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How Venture Capital Can Identify and Evaluate Promising Web3 Projects in 2023

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by Eloisa Marchesoni, of Tokenomics.Agency, LTD.

The Web3 landscape can be challenging due to the rapid pace of innovation and constantly changing nature of the blockchain ecosystem. It is important for investors and entrepreneurs to stay informed, have a strong network of industry contacts, and carefully evaluate the risks and rewards of different projects. The Columbus voyages serve as a historical example of overcoming challenges and seizing opportunities through perseverance, courage, and vision, but would not have gone far alone: to his rescue came Isabella of Aragon.

The cost of building the three caravels for the Columbus voyages may have been around 60,000 gold ducats, which would be equivalent to about $14 million at current exchange rates. The value of goods “imported” from Spanish colonies in the Americas during the 16th century was around 10 million gold ducats per year ($2.5 billion today).

Key Performance Indicators

Those were other times: nowadays, a good venture capital entails investing in a company with a strong management team, a clear and feasible business plan, and a product that addresses a significant market need. It is also important for the company to have a competitive advantage and a scalable business model.

Other factors to consider in a good deal are the size of the market opportunity, the potential for significant returns on investment, and the level of risk involved. In addition, it may be wise to invest in a company that has a diversified customer base and a strong financial track record.

In the world of venture capital, it is crucial to be able to identify and invest in promising projects in order to increase the chances of success. To do this, it is important to establish parameters to determine cases of success and failure.

There are many types of KPIs that organizations in the Web3 space may use to measure their performance and track progress towards specific goals.

  • User adoption and retention
  • Transaction volume
  • Network activity
  • Revenue

Other KPIs could include metrics related to security and cost-efficiency. Let’s focus now on this first aspect:

Tokenized audits

I closed one of my recent essays with a cliffhanger about an impromptu idea that I had come up with. As a venture capital firm, it is important for funded projects to be audited before investing, to make sure that everything is in the right place, however sometimes it happens that despite seemingly flawless audits, something goes wrong. If an audit is done and paid for, perhaps by a VC of all people, wouldn’t it be appropriate to place a certain amount of responsibility on them as well? Let’s tokenize them!

One solution that could be implemented is a smart contract with payment lock-up provisions: the audit company could receive 50% of their payment upon completion, and the remaining 50% could be locked up for a period of two years. If everything goes well with the project, the audit company would receive the remaining payment as planned: if something goes south and it is discovered that the audit was not thorough or accurate, the company will be left with only half of the payment, which in some respects could still be too much.

Another key aspect of the tokenization of audits is that they could no longer disappear or be changed, as we have already seen so many times in this troubled 2022. Such an approach would provide an additional level of reassurance for venture capital firms, as it would incentivize the audit company to thoroughly and accurately assess the project in order to receive their full payment. It would also serve as a deterrent for audit companies to cut corners or overlook potential issues in order to receive their payment faster.

10 key points

From an investor POV, it is important to consider the following ten points when evaluating a Web3 project:

  1. Bugs in the source code might denote a lack of attention to detail and potentially signaling future problems.
  2. Although partnerships and collaborations can be beneficial, be wary of investing in projects that rely heavily on nepotism or friendships rather than solid business ventures.
  3. An unlimited max supply of tokens can be a turn-off, as it suggests a lack of scarcity that could potentially devalue the token.
  4. Celebrity endorsements could often backfire and attract negative attention.
  5. A lack of reserves can be a major risk for investors, who might be forced to unexpected disbursements
  6. An anonymous (or masked) team is a red flag, as it raises questions about the accountability and transparency of the project
  7. A poorly designed website and lack of social media presence denotes that the project is not properly managed and publicized.
  8. A lack of events may indicate a lack of commitment in building a strong community.
  9. Lawsuits, whether against or involving the project, always bring problems
  10. A clear roadmap outlining the direction and goals of the project is important to understand the long-term vision and potential for growth.

No joy for rude VCs

Many years ago I had lunch with someone. Inside the restaurant, my date was very unkind and nasty to the waitress. I felt uncomfortable with such behavior and intervened by telling him that I was considering it inappropriate. My date responded that we were paying for the meal, so the waitress was our “slave” and we had the right to treat her as we wished.

This experience made me realize that there are people who think that money gives them the power and the right to treat others badly.

It is always better to be kind and respectful in business negotiations than to act as if everything is owed to us.

This kind of attitude is not good under any circumstances and can even backfire.

VCs Landscape

In 2021, venture capitalists invested more than $33 billion into crypto and blockchain startups in that year, which is more than all prior years combined: two-thirds went to fundraising rounds with deal sizes above $100 million.

The same year, the trend of professionals and talent moving from web2 space to web3 became evident, as big tech companies started laying off workers in anticipation of an economic downturn.

Companies offering to trade, invest, exchange, and lend services to digital assets investors led the pack with more than 41% of the capital share, but startups building in the NFT, Web3, DAO, and Metaverse sub-sectors came in second with 17% of the capital allocation.

In 2022 $40 billion have been poured into various startups and projects, including decentralized finance (DeFi), Web3, and non-fungible tokens (NFTs). Some of the companies that raised significant amounts of money through funding rounds:

  • Haun Ventures, which raised $1.5 billion for two Web3-focused investment funds
  • HTX, which launched a $1 billion fund focused on DeFi and Web3 projects
  • Dapper Labs, the creator of NBA Top Shot, launched a $725 million fund to support the development of its “Flow” blockchain.
  • Dragonfly Capital raised $650 million for DeFi, metaverse, and blockchain gaming startups Fireblocks, a digital asset custody platform, raised $550 million in a Series E funding round.

The future

The cryptocurrency market will continue to attract investment from venture capital firms in 2023 despite recent turmoil and volatility. The quality of upcoming projects and the potential for growth in a bear market make the industry worth the risk. Although compared to business angels, VCs are more profit-driven, it should be still important to focus on projects with a real impact and a positive contribution to societal change.

  • The DeFi sector is expected to continue to grow and mature, with the emergence of new projects focused on interoperability and cross-chain communication and we’ll see new forms of decentralized capital markets, investment funds and credit rating agencies.
  • The inescapable rise of central bank digital currencies and the increasing adoption of stablecoins will shape the market.
  • Ethereum is expected to continue to be the most widely adopted and capital-heavy layer 1 blockchain.
  • Reputation is also predicted to become a widespread and crucial aspect of Web3, with Decentralized Identities, capable of switching between platforms, and projects such as “Intuition”.
  • Decentralized science, or DeSci, will become a major use case for Web3 as IP-NFTs (Intellectual Property NFTs), used to turn scientific research into a Web3-native asset class.
  • There will be a greater focus on cryptocurrency regulation, but this should be considered good news for VCs, as it will decrease the possibility for startup scammers to operate in the so-called “grey zone”.
  • Filecoin is the largest decentralized storage network on Earth, with over 4,000 storage providers contributing approximately 16 exabytes of storage capacity and will release smart contracts through the “Filecoin Virtual Machine”, becoming a fully-fledged layer 1 protocol, enabling the development of new use cases in the Web3 space.
  • ZK-Rollups: Zero-knowledge proofs have gained popularity in recent years, and ZK-Rollups have become a dominant tool for Ethereum scaling. In 2023, a wider range of use cases will be unlocked by the adoption of software development kits that allow ZK smart contracts to be programmed into applications, executed off-chain, and verified and settled back on-chain.
  • BioDAOs and IP-NFTs: Decentralized science (DeSci) has the potential to become a major use case of Web3, and organizations like Molecule are bringing IP from leading universities on-chain, financed and supported by decentralized biotech organizations like VitaDAO.

Eloisa is a Tokenomics Engineer focusing on token model architecture, token macro-/micro-economics structure, crypto market simulations and gamification strategies for Web3 businesses. She is currently a partner to VCs and accelerators, while also working as an advisor to self-funded crypto startups, which she has been doing since 2016. Tokenomics.Agency LTD is a newly launched global consultancy helmed by Eloisa, Marchesoni's team currently partners with VCs and accelerators, while also working as advisors to self-funded crypto startups- work that Marchesoni first began in 2016.