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Throughout 2022, venture capital funds seeking to capitalize on the growing adoption of Web3 products and services helped the space break all previous fundraising records, even in the face of bearish market conditions.

However, investing in the early stage block chain startups is not the same as traditional investing. The Web3 space is relatively new and constantly evolving, requiring a different approach. Moreover, because the crypto the industry is not heavily regulated, it becomes vital for venture capitalists and investors to understand the legal and regulatory implications of investing in crypto projects.

Between assessing the team behind a project, the technology use case, market demand, and sustainability, investors have to go through many checkpoints before making any investment decision. To better understand how the crypto investment industry works, we caught up with Deng Chao, Managing Director of Hong Kong-based HashKey Capital, which invests exclusively in blockchain technology and digital assets.

With new investors entering the market and the Web3 ecosystem growing, we invited Deng to share his thoughts and insights on the current investment landscape. Chao has over a decade of experience in the asset management and fintech industries and holds a master’s degree from the University of Hong Kong. He is also an early founding member of Wanxiang Blockchain Labs.

Investments in crypto projects are at an all-time high. What do you think is driving the appetite for the industry at this point?

Deng: In every new industry there is an early bubble, not just in crypto. Cryptography is still in its infancy, and when it comes to development, it has a lot in common with the early days of the internet industry. People are interested in finding more opportunities in crypto because there are more opportunities than traditional industries, even more than the internet industry now.

Additionally, crypto and blockchain can be seen as disruptive innovations that solve real-world problems. These technologies have the potential to bring great efficiency gains in different sectors, such as the financial sector, the Internet and video game, and create massive lattice effects. These network effects are achieved through decentralized networks and, most of the time, without relying on centralized parties. This is incredibly unique when looking at how technologies have evolved historically since the 1st Industrial Revolution over the past 250 years. This is what creates asymmetric opportunities and drives so much investment appetite in the crypto space.

Is investing in crypto initiatives the same as traditional investing? Are there any additional metrics or areas of due diligence that crypto venture funds should assess before investing?

Deng: In general, the investment framework remains the same. The difference is that there are two types of crypto investment structures, one of which is the traditional capital structure, which follows the traditional investment method. Companies using this structure typically provide centralized service to crypto users. Another aspect is token structure, which requires consideration of token economics, usefulness of tokens in products, management of token issuance and liquidity, and alignment of parties’ interests. stakeholders.

On top of that, the blockchain space is an extremely fast-paced industry. Product development cycles are accelerated by the fact that almost everything in the crypto space is open-source and transparent. This often results in something called composability. Composability refers to the ability to build on existing components to create new features and products.

While this is good for speeding up the development of new products on the blockchain, it often makes them technically very complex. This is why crypto VCs like HashKey Capital have a team that specializes in technology research and due diligence, which is a big part of our decision analysis and sets us apart from traditional venture capital.

Could you provide a brief overview of how crypto funds rate the crypto projects they are considering? What steps or processes do they undertake?

Deng: There are several things to consider, and there is no hard and fast rule for evaluation. However, it is best to consider four key aspects: the sector, the team behind the project, the feasibility of the product, as well as its symbolic economy and its valuation.

To begin with, we need to understand if it is promising enough or if the upside is big enough. It is important to note that investors should update their sector guidance quarterly or occasionally based on market trends. Then what we want to see is a good track record. It is important to assess the mindset and ideas of what the team behind the project is doing. Strong technology? Strong operation? Strong resources and network? Is the team really dedicated to what it builds?

Then you have to test the suitability of the product for the market and its long-term durability. For example, if it’s a technology-driven project, it’s a good idea to assess whether the technical design is feasible. Other considerations include analyzing whether the project is sustainable and whether there is a real need for the project to issue a token. If a token is required, investors should also check and ensure that the price of the token is fair.

Speaking of return on investment (ROI), many people believe that crypto investments can yield outsized returns. How true is this assumption? How do you think the returns differ from traditional investments, and what are the potential advantages and disadvantages that crypto-VCs face?

Deng: As an early stage investment, it offers higher returns. Public data shows that BTC, ETH, and the top 30 token returns are thousands of times. But it’s also more risky, with 95% of projects struggling to survive the winter. Successful crypto projects have larger returns and shorter payback periods because tokens give these projects quick access to liquidity. Therefore, while seizing opportunities, it is more important for VCs to manage risks well. These risks are different from traditional risks, not only in asset prices, but also in crypto-specific products, strategies and risks, such as the impact of FTX Events.

The Play-to-Earn and Web3 game projects raised the largest share of venture capital funding this year. With all the new segments emerging in the blockchain space, which crypto-based niches do you think have the greatest potential to attract capital in the near future?

Deng: P2E and Web3 projects belong to the application layer, and relatively few projects perform remarkably well in the application layer. Now we are more concerned about the underlying infrastructure and some middleware, which is the premise that the future application layer may explode, such as ZK, AA, Rollup, data, communication, storage layer, etc.

According to our research, the NFT/gaming category received approximately $7 billion in VC funding last year. However, the infrastructure sector mentioned above also raised around $7 billion. The infrastructure and the middleware are at the heart of the development of the ecosystem and represent a fundamental layer. Investing in this infrastructure layer is like being able to invest in the internet layer 30 years ago rather than investing in individual applications.

Your fund, HashKey Capital, is a leading crypto investment firm. Could you tell us more about how your business is weathering the volatility in the crypto market? More importantly, how are you as a venture capital fund managing the current crypto winter?

Deng: We need to zoom out and look at macro cycles that include all asset classes including crypto. Understanding the big picture and these market cycles can really help investors adapt their investment strategy and better plan their investments.

We tried to tailor our latest fundraising to these market cycles, and the timing for our current venture fund couldn’t be better. We raised $500m in 2022, which means we are now deploying the fund in a market where startup valuations are much more realistic. We see this as an ideal time to build and invest, away from hype and FOMO.

Can you weigh in on emerging crypto projects seeking capital? Is there a specific way they need to approach venture capital funds? From your perspective, what is the most optimal approach a crypto startup can take?

Deng: Well, there is no single answer to this question. HashKey Capital invests in projects at any stage. However, from the start, it is important that the founders can communicate their vision, their determination and why they are building “XYZ”. A clear and concise game can be the entry point.

The study of the VC space is important. The first step is to create a spreadsheet with all the VCs that invest in the crypto space. Then try to understand the relationships between these VCs. Many of them can co-invest in projects and share the deal flow between them. The second step is to create a private Twitter list with all VCs and their respective partners. Try engaging with them on Twitter to start creating a basic social currency.

The next step is to start sending emails to the main VCs. When meeting with VCs, the goal is to bring your passion to the VC and share the value your project brings to the world. Finally, it is extremely important to leave the ego at the door when speaking with a VC. Remember that a “no” in your selection round can turn into a “yes” in the series A round. Maintaining good relations with each VC, even after being refused, can then pay off ten times more on your next turn.

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