The crypto-drums are beating

f you are in the technology space, or the corporate finance space, or – like us – both, then you have probably been following the rise of crypto currencies and ventures building platforms on distributed ledger technology (DLT).  It’s hard to avoid: so far in 2018 in excess of US $12bn has been raised in the space.

Following the excitement and inevitable crash at the turn of last year – through the choruses of “we told you so” from most corners – the price of bitcoin (and other crypto currencies) has been floating gently down; but we are seeing no let-up in DLT interest.  In particular, increasing numbers of brokers, family offices and financial services intermediaries have started to think seriously about gaining exposure to blockchain ventures; and just about every blockchain venture that we have seen so far requires a payment and return mechanism (AKA a crypto currency).

The prevailing wisdom still says that crypto is a poor store of value, currently rubbish as a means of exchange and outright dangerous from a legislative perspective.  Absolutely, crypto for retail is still extremely high risk – the SEC even went to the trouble of creating a fake ICO website complete with fake celebrity endorsements and a lovely legislative nod in the title.  And the first salvos have been fired in the US in what seems destined to quickly become a new field of initial coin and token offering litigation: unsurprisingly, the SEC has said that many ICOs and ITOs will be caught by US securities laws.  US regulators and lawyers will be marking out their long runs.

But you look at the FCA – for the first time – providing access to its ‘sandbox’ for ventures (LSE and NatWest noteworthy classmates) developing crypto assets and you wonder how long it will be before UK regulators are giving crypto a seal of approval (conscious that the likes of Switzerland, Malta and Gibraltar have been amongst the first moving legislators in the space).

And the likes of Imperial College London have been looking towards a longer horizon for the crypto-phenomenon and see no reason why cryptocurrencies could not hit the mainstream over the next decade, although we take that with a pinch of salt as their study was paid for by the crypto brokerage eToro.

But what we are hearing is that blockchain is being pointed at markets – emerging markets – where there are real problems to solve, particularly when your counterparty is an untrusted institution with reputational issues or involves a long-established incumbent taking a whacking percentage in return for processing the transaction.  We may not yet be purchasing cappuccinos with crypto in the UK, but we are hearing that elsewhere in the world there is major demand for DLT from buyers and sellers as a means of moving value around.

So, what does all that mean for ‘traditional’ venture capital?  Well, until recently what we were hearing was that crypto was at best a distraction that investment execs were struggling to grasp: why would you invest in a company (with no track record to speak of) that will produce entirely digital assets and which – by the way – the investee company will not actually own.  Wise heads had been saying that ICOs and VC are oil and water that don’t mix.

But the drums keep beating and from what we hear the top coding and technical talent right now is by and large going into crypto.  Andreesen Horowitz just announced the launch of a US$300m crypto fund – it will invest in both traditional equities issued by DLT focused ventures but also in tokens issued by those ventures.  Most VCs we talk to at least acknowledge that their teams need to understand the space and the principles of the technology in order to stay relevant.

The building blocks of any crypto-currency are, of course, founded in modular arithmetic of DLT that is cooked up into an uncrackable code; but crypto-currency is just one of the things you can build with DLT.  Since the internet started, and super-fast broadband exponentially sped it up, buyers and sellers of digital goods have struggled with a new concept of value.  In the real world if I sell you a widget, and you pay me in cash in return, you get the widget and I get the cash.  In digital-land if I sell you a digital widget, and you pay me in cash in return, you get the digital widget and I get the cash but also keep the original digital widget.  Without scarcity there is no value.

Now, however, DLT may provide a solution – for the first time it (appears to be) technically possible to create a finite supply of a digital asset.  In other words, with DLT you can track ownership, preserve value through scarcity and definitively verify provenance, all in ways that were previously incompatible with digitisation.  That is what is creating the excitement.  That is where we think the future lies.

Activity in the crypto space will continue into H2 2018 as will the various crypto projects that the HLaw team is working on right now.  If you have a question on crypto currencies or the legal aspects of DLT then please do get in touch, we would be happy to assist.

Humphreys Law