responses here. First off, the purpose of venture firms has always been to take big risks on unproven technologies and founders. It’s preordained that some of these bets will go to zero. So just because a once high-flying company crashes and burns doesn’t mean that there is anything wrong with the industry or model.

On the other hand, Web3 was different. We have been actively making early-stage investments for the last ~3 years out of our fund and have observed the Web3 craze firsthand and up close. We’ve seen many, many Web3 deals and never invested in any. Why? Because Web3 was the one area in which investments didn’t seem to pass the most basic criteria for investing.

  1. Business model and margin potential. At Range, we invest in determined entrepreneurs solving meaningful problems with business models that if successful, will in the future yield significant profits and cash flow. In contrast to this, the Web3 companies that we saw generally tended to be solutions in search of problems. It was usually not very clear as to exactly why Web3 technology was needed to build a given business. These businesses always seemed to be Web3 first, business need second.And to the extent that these companies were trying to solve a genuine problem, it was almost invariably a problem that was newly created by the Web3 ecosystem. Furthermore, the basic ideas of margin and future profitability seemed to be discarded in favor of hand-wavy tokenomics, which essentially boiled down to a belief that as more people started using a given product, the token price would magically go up, making everyone rich.
  2. Diligence and hype. We believe that it is critical to do basic due diligence on a market and founder, talking to references and current and prospective customers. We spend lots of time with founders and ask probing questions to really understand their thinking and the key levers of their business. We meet with hundreds of companies each year and every founder we’ve ever met fully expects that it is their job to sell and educate us about their business and answer key questions and assuage doubts…except for many Web3 founders. It was striking that over the past couple of years, different rules applied to these companies. First, before starting the conversation, there was almost the expectation that you needed to prove your Web3 cred. Did you own an NFT? Were you all in on BTC and ETH? If not, the founder might not have much time or patience for you. You were either a true believer and part of the religion going in or you were a hopeless idiot. I’ve never seen this type of thinking apply to founders in any other area of technology.
  3. Valuation. While we fully understand that the power law dominates in venture returns, we also have always believed that entry price matters. In an era in which all prices were frothy, Web3 companies took things to an even more stratospheric level. Likely due to the wealth effects from token holders, a Web3 deal in 2021 would typically be valued at 2x the equivalent non-Web3 deal. This made absolutely no sense to us; the addressable market size for a product is the same whether you are using blockchain technology or something else. Coupled with the lack of coherent business models, paying a premium price for a Web3 company has always just seemed like a straight-up bad investment compared to the many other compelling opportunities we regularly see.

Were we ever tempted to do any Web3 deals over the past few years? Of course. We received consistent pressure from existing and prospective LPs  and other VCs and questioned our own assumptions many times as we saw others in the market seem to make easy money hand over fist. 

We believe that blockchain technology is an exciting technological advancement and has potentially interesting applications. But thus far, we just haven’t seen any exciting investable businesses. 

Now that the market is having a massive reset, we are hopeful that the next set of founders is able to more soberly incorporate this technology in the way that other technologies have been used over time: as a means to achieve important ends that customers actually want to use and pay for. But the religiosity, dubious economics, and hand-wavy explanations need to end, and I’m cautiously optimistic that they will soon. 

If they do, I wouldn’t be surprised at all if ten years from now we look back and have a number of companies in the Range portfolio that utilize blockchain technology. But they won’t be “Web3 companies”; they’ll be businesses solving real problems that utilize whichever technology best accomplishes those goals.