Blockchain started out as a solution looking for a problem. When it couldn’t find any problems, it created some of its own. First came ICOs, then NFTs, and then the cult of crypto that believes that there’s only one way but up. Retail investors aren’t the only ones getting fleeced. With crypto came the emergence of ransomware, a problem that’s likely to be far bigger than what’s being reported.
That’s not to say there haven’t been some green shoots of hope, like Data Gumbo or Othera. More recently, we looked at a company called Securitize which finally brings us the promise of securitization, potentially unlocking trillions of dollars in value and making a whole slew of alternative investments available to retail investors. Progress is being made in a small part of the blockchain world, but a much larger part has become too complex and risky for its own good.
Too Difficult to Follow
When blockchain technology first debuted, many of our writers and researchers passed the buck. Nobody wanted to cover the topic because it was quite difficult to understand. Still, we managed to cope with the complexity. But over time, the distributed ledger value proposition has morphed into something that’s become unrecognizable and littered with so much risk it’s downright scary.
Blockchain has created as many problems as it has solved. Billions of dollars have been scammed from corporations and retail investors alike. The great self-governing characteristics of the technology unraveled when developers disagreed and forks started appearing. Decentralized autonomous organizations (DAOs) are being touted as a way to empower workers in a value proposition that wouldn’t be out of place in a Karl Marx manifesto. In reality, they’re pipe dreams with layer upon layer of complexity. Cryptocurrencies are being built on top of other cryptocurrencies, that then spawn platforms which developers use to build apps on top of the whole thing. It’s quickly becoming an intertwined house of cards that few can decipher. Those that work to understand this complex mess can steal massive amounts of money – like that $600 million heist several months ago.
According to a Tuesday update on Twitter, Poly Network said the attacks had removed assets from Binance Chain, Ethereum and the Polygon network. Blockchain data from the respective networks shows the hackers stole roughly $273 million from Ethereum, $85 million in USD Coin (USDC) from the Polygon network, and $253 million from the Binance Smart Chain.
Hackers aren’t the only problems to watch out for. Blockchain implementations can be their own worst enemy. Just recently, a company called Compound (backed by Andreessen mind you) managed to make a one character mistake in a line of code that resulted in $90 million being given away, after which the CEO begged for it back on Twitter. Not everyone felt obligated to.
Speaking of giving things away, there are common events in the crypto world called “airdrops” where companies just give away cryptocurrency “as a way of gaining attention and new followers.” Since their cryptocurrency has no intrinsic value, they’re just giving everyone more of nothing.
Mainstream tech rags can’t even understand some of these business models. TechCrunch recently tried to describe a blockchain startup called Forta:
We summarized it as an attempt to build Web 3.0 security using Web 3.0 DNA when we were chatting with Brener, and he agreed.
So now it’s the responsibility of the analyst to try and describe a company’s business model while the founder says colder or warmer? Whatever happened to elevator pitches? The rest of the TechCrunch article just descends into a mire of meaningless buzzwords which bring us no closer to understanding what Forta actually does. The author of the piece closes with this admission:
I am sure that at some point in the above paragraphs I got something slightly wrong.
If the founder of a company can’t provide some ground truth for a journalist to understand what his company does, who can?
As risk averse investors, we’re not going to pretend we understand how complex the blockchain topic has become. We have no desire to research business models which founders can’t articulate properly. Instead, we’re going to focus on three use cases going forward which we’ve always believed were the real value proposition of blockchain technology.
- Supply chain traceability – provides visibility throughout the entire global supply chain (move things)
- Securitization – taking illiquid assets and making them accessible and liquid using fractional ownership (assign ownership to things)
- Smart contracts – replace manual back office processes with intelligent automated ones (transfers ownership between things)
We’re MBAs, not economists, but each of these use cases represents a trillion dollar industry that could be transformed by using blockchain technology.
Supply Chain Traceability
Walmart’s CEO recently remarked that the global supply chain challenges he’s facing are unlike anything seen in the past 30 years. The global supply chain is severely damaged right now, and preventing future such problems involves increasing transparency. Companies like Circulor want to enable supply chains with traceability for ESG reasons, but there are far bigger problems to solve. Just-in-time supply chains were disrupted by The Rona leading to a delayed bullwhip effect that’s now wreaking havoc. As we’ve learned in other domains such as telehealth, a pandemic is the perfect opportunity to start applying more technology.
Large tech vendors like IBM are developing blockchain solutions, but companies are also going about developing their own. According to CB Insights’ research arm Blockdata, around 65% of the world’s largest publicly traded companies are now deploying blockchain solutions while a further 15% are still in the research phase. One of the most common blockchain uses cases is supply chain transparency and provenance. For example, Samsung has built an entire global logistics platform – Cello – which is based on blockchain and provides secure information across all stages of a supply chain. While Joe Consumer meddles about trading digital pictures of rocks, blockchain is transforming global supply chains.
If you’ve ever bought a car outright for cash, it’s a nerve-wracking process. You withdraw the cash and meet the owner in some public space. The owner brings the title out of a safe place and signs it over to you as you concurrently hand them the cash. You then go down to the Department of Motor Vehicles with the title and stand in line for 3 hours. If we tracked car ownership using blockchain, the process would be much more seamless. The same holds true for real estate and just about every other asset you can think of that’s owned by someone. And it’s not just about assigning ownership and keeping track of who owns something. Once an asset is tracked on the blockchain, it can then be divvied up to allow for fractional ownership. A million dollar property can be split into 100,000 shares worth $10 each.
That’s the general idea behind securitization. It democratizes access to investments that have historically been off limits for retail investors. In the future, we’ll look to explore the types of alternative assets that may become available through securitization. This also involves transforming existing financial products using blockchain to increase transparency and lower fees. It’s a good segue into our next use case.
There’s a term you’ll hear thrown around a lot these days – decentralized finance or DeFi. We purposefully avoided using this term, opting instead to use the term “smart contracts.” That’s because the promise of automating the many manual tasks that take place in back offices around the world using smart contracts isn’t about cryptocurrencies. (DeFi is largely talked about in the context of crypto.) It’s about taking archaic financial products and processes and transforming them using blockchain technology so that they become more efficient.
Think about how exchange traded funds have worked in the past. The ETF provider licensees an index and then tracks it with a great deal of manual intervention taking place along the way. What about a financial product that is entirely rules-based and uses smart contracts to govern itself as opposed to a fund manager? The entire finance industry could be transformed by using smart contracts that replace manually executed processes. Of course, this requires everything to be tracked using the blockchain and we’re back to square one.
Putting It All Together
To demonstrate how these three use cases interrelate, we’ll use an example that involves investing in an asset class that’s historically been off limits to most – fine wine. It all starts with a plot of land where the grapes are grown.
Each acre of grapes can be uniquely identified on the blockchain. When picked, the grapes are put into bins that are also uniquely identified. The year’s wine production then becomes traceable down to each bottle. This is beneficial for all stakholders in the supply chain, but especially the end consumer. Companies like Everledger now allow one to verify the authenticity of a wine bottle using NFC-powered tamper detection labels and cork tags. Once the wine is sold, it then moves through the supply chain using smart contracts that automatically transfer ownership.
A company like Vinovest can purchase these cases of wine and uniquely identify them using the blockchain. Each case now has an assigned owner who can be assured of authenticity, something that’s a big concern to wine collectors. These securitized assets can then be placed on a secondary exchange like Securitize and traded amongst participants as freely as one trades stocks. Smart contracts automatically transfer ownership when money changes hands. The blockchain has helped solve three main problems for wine as an alternative asset:
- An assurance that a case of wine that originated from a particular place exists at a known physical location (authenticity), that a particular individual owns said case of wine (ownership), and that there is an ability to pass on that ownership right to someone else seamlessly (liquidity)
Being able to describe a blockchain use case so that other people can understand it is a small part of the battle. Then comes the most difficult part – execution.
Blockchain technology holds tremendous potential once you get past all the noise. The problem is, there’s so much noise now it’s nearly impossible to make any sense of it. “You just don’t understand the great transformation of Web 3.0,” you’ll hear them say. And they’re right. We don’t understand why the original promise of blockchain has transformed into something that’s entirely unrecognizable and littered with risk. It’s time to remind ourselves just why we found blockchain technology so compelling in the first place and get back to basics.
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