Electric Capital: Investing in disruptive cryptotechnology

Transcript My name is Avichal Garg, I'm co-founder and partner at Electric Capital. I joke we're kind of accidental VCs. My co-founder, Curtis and I, our backgrounds are mostly as engineers. We were at Google, started and sold two companies - the second one to Facebook - and built a bunch of products there and organizations there. By the time I left, I was managing about a three and a half billion-dollar business unit. In that time, we'd become pretty active angel investors. And so we're early to a number of sort of pre IPO companies, IPO in the coming years here, and we're spending a lot of our personal time in crypto.

We actually started mining some bitcoin back in 2010 or so because we had all this excess computational power sitting in our data centers. So we were doing a lot of education kind of through 2017, a few existing VC firms approached us and said, "Hey, would you be interested taking our money for what you guys are doing with your personal capital? You're really good at it. You're in a number of really interesting things that we just haven't seen. We don't quite understand." And so that's how Electric happened in 2018. Sort of an organic thing. Doing a crypto native VC firm is kind of like doing your own company, like you're sort of building a thing from scratch. And actually a lot of what we end up having to do is write software because, like the infrastructure to just manage these assets and manage your portfolio or pay your taxes, there's very little third-party tooling, even three years later. And so we've actually built into that stuff in-house and so actually half of our team of software engineers. So we kind of run like a hybrid tech startup VC firm because we have to. And so it's really natural for us because we were already spending all of our time in this stuff and we just loved it. And to us, it felt like the next generation of the internet. And so it just felt like it had that kind of promise, that kind of promise we hadn't really seen for 20 years.

So, you know, our perspective is always we've always sort of looked at the space from the perspective of engineers because that's kind of the background that we come from. And what's interesting about this space, in our opinion, is it's just a different way to build software. And so if you think about it, you know, the internet really was about speed and scalability and throughput and what we gave up to get those properties were like, ownership of our data and data immutability, because once you hand your data over to some third party company, they control it. You gave up privacy in many respects. And what's interesting about these systems, when you look at it through a software lens, is they basically make the opposite tradeoff. What they really do is they say, "Well, what if I want my privacy? What if I want to own my own data? What if nobody else should be able to change the data without my permission?"

As a venture investor, when you hear when you see a platform that does the opposite of the previous generation of platforms, your spidey sense starts to tingle a little bit because what that means is that the incumbents are structurally ill-positioned to take advantage of this new wave. And so we approach it from that lens, and we said, "Well, that's interesting. What can you build here?"

The second thing that I think has to go along with a platform shift like that is there has to be a sort of social unlock as well. Like it's not just enough to create technology. Ultimately, people have to use that technology. So you kind of have like these social breakthroughs happening where you're seeing people in mass do this really strange behavior, and you're seeing a lot of the same early adopters that were the early adopters of the internet. As you pair that with the technological breakthroughs of, now I can actually build different kinds of software in different ways. And all of that is sort of the primordial soup, in our opinion, to really create disruptive tech.

It's a new form of money, in a sense. Except with that money being ones and zeroes, where you can do is you can write code around it. You can actually control the ones and zeroes in a way that you just couldn't before. And so, in our opinion, what happens over the next ten years here, 20 years, is anything that touches money movement gets replaced and rebuilt on this infrastructure. And some of that's going to look like the traditional world. It's going to look like, Oh, this is a better way to do lending or this is a better way to do credit, or this is a better way to do payments, cross-border payments, or this is a better way to do escrow. Some of it's going to be brand new stuff that you just couldn't have imagined because now, all of a sudden, computers can custody money, and computers can own money and do stuff with it.

So, you know, with crypto venture, there is a spectrum of opportunities. Some of them look like traditional ventures, so it's an equity business, there's potentially two co-founders, it's a Delaware C Corp. You give them money, they start a business and there's cash flow that comes out of it. You can do a DCF on it and look at the discounted cash flow coming through.

And they're great businesses like that. Companies like Coinbase or Kraken or Bitwise, which essentially allow you to get access to this sector and purchase these assets. We have expertise on how to get those products to market, how to think about which cryptocurrencies really matter, how to do custody. There's a lot of infrastructure you have to understand to understand those businesses. And so we do invest there at the seed and Series A. And traditional VCs are trying to get there. They're really participating today at a later stage in those kinds of businesses. Once you start going across the spectrum, though, you get to the really esoteric stuff in this world, which is really crypto networks that are starting to replace marketplaces, are starting to replace businesses. And the idea is, rather than there being some centralized entity that controls two different sides of the market and allows people to sort of meet and sort of make that market, what you can do is open that marketplace up and anybody can come participate. And what you really do is you take the token and use a token to align the incentives of all those stakeholders. And you start to reward the users of the marketplace with some share of the profits of the marketplace. And so that kind of stuff gets really esoteric. And mechanically speaking, those kinds of investments require you to do very, very different things, right? Often what you're doing is buying tokens, you're custodying them, and then you're evaluating the value of networks in a very different way. Once you've custody of them, what you really need to do is do some work. There's no board that you're taking. What you have to do is advocate for certain proposals, and you have to advocate for certain code to to get built and shipped. And so you have to be in community and governing it in a very, very different way.

The top-down way to look at this from a capital allocator perspective is that here's a sector that, at least for the last decade, has been uncorrelated with all of the other asset classes. And so, purely from a portfolio construction perspective, there's a lot of data to back this up. A small allocation to this space, at least for the last ten years, has been extremely additive, both because of the return profile and because of the lack of correlation to all other asset. The second way to look at it is much more bottom-up, which is sort of the venture approach to this, which is, I don't know what gets created here, but all of the smartest people are out here. The bottom-up activity that's happening from developers and young people and the experimentation that's happening here is very reminiscent of prior technology waves like the internet. And so I think from a capital allocators perspective, there are a lot of people who look at this and say just some exposure to the space is so additive to the portfolio that it makes sense. And that's why we've seen so many institutional investors come into the space and say, I just need some sector exposure because it is additive to the portfolio despite the tremendous volatility.