Vance Spencer (left) and Michael Anderson (right) of Framework Ventures
Framework Labs, the sister company of investment firm Framework Ventures, has announced a huge $8 million seed round in one of the biggest early-stage raises of an already banner year for funding in the crypto industry. The raise, led by investment firm Station 13, comes hot on the heels of several other large deals in the space in just the last month alone. Uniswap, the automated market maker (AMM) exchange announced an $11 million Series A on August 6 while decentralized exchange (DEX) aggregator 1inch raised a $2.8 million seed round just five days later.
Framework Labs is a spinout from Framework Ventures, an investment firm run by entrepreneurs, partners, and investors Michael Anderson and Vance Spencer. Ventures has rocketed to becoming a household name in the crypto space this year, as early investments in DeFi tokens for Chainlink (an oracle provider) and Synthetix (a derivatives exchange) multiplied in value. What Ventures has played coy about (although not too coy, to astute listeners of Demetri Kofinas’ Hidden Forces podcast) was exactly how they were structuring those investments and participating in the ecosystem.
With Framework Labs, Anderson and Spencer are finally going public with the holistic approach they have long been teasing, coining an entirely new, batteries included investment model they are calling Network Capital. Where Venture Capital firms invest at the illiquid, early stages of company life cycles, Private Equity leverages up mid-stage business models, and Hedge Funds ride liquid public equity, Network Capital promises to be able to do all three.
[Ed note: Investing in cryptocoins or tokens is highly speculative and the market is largely unregulated. Anyone considering it should be prepared to lose their entire investment.]
While admitting that due to the nascent nature of the business model, they are still working out some kinks in terminology, the basis of Labs’ model is meant to be a technology studio combining research, trading, and engineering functionality usually siloed across both firms and the capital stack. With the Network Capital approach, Anderson and Spencer intend to incubate startups, provide staking, provision liquidity, and offer other services for early stage networks, as well as build apps on top of the protocols themselves. An example of this is snx.tools, a beautiful, user-friendly dashboard for analytics of the Synthetix ecosystem.
This approach accords closely with the founders’ deeply held convictions that current models for participation in the industry are entirely too bifurcated to be interesting, useful, and therefore as profitable as they could be.
“DeFi is coming into its own and beginning to achieve product-market fit at scale, yet traditional investors are asleep at the wheel when it comes to the category. It isn’t enough to buy and hold tokens and provide ‘thought leadership’ – DeFi is not a spectator sport. Active participation, governance, building of consumer products, and advanced trading strategies are all part of the complex process of making a DeFi protocol successful. We are at the bleeding edge of this financial technology,” says Spencer
At the bleeding edge they certainly are. Despite being founded as recently as early 2019, Ventures is the largest staker of the Synthetix protocol outside of the founding team, the largest liquidity provider on Unwiswap, and an integral node operator providing the critical off-chain data that powers Chainlink, and by extension, DeFi itself.
Framework isn’t the only one to realize that current definitions of investment firms under SEC rules may not map onto the demands of modern protocol investing, but they are certainly in good company. In April, industry leader Andreesen Horowitz (a16z) sent shock waves up and down the tony boardrooms of Sand Hill road when they announced they were renouncing their status as a VC and re-registering as a registered investment advisor (RIA). The change allows them much of the same flexibility Framework has identified, who in many ways has beaten their older and better-funded rival to the punch. Framework’s parent LP agreements were created from inception with a structure that differentiates them from a VC for purposes of SEC registration.
Far from the tired shell company domicile games played by white shoe bankers, Framework’s structure was built thoughtfully from the ground up in order to address the emerging DeFi market, with lessons taken from the founders’ early careers. Says Anderson “Both Vance and I come from traditional tech companies and there’s sort of this adage within tech companies that you ship your org chart. And I think for us with funds, you really do end up shipping whatever the fund structure is. If you’re a venture fund you’re limited in what you can invest and how you can invest and whether or not you’re buying directly from the team or if its via SAFT agreement. If you’re a hedge fund you’re thinking in terms of quarterly redemption cycles and what’s the liquidity profile of these assets. It’s our belief this is something that’s new and that’s why we came up with the moniker of Network capital.”
Spencer concurs, expanding on what separates both Framework’s and the Network Capital approach. “There’s certainly a structure that if you’re the right size you can participate very aggressively in DeFi protocols. You can build on top of them, you can help bootstrap liquidity, you can do all those things. And structure is definitely one part of that. But the other part of this is honestly just talent. Building these systems that allow you to participate, to provide liquidity, to actively trade on these DeFi protocols, this is stuff that you literally cannot buy or license from any top institutional trading shop even if you tried. There’s about five or ten people that can write production level Solidity code (which is what Ethereum is written in) and can actually build these trading systems to the extent that they’re usable.
So talent, and really incentivizing people to come into the tents and giving them a share of ownership over both Ventures and Labs, that’s really the secret sauce. Just identifying talent and cultivating it and incentivizing it is really I think what we do best. Because the people that work for us, you know, they have other options. They’re in the middle of this DeFi bull run. But we’re a unique place that can cultivate talent, spin out technology companies, and really help them capture all the upside that happens in our venture portfolio.
For us, as a venture firm, sure we can buy tokens out of somebody’s treasury and that ostensibly helps them bootstrap their initial efforts, but money is a commodity right now. There’s $500 million of liquidity on crypto twitter that’s waiting to flow into whatever the new hot DeFi yield farming opportunity is. So differentiating that just with a more concentrated, higher conviction, more active participation style of investing is really what people want. People want more active, [higher] conviction investors.”
Speaking of talent, the seed raise is concurrent with the announcement of two high-profile strategic hires. Ray Pulver, former co-founder and CTO of decentralized exchange IDEX and Roy Learner, former principal at Wavemaker Partners will both be joining to help lead and grow the team at Labs. Their backgrounds, market, and technical savvy underline the type of firm Labs hopes to mature into.
“Ray is one of the top five to ten Solidity engineers, co-founder of IDEX, just brilliant when it comes to anything Ethereum. Roy is a unique talent when it comes to being able to understand the trading strategies and market-making capabilities but also has a venture capability that is sort of unrivaled. So we saw a lot of potential in both of them” notes Anderson.
With the way the ecosystem is growing, they will have plenty of whitespace to explore. Perhaps the biggest differentiator though from previous roles will be the way Anderson and Spencer view the composition of that opportunity space. While not giving away the secret sauce, they think DeFi is in such early stages that in many ways the best work Labs can do is growing the entire ecosystem. Anderson describes one of many strategies they hope Ray and Roy can continue to develop.
“One of the examples here is we are doing what’s called the cash-and-carry trade where we are going long or short a perpetual future on a different exchange or a different platform and then hedging our position with Synthetix Synths [the corresponding native product on the Synthetix platform] on the spot side. And so what this enables us to do, and I’m sure people will figure this out pretty soon, it’s actually a lot more profitable to do this with Synthetix as the hedging mechanism, because there’s no slippage with the Synths based on the price feed and collateral pool model that they have.
So it’s a very profitable trading strategy, but we’re also pumping volume through Synthetix and proving out another use case. I’m sure at some point we’ll be able to write about this, or we will write about this. It’s not a zero-sum game because we are owners and stewards of the Synthetix ecosystem, we want other people to do this who maybe have more esoteric trading strategies that they want to try as well. We want to promote this as a real trading venue for real traders.”
Despite the massive run in DeFi generally and their portfolios specifically, the team is aware of the long way to go until maturity in the system, as well as some of the fuzzy math around trying to figure just exactly how to value the native governance tokens of the DeFi protocols. These governance tokens, such as Compound’s COMP, yearn.finance’s YFI, and Synthetix’s SNX have seen massive runs, though they don’t have a claim on the underlying cash flows generated by the networks. Anderson and Spencer think that while ultimately valuation will have to rely on traditional cash flow based methodologies, there is value in these tokens, and expect the ability for the market to understand and efficiently price them to continue to evolve.
Says Anderson “When you really truly break it down, I think the best analogy here is mid-stage technology companies where the ownership of the shares doesn’t necessarily mean that you have ownership of the cash flows but you do have an ownership of the governance rights. And maybe this means you’re voting on shareholder initiatives, maybe this means you’re electing the board of directors what have you, but those governance rights are valuable, at least to some extent.
The other aspect when it comes to true valuation is its really hard to get around the fact that all valuations are based on some sort of cash flows. Whether it’s a buy and burn mechanism, a dividend issuance, or some other variation or combination of the two, ultimately it all comes back to cash flows. And they way we think about governance and about governance tokens in particular, is governance is important, but governance is also a mechanism for helping to discover the most profitable future cash flow generative and distribution mechanism for the token.”
Although it’s hard to separate the wheat from the chaff as new offerings seemingly come to market every day, this is in many ways the great hope for DeFi. The permisionless nature of these networks means that users from all over the world can run thousands of different (relatively) low risk simulations, iterating many styles and combinations of business models and governance structures. Many will fail, but those that get the critical mix right could become some of the most valuable protocols in the world. However, instead of that value accruing purely to founders and investors with early access as in the case of today’s behemoth tech platforms, this time the users will get to come along for the ride as well.
While that ride will certainly be a bumpy one, Framework Labs has their seat belts fastened and are far from deterred. Whatever may come, they are blazing trails to new digital frontiers. By doing so, they are opening doors, breaking down barriers, and providing capital, knowledge, and development of services that can create financial and digital access for many in ways that have never truly been seen before. If they get can get it right, Network Capital may just go down in history as the first great truly holistic investment model.
Disclaimer: Rory is an active trader and investor holding positions in several cryptocurrencies as well as equities and other private investments at any point.