Blockchain technology is one of the most disruptive and innovative forces in the digital era. It has the potential to transform various industries and sectors, such as finance, supply chain, healthcare, energy, and more. However, not all blockchain projects are created equal. Some may have more value and utility than others, and some may have more risks and challenges than others. How can we evaluate blockchain technologies and business models in a systematic and rigorous way?
In this article, we will discuss a framework for the evaluation of blockchain technologies and business models, based on the Forbes article “Blockchain: How To Conduct Your Due Diligence And Evaluate Business Models” by Nitin Kumar. The framework consists of three tests: a decentralization test, a crypto-asset test, and a business model test. We will explain each test and provide some examples and insights for each one.
Decentralization Test
Decentralization is one of the core features and values of blockchain technology. It means that the network or system is not controlled by a single entity or authority, but rather by a distributed network of participants who cooperate and coordinate to achieve a common goal. Decentralization can foster innovation, trust, transparency, and resilience in the blockchain ecosystem.
To measure the degree of decentralization of a blockchain network or project, we can use some criteria and indicators, such as:
The number and diversity of nodes: Nodes are the computers or devices that run the blockchain software and validate transactions. The more nodes there are in the network, and the more diverse they are in terms of location, ownership, and affiliation, the more decentralized the network is.
The consensus mechanism: Consensus is the process by which the nodes agree on the state of the blockchain ledger. There are different types of consensus mechanisms, such as proof-of-work (PoW), proof-of-stake (PoS), delegated proof-of-stake (DPoS), etc. Some consensus mechanisms require more computational power or stake than others, which can affect the level of decentralization and security of the network.
The governance model: Governance is the way by which the rules and policies of the network are decided and enforced. There are different types of governance models, such as on-chain governance, off-chain governance, hybrid governance, etc. Some governance models are more democratic and participatory than others, which can affect the level of decentralization and accountability of the network.
Some examples of highly decentralized blockchain projects are Bitcoin and Ethereum, which have thousands of nodes around the world, use PoW as their consensus mechanism, and have mostly off-chain governance. Some examples of centralized blockchain projects are Ripple and EOS, which have fewer nodes that are mostly controlled by a few entities, use DPoS as their consensus mechanism and have mostly on-chain governance.
Advantages of Decentralization
The advantages of decentralization include:
Innovation: Decentralization can encourage creativity and experimentation among the network participants, who can propose and implement new ideas and solutions without relying on a central authority or intermediary.
Trust: Decentralization can enhance trust among the network participants, who can verify the validity and authenticity of transactions and data without relying on a central authority or intermediary.
Transparency: Decentralization can increase transparency among the network participants, who can access and audit the transactions and data on the blockchain ledger without relying on a central authority or intermediary.
Resilience: Decentralization can improve resilience among the network participants, who can maintain the functionality and security of the network even if some nodes fail or are attacked.
Disadvantages of Decentralization
The disadvantages of decentralization include:
Scalability: Decentralization can limit scalability among the network participants, who may face challenges in processing large volumes of transactions or data in a timely and efficient manner due to the high computational or bandwidth requirements.
Coordination: Decentralization can hinder coordination among the network participants, who may face difficulties in reaching a consensus or agreement on important issues or changes due to the lack of a central authority or intermediary.
Regulation: Decentralization can complicate regulation among the network participants, who may face uncertainties or conflicts in complying with different legal or regulatory frameworks across different jurisdictions due to the lack of a central authority or intermediary.
Crypto-Asset Test
Crypto assets are digital assets that are issued and transferred on a blockchain network. They can represent various types of value or utility, such as currency, commodity, security, utility token, non-fungible token (NFT), etc. Crypto assets can enable new forms of exchange and interaction among the network participants.
To evaluate the value and utility of crypto-assets, we can use some criteria and indicators, such as:
The tokens: Token is the study of how crypto-assets are designed, distributed, used, and managed within a blockchain ecosystem. It includes aspects such as the token supply, the token allocation, the token distribution, the token utility, the token governance, etc. The tokens can affect the demand and supply of crypto-assets, and thus their price and value.
The market demand: Market demand is the level of interest and willingness of the network participants and external stakeholders to acquire and use crypto assets. It can be influenced by factors such as the network effect, network adoption, network innovation, network reputation, etc. The market demand can affect the liquidity and volatility of crypto-assets, and thus their price and value.
The regulatory environment: Regulatory environment is the set of rules and policies that govern the creation, issuance, transfer, and use of crypto-assets within a blockchain ecosystem. It can vary across different jurisdictions and sectors and can be influenced by factors such as the legal status, the tax treatment, the anti-money laundering (AML) and counter-terrorism financing (CTF) requirements, etc. The regulatory environment can affect the legality and compliance of crypto-assets, and thus their price and value.
Security and scalability: Security and scalability are measures of how well a blockchain network can protect and support the creation, issuance, transfer, and use of crypto assets within a blockchain ecosystem. They can be influenced by factors such as the consensus mechanism, the encryption method, the network architecture, etc. The security and scalability can affect the functionality and reliability of crypto-assets, and thus their price and value.
Some examples of successful crypto-assets are Bitcoin and Ethereum, which have high tokens, market demand, regulatory environment, security, and scalability. Some examples of unsuccessful crypto-assets are Bitconnect and OneCoin, which have low tokens, market demand, regulatory environment, security, and scalability.
Advantages of Crypto-assets
The advantages of crypto-assets include:
Efficiency: Crypto-assets can increase efficiency among the network participants, who can execute transactions or contracts faster and cheaper than traditional methods due to the elimination or reduction of intermediaries or fees.
Inclusion: Crypto-assets can increase inclusion among the network participants, who can access financial or digital services that may be otherwise unavailable or inaccessible due to geographical or socio-economic barriers.
Innovation: Crypto assets can foster innovation among the network participants, who can create or use new forms of value or utility that may be otherwise impossible or impractical due to technological or institutional limitations.
Disadvantages of Crypto-assets
The disadvantages of crypto-assets include:
Volatility: Crypto-assets can exhibit volatility among the network participants, who may face significant fluctuations in the price or value of crypto-assets due to various factors such as speculation, manipulation, hacking, etc.
Risk: Crypto-assets can entail risk among the network participants, who may lose their funds or data due to various factors such as theft, fraud, error, etc.
Regulation: Crypto-assets can pose regulation among the network participants, who may encounter legal or regulatory uncertainties or conflicts due to various factors such as ambiguity, inconsistency, enforcement, etc.
Business Model Test
A business model is the way by which a blockchain project creates, delivers, and captures value for its stakeholders. It includes aspects such as revenue streams, cost structure, customer segments, value proposition, channels, relationships, resources, activities, partnerships, and key metrics. Business models can determine the viability and sustainability of a blockchain project in the long term.
To assess the viability and sustainability of a blockchain-based business model, we can use some criteria and indicators, such as:
The revenue streams: Revenue streams are the sources and methods of generating income from the blockchain project. They can include fees, subscriptions, advertisements, donations, etc. The revenue streams should be clear, diverse, and stable.
The cost structure: Cost structure is the amount and type of expenses incurred by the blockchain project. They can include development, maintenance, operation, marketing, etc. The cost structure should be low, scalable, and efficient.
The Customer segments: Customer segments are the groups of people or organizations that benefit from or contribute to the blockchain project. They can include users, developers, investors, partners, etc. The customer segments should be large, loyal, and satisfied.
The value proposition: Value proposition is the unique benefit or solution that the blockchain project offers to its customer segments. It should be clear, compelling, and differentiated.
The channels: Channels are the ways by which the blockchain project reaches out to its customer segments. They can include websites, apps, social media, events, etc. The channels should be effective, accessible, and engaging.
The relationships: Relationships are the types of interactions that the blockchain project establishes with its customer segments. They can include self-service, automated service, personal service, community service, etc. The relationships should be trustworthy, responsive, and rewarding.
The resources: Resources are the assets or capabilities that the blockchain project utilizes to create and deliver its value proposition. They can include human, physical, intellectual, financial, etc. The resources should be adequate, qualified, and protected.
The activities: Activities are the tasks or processes that the blockchain project performs to create and deliver its value proposition. They can include research, development, testing, deployment, etc. The activities should be aligned, optimized, and monitored.
The partnerships: Partnerships are the alliances or collaborations that the blockchain project forms with other entities to create and deliver its value proposition. They can include suppliers, distributors, competitors, regulators, etc. The partnerships should be strategic, mutually beneficial, and synergistic.
The key metrics: Key metrics are the measures or indicators of the performance and progress of the blockchain project. They can include users, transactions, revenue, profit, etc. The key metrics should be relevant, quantifiable, and achievable.
Some examples of innovative and disruptive blockchain-based business models are:
Uniswap: A decentralized exchange that allows users to swap any two tokens on the Ethereum network without intermediaries or fees. It uses a novel mechanism called automated market making, which relies on liquidity pools provided by users. Uniswap generates revenue by charging a 0.3% fee on each trade, which is distributed to the liquidity providers. Uniswap has become one of the most popular and liquid decentralized exchanges in the crypto space, with over $3 billion in daily trading volume as of December 2021.
Axie Infinity: A blockchain-based game that allows users to collect, breed, battle, and trade digital creatures called Axies. It uses a token called AXS, which is used for governance and staking, and a token called SLP, which is used for breeding and earning. Axie Infinity generates revenue by taking a 4.25% fee on each Axie sale, and by selling land plots and items in its virtual world. It has become one of the most successful and popular blockchain-based games, with over 2 million daily active users and over $2 billion in revenue as of November 2021.
OpenSea: A decentralized marketplace that allows users to buy, sell, and discover digital assets such as NFTs, domain names, game items, etc. It uses a token called OPE, which is used for governance and rewards. OpenSea generates revenue by taking a 2.5% fee on each sale, and by offering premium features and services to its users and partners. OpenSea has become the largest and most diverse NFT marketplace, with over $10 billion in total sales volume as of December 2021.
Final Thoughts
We hope this article has provided useful information and guidance on how to evaluate in a systematic and rigorous way. Blockchain technology is an exciting and promising field that offers many opportunities and challenges for innovation and disruption. However, not all blockchain projects are created equal. Some may have more value and utility than others, and some may have more risks and challenges than others. Therefore, it is important to conduct due diligence and evaluate business models before investing or participating in any blockchain project.