January 4, 2024
Article
Today Web3 provides a new lens to help investors understand which traditional companies and innovators are best and least-well equipped to transform themselves for this new era.
The web and, with it, the Internet are entering a new era – Web3. Web1, which we now consider the “Dot Com era,” gave us a new way to consume information digitally. In Web2, the web became not only a medium for the presentation of information but also a powerful tool for communication and collaboration online.
Every so often, a new technology emerges, upending the social order and transforming the economy in profound and unexpected ways
Enter Web3, the “Read-Write-Own Web,” a decentralized Internet that enables individuals to move, store and manage assets like money, securities, intellectual property, art, data, and our identities privately, securely, and digitally. Web3 has the potential to make the web more fair, private, decentralized, resilient, and more inclusive. As with prior eras of the Internet, Web3 will become an integral technology for business. The companies that harness this technology will not only survive but thrive in this next era of digital disruption. Every so often, a new technology emerges, upending the social order and transforming the economy in profound and unexpected ways.
We saw it with the printing press, the steam engine, the microprocessor and the first era of the internet. Today, we are on the brink of another era of epochal change. But unlike in the past, we have not one but at least six new technologies emerging at once – artificial intelligence, biotechnology, new sources of energy, virtual and augmented reality, robotics, and the internet of things. Each will make their mark. But it might surprise you to learn that the technology likely to have the greatest impact of all is the foundational technology of cryptocurrencies, and it is called blockchain. Blockchain technology is a global, distributed, highly secure system where anything of value from money to music could be stored, moved, exchanged, and managed, securely and privately and peer-to-peer – all without powerful intermediaries. Blockchain is ushering in nothing short of a new era of the internet and holds the potential to transform the economic power grid and the old order of human affairs.
As the Web went mostly mobile, a few large companies controlled the primary gateway to the Internet via the Android and Apple ecosystems
So, what went wrong with Web2?
First, advertising became the primary revenue model, and many platforms converted to ad-friendly models to then work hard to keep users engaged to harvest their data.
Second, Web2 enriched financial intermediaries: they did not need to innovate to stay relevant because Web2 did not change their role as middlemen.
Third, as the Web went mostly mobile, a few large companies controlled the primary gateway to the Internet via the Android and Apple ecosystems, stifling innovation.
Fourth, users have no control over the platform they rely on and, in some cases, no visibility into how they are run.
Fifth, Web2 became a winner-take-all model that created monopolies in several areas, such as search, social media, and streaming, stifling competition.
Sixth, internet users were hooked by recommendation engines that, while often useful in helping people find what they were looking for, also pushed them into self-reinforcing echo chambers. Lastly, these large platforms became chokepoints for the Internet and targets for government pressure to track citizens. Consider China, where many Web2 giants have, for all intents and purposes, become extensions of the government.
Web3 encompasses four key foundational principles: ownership, commerce, identity, and governance. Digital assets, or “tokens,” give internet users an economic stake in their digital existence and enable property rights online, allowing individuals to transact peer-to-peer in nearly any asset without an intermediary. With new digital assets at their disposal, innovators can reimagine many business models and marketplaces with this technology across various industries, from financial services to cultural industries.
In Web2, internet users create data but do not own it. Instead, that data is monetized by data aggregators like social media companies who repurpose and repackage it for advertisers. Advertising became one of Web2’s great business models at the expense of privacy and the user experience. Data is one of the most important asset classes of the digital age, but until now, there have been limited ways for users to safeguard it and use it for their own benefit. In Web3, individuals own their own data and can use it as identifiers, creating a self-sovereign identity. Many Web3-based products and services allow users to earn into the ownership of those products and services by way of a token. Ownership aligns the interests of users with the products they rely on. It also gives them economic ownership and, with it, a say in the governance of those platforms.
Advertising became one of Web2’s great business models at the expense of privacy and the user experience
Just as websites are containers for information, tokens can be thought of as containers for value. Increasingly many businesses are harnessing digital assets, also known as tokens, to open new markets, create new products and services and reach customers. Web3’s financial sector is known as decentralized finance (DeFi), which is global, capital efficient, peer-to-peer, and digitally native and reimagines finance from the ground up with peer-to-peer models for everything from lending to trading, accounting to funding, payments and more. In the same way that cell phones allowed billions to leapfrog landlines, DeFi could enable people to do the same for traditional banks and other intermediaries.
DeFi has seen an explosion of innovation which has created billions of dollars in value; at the start of 2020, the total number of DeFi users worldwide was 109K, compared to 1.31 million in 2021, 4.96 million in 2022, and 6.65 million as of the start of 20231 with $50 billion in total value locked within the protocols2 (TVL). Stablecoins are digital assets pegged to another asset with stable value, such as the US dollar, that are the primary medium of exchange in Web3; they have grown twenty times in a few years to over $100 billion in supply.3 Non-fungible tokens (NFTs) are unique digital goods that are provably unique, distinct, and therefore not fungible or interchangeable. While commonly associated with art and other rare collectibles, NFTs are also useful for expressing bespoke contracts and agreements. NFTs have a total market capitalization of $6.3 billion4 and have paid over $1.8 billion in royalties to creators and entrepreneurs.5 We believe this is only the beginning.
Web3 has had its ups and down. Indeed, technology is cyclical and all industries have setbacks. Did the age of exploration end with the first failed voyage? Did the joint stock company fade from memory after the collapse of the South Sea Bubble. Was the ‘industrial revolution” over with the Panic of 1873 which led to the collapse of a few banks and railroads? Did we call it quits on the web in 2001? Or in each case were we at the beginning, not the end, of an era of staggering change, upheaval, and progress.
This historical mindset is useful as an investor. In the mid 90’s there were many highly valued companies like Borders, Kodak, Tower Records, Blockbuster, Polaroid, Xerox, JC Penny, Sears, Palm, and America Online. Wall Street analysts were convinced these were all great investments. With the benefit of hindsight, we can see the street was dead wrong on these companies. All had something in common: they failed to embrace the open internet of Web1 and they were all about to be disintermediated.
Web3 will become an integral technology for business
Today Web3 provides a new lens, once again, to help investors understand which traditional companies and innovators are best and least-well equipped to transform themselves for this new era. Let us not be complacent this time.
As with prior eras of the Internet, Web3 will become an integral technology for business. Tremendous value will accrue to new platforms like Ethereum and Bitcoin. The companies who have staked their success on this new technology and who can weather the current storm will be rewarded long term. And the existing businesses who harness this technology and learn how to benefit from it will not only survive but thrive in this next era of digital disruption.
1 Statista (https://www.statista.com/statistics/1297745/defi-user-number/)
2 DeFiLlama (https://defillama.com/)
3 The Block (https://www.theblock.co/data/stablecoins/usdpegged)
4 NFT Go (https://nftgo.io/analytics/market-overview)
5 Blockworks (https://blockworks.co/news/nft-royalties-top-1-8-billion-galaxy-digital)