Venture capitalists are supposed to be on the front lines of new technology.
But when it comes to cryptocurrencies and blockchain startups, VCs have been gun shy.
The wariness is understandable to Matt Huang, a partner at Sequoia Capital. After all, investing in blockchain startups means betting on complex, new technology and putting your faith, and capital, into largely unproven alternatives to equity.
Despite the risks, and the fears of a “bitcoin bubble,” Sequoia and Huang are jumping in. The storied VC firm, which made a name for itself with early bets on companies like Oracle and Google, has invested millions in two blockchain startups — Orchid Labs and Filecoin — and two different cryptocurrency hedge funds, MetaStable and Polychain Capital.
We checked in with Huang to find out what gives him confidence to invest in this emerging industry, and how crypto is changing both the tech landscape and the business of VC investing.
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Sequoia's most resent investment took place at the end of October, when Sequoia led a $US4.7 million seed round in a company called Orchid Labs -- an open-source blockchain project designed to reduce internet surveillance and censorship.
Orchid Labs created its own blockchain, called the Orchid protocol, on top of which it's building a decentralized overlay to the internet, which it claims will be impenetrable to national firewalls and other forms of censorship.
The company compares it to Tor, an overlay on the internet which lets users anonymously browse websites, and which is often associated with the dark web -- unlisted and sometimes criminal websites which require special software to access.
Huang said Orchid's mission struck him as both achieveable and useful in today's political climate.
'There's lots of exploration right now around what are the interesting or useful applications beyond bitcoin,' Huang said. 'Orchid struck us as one of the first killer apps that we can see getting broad appeal. It also has an important mission that we think is very timely in the world today.'
The same blockchain technology that underpins Orchid's product also provides the mechanism for investing in the company. Sequoia's investment was in the form of a SAFT (Simple Agreement for Future Tokens) -- an emerging fundraising technique in which investors buy a share of cryptotokens from companies.
Blockchains are digital ledgers that record everything that has ever happened involving them. It's the technology behind popular cryptocurrencies like bitcoin and ether, and companies that use blockchains to build their core product can also use blockchains to create their own tokens as a form of equity.
When asked what makes Sequoia feel comfortable investing in blockchain, Huang said that he's spent enough time in the sector now to tell the difference between world-changing projects and hype.
'The technology is really interesting at first blush and I think that's what draws a lot of people in. It's an exciting new platform,' Huang said. 'Then you look at some of the behaviour that's occurred over the last year and a lot of the elements feel like a bubble. I think that turns a lot of people off.'
Huang said he's been following the sector for many years, and believes that this recent wave of blockchain enthusiasm has a different colour to it.
'Once you spend enough time in the area, there's enough real substance coming to the forefront, and strong legitimate teams working on interesting problems, that I think it is a really promising space for investing,' he continued.
Huang said he's also assured by the number of technically savvy people who are taking the blockchain space seriously, and even leaving stable careers at established companies to join startups working on the emerging technology.
'There's a huge influx of people leaving places like Google and Facebook to work on projects in the space, and I think of that as the most promising indicator,' Huang said.
SAFT is the investment technique Sequoia used with both Orchid Labs and its other blockchain start up called Filecoin. SAFTs are popular in the blockchain space because they allow investors to put money toward the technology, rather than a centralised company.
SAFTs are particularly useful for investing in products like the Orchid protocol, which ultimately could become an open source project supported by a community of engineers, rather than a structured team. Huang compared this to the bitcoin protocol, which was developed by a team but has spread like wildfire since being left out in the wild.
Most venture capital firms -- Sequoia included -- are used to the old equity model, in which investors purchase private shares of a company, often while mentoring the founders to help the company reach its full potential.
SAFTs -- in which investors are promised a set number of tokens which don't yet have any value -- are such a new way of investing, however, that many venture capitalists are writing the rules on the go, Huang said. In the long run though, he hopes to see some of the best practices developed in venture capital trickle into this new way of doing business.
'One of the big distinctions between equity and tokens is that there are more protections around equity. Investing in SAFTs is new territory; and I think what you're seeing is that a lot of this ecosystem is learning in real time how best to structure these things,' he said.
'We're really interested in seeing more of these venture mechanisms enter the blockchain space. It's not to say that you have to copy exactly what evolved on the equity side, but you don't have to reinvent from scratch either and there are definitely best practices.'