Facebook and JP Morgan are launching major blockchain initiatives. If such corporate giants are entering the blockchain industry, do blockchain start-ups still have a chance to compete? And what does this mean for funds that invest in this industry?
Microsoft, IBM, Samsung, the New York Stock Exchange, ING Bank, Ernst & Young, Amazon, Alibaba and Twitter are all part of a long list of big names that are actively involved in the blockchain industry. Relatively recent additions to this list are JP Morgan and Facebook. JP Morgan is going to launch JPM Coin, a USD-backed digital coin to speed up internal corporate payments, among which real time clearing of cross-border payments. Facebook’s blockchain project has not yet been officially announced, other than that some of the most heavyweight executives in the company are working on it. Sources inside Facebook have hinted they might launch their own currency in WhatsApp.
Both initiatives are examples of private blockchains. Let’s first explain the difference between public and private blockchains. Public blockchains are blockchains like Ethereum and Bitcoin. Everybody can participate and confirm transactions in public blockchains (mining, spending tokens, building and using applications, etc) without permission of a central authority. Private blockchains in contrast, are run by a central authority or a closed group of authorities. They control the network by not allowing any nodes from outside their own organisation or group of organisations to participate in the consensus process of approving and rejecting transactions. By being in this position, they have full control over which transactions are allowed on the network and which are not.
Blockchain enthusiasts often criticize private blockchains. Their main argument being that if the biggest merit of blockchain technology is that it allows for decentralized networks, why use this technology if you don’t leverage its main advantage? Proponents of private blockchains would argue that other advantages of blockchain technology (like robustness of infrastructure and transaction speed) are enough for blockchain systems to be a significant improvement over legacy systems.
Even though investors in general cannot invest in private blockchain initiatives (except indirectly, by buying stocks in the companies that control them), we are convinced these initiatives are good for the market. Private blockchains create opportunities for investors for two reasons.
Private blockchains pave the way for public ones
In the early days of the Internet most traditional companies didn’t initially embrace the open character of it. Service providers for instance, tried to control the behaviour of their customers by offering so called “walled garden” environments that only gave the user access to a curated list of websites. Other companies only allowed their employees to surf and communicate over a closed and curated intranet. Of course these limited experiences were not what users wanted, and those companies had to capitulate to customer demand.
Even though walled gardens were not what the Internet turned out to be, they did play an important role in the adoption of the Internet by large corporations. The idea that users would submit to a limited experience helped convince conservative forces in those organisations to start experimenting with this new and scary thing called Internet. On top of that, the fact that well known and trusted organisations launched internet services, accelerated adoption by the general public.
We think most companies building private blockchains are being naïve for the same reasons. They think they can build a blockchain only they control and somehow convince their competitors and customers to use their platform, so they can monetize all user data. This economic model is currently still in vogue, but blockchain technology offers an alternative that is more free. Like what happened when the Internet offered the potential of a fully free experience, users will gravitate away from the limited versions. An example of this is the private blockchain built by Maersk, that wants to create a global logistics ledger. A lot of Maersk’s competitors see the advantage of a global ledger for their industry, but are reluctant to make their biggest competitor rich by adopting it. So they don’t. Likewise, WhatsApp users will likely not limit themselves by using a currency that can only be used in ways that Facebook allows. Facebook’s blockchain initiative might initially gain some traction, but we expect truly open digital currencies to win in the long term.
If companies like Maersk and JP Morgan wouldn’t have had the idea they could control their market by being first movers with a private blockchain, they wouldn’t be investing millions in building the very infrastructure that will pave the way for the open versions that will be adopted by their peers.
Even though the blockchain industry is maturing rapidly, a lot of outsiders still associate blockchain with scams, illegal fundraising, hacks, tax avoidance, ponzi schemes, and the dark web. Companies like Facebook and JP Morgan entering the scene helps turn this image around. We see this effect happening in the way journalists report on the industry and in the fact that an increasing amount of traditional funds started dipping their toes into blockchain very recently. We also see it in our direct environment. Private investors that were on the fence until now, take the news of JP Morgan and Facebook as a cue to ask around whether this is the moment to “get in”. More investors entering the scene means more capital behind building a global blockchain infrastructure, which in turn attracts more investors in a virtuous circle.
Corporate giants adopting blockchain technology are not only noticed by investors, they’re also noticed by their competitors. Companies that are late to adopt a certain technology often choose to make up for lost time by buying it instead of developing it in house. This offers good exit opportunities for start-ups (and their investors) that are currently working on blockchain technology. Currently the potential upside for developers that aim their efforts at blockchain is big, combined with a low risk for failing because their experience will be in high demand. This is causing a significant inflow of talent into the industry.
We expect most private blockchain initiatives to fail, and few to succeed. The ones that succeed will not eat the entire market, because the blockchain market spans a multitude of global industries of which most are not winner takes all. The ones that fail will be the predecessors of the open infrastructure that blockchain start-ups and corporates alike will build upon.
Early private blockchain projects will accelerate familiarity with the technology and gradually point conservative forces within companies to the inevitability of an open infrastructure that maximizes utility for all parties involved.
We welcome companies like Facebook and JP Morgan betting big on blockchain, because they give legitimacy to a young industry that is about to shake off its immature image. These high profile initiatives will introduce blockchain based applications to a broader public and cause money as well as talent to flow into the overall industry, which creates excellent investment opportunities.