Bridges across the Chasm to Web 3.0

Where Web 2.0 and Web 3.0 user value propositions are starting to converge

Where Web 2.0 and Web 3.0 user value propositions are starting to converge

Technology Lifecycle Adoption Curve for Web 3.0 Technologies

The verbiage “Web 3.0” used to bother me because it implied the existence of an upgraded version of the web that we are already building towards, and as if there was a master plan to convert all users to this new web once the building was complete. This felt like predicting the future, which is not something I’m comfortable doing as a venture capitalist. Instead, to do our jobs, we have to listen closely to the builders and the users, constantly searching for signals, and based on these inputs, we use collective pattern recognition to build hypotheses about the types of changes we might see in the world. This is a bottoms up and an iterative process, and the resulting hypotheses can often be conflicting and dynamic. For me, there is no single version of Web 3.0, and this is what makes the idea more palatable.

When I wrote our investment thesis into this emerging theme, I focused on the economic rationale for the gradual evolution of underlying infrastructures (protocols) powering the shift into the next web paradigm. I argued that they were more efficient for coordinating certain types of work while extracting less value than centralized companies. It was too early then to trust any signals on end user value prop.

In fact, this has long been the billion dollar question for Web 3.0 — what does it do for end users better than the products of Web 2.0?

Many builders in this space were originally attracted to the early ideologies — privacy, decentralization, and self-sovereignty —and some mistake them for value propositions. However, the average end-user does not adopt technology for these reasons. Throughout the past few years, we have seen more and more user-focused builders enter the ecosystem, and the most powerful feature of this ecosystem, and technological innovation in general, is that it has the ability to connect the dots by incremental composability — talented builders tinkering, and more talented builders tinkering on top.

I have followed the Web 3.0 movement closely for several years while also studying signals and building hypotheses in Web 2.0 sectors such as ecommerce, health, fintech, and developer tools. It was only in the past six months that I started to see semblances of conversion between the value propositions of the fastest growing Web 2.0 startups and innate abilities of the early Web 3.0 rails. These signals indicate that internet users are looking for value propositions that Web 3.0 protocols are better equipped to build. This is not enough to say we are crossing the chasm yet per se, but at least we are beginning see where the bridges can be built. Here are the examples that I have identified so far:

Products with Community

https://www.cnbc.com/2019/02/12/how-peloton-exercise-bikes-and-streaming-gained-a-cult-following.html

We are learning that many of the most successful companies in Web 2.0 have been those who are being picked by their users because of their community. For example, Peloton’s community has been referred to as “cultish” by journalists, not unsubstantiated by some of its hardcore fans who proudly sport Peloton tattoos. The enthusiastic, supportive, yet competitive community of users, led by an attractive entourage of celebrity instructors, creates a powerful product benefit that far surpassed the experiences offered by previous generations of stationary bikes. This allows the company command $2245 plus a $58 monthly subscription from its base of 1.4M users.

Like Peloton, companies like Glossier, MongoDB, and our portfolio company Na-Kd (amongst many others) also rely heavily on their communities to enhance their product in many ways. Communities help companies because they can generate functional value such as content, product development, marketing, customer support, open-source code, as well as more subjective values such as a sense of belonging, purpose and social status. After winning them over, community is also a great retention mechanism for users. It gives users skin in the game, paving the way for the company to have more interactions with them and more ways to monetize them in the future. Rebecca Kaden from USV wrote a great piece on this, and Jeff Bussgang from Flybridge also wrote about how community can as act a moat. These positive effects of community are compounding and therefore hard to copy for a newcomer.

Web 3.0 protocols can power communities in a way that Web 2.0 companies cannot. I wrote about this before in context of protocol design. One of the reasons communities can be hard to scale is because they often rely on a set of obscure rules, which can be hard to define, express, and even harder to enforce. The community can be led astray by a few bad actors, and if it doesn’t course correct quickly, the product experience can be ruined forever. Videochat pioneer Chatroulette’s product was ruined by a small minority of “exhibitionist” users because they didn’t moderate fast enough. Communities face a version of the tragedy of the commons problem since they are a public good. Protocols make communities stronger and scale faster by codifying and enforcing rules to properly manage a common resource.

More specifically, Web 3.0 protocols can give participants skin in the game, align the community’s incentives, clearly define the group’s boundaries, create transparency of behavior, and provide for a means for dispute resolution.

Perhaps the most powerful example of protocols coordinating community is the Bitcoin community itself, which has also been described as cultish and even religious by some. Depending on the evolution of the network and the extent of adoption, the Bitcoin network can be said to manage the common resource of value storage or global money supply. Everything that a community member does to support Bitcoin directly benefits the entire community, defined as anyone who owns Bitcoin. The Bitcoin community, to say the least, has done a lot to support the protocol; they write code directly for the protocol — Bitcoin core has a comparable level of Github engagement as some of the biggest open source projects, sponsored by the biggest companies in the world. They run mining hardware, providing the network enough power to process 100K PH/s and consuming as much electricity as Australia. Some community members have also started companies evangelizing the adoption of the technology. The community of Bitcoiners have developed memes like “hodling” and “maximalism” to reinforce their culture, and let’s also not forget about the marketing:

The Bitcoin Guy

Products with Finance

We are starting to see in Web 2.0 companies build in things like payments, working capital financing, and other more complex financial functions into their product. These financial services have been traditionally a separate, forgotten part of the product experience, imposing huge headaches for the user.

When you take a taxi for work, you need to first apply for a credit card, then swipe the card, and manually retrieve the receipt and take a picture and enter it into your company’s expense system. The driver, on the other hand, calculates the fee using the taxi meter, then types in the total amount into a credit card machine, swipes your payment, saves the other half of the paper receipt to account for this revenue, and then waits several days before the money processes through the taxi’s systems and finally to his bank account, with a substantial percentage taken out for processing fees. This fragmented user experience is a result of an incredibly complex payments processing stack:

The Payments Stack, Source: Finix Blog

When Uber created on-demand taxi rides, we often don’t think about seamless experience of stepping in and out of a taxi without ever having to think about how much to pay and how to pay, and that drivers get paid instantly into their bank account. However, this is one of the core puzzle pieces to ridesharing companies winning the market; payments has become one of the core aspects of the product.

Owning payments allows you to build a winning product. Your customers have different needs, pain points, and goals relating to the flow of money, such as tip pooling for restaurant staff (Toast), paying down business loans with daily card sales (Square), tying payments to rewards (Starbucks), streamlining collections (DocuSign), automating accounting reconciliation (Airbase), and paying out drivers instantly (Uber). Owning payments allows you to tailor the flow of money to solve your customers’ specific needs. In a world where the best product wins, mastering the payments experience is a strategic imperative. — Pat Grady, Sequoia

Our portfolio company Klarna was one of the first to help ecommerce companies build point-of-sale financing and try-before-you-buy directly into the checkout experience. This has helped the company win over 80 million shoppers globally and become one of the biggest tech unicorns in Europe. Not only does this help the customer to skip the hassle of having to find a loan provider based on some form of personal collateral in order to make expenditures match their paychecks, it also ensures that the merchant receives the cash upfront, risk free, while also making more money.

Faire, a wholesale marketplace for small boutiques, offers short-term working capital financing for its customers in the form of risk-free inventory. This is one of the key value props that has helped Faire grow from a YC upstart to a tech unicorn in just 2 years. Due to its 60-day payment terms, merchants can see if the product will sell through before coming up with the upfront capital to pay for it, and if it doesn’t, they can return the merchandise for free. This sounds simple, but coming up with the working capital for huge wholesale orders is one of the biggest hurdles for small shops whose job it is to carry a large and dynamic variety of merchandise. They would have to go to a traditional bank, who usually can’t underwrite small merchant risk, so the shop owner probably has to secure the loan somehow with their own assets. Ecommerce platforms, like Faire, have a better grasp on the risks associated with their customers and sell-through ability because they have all the data. They also have platform power over their suppliers and can force them to share some of this risk, so in many ways, they may be better equipped to provide credit for their customers and offer this as a core part of the product. Similarly, Amazon and Shopify have also been experimenting with working capital financing for its merchants.

However, to provide financial services within your Web 2.0 product, you need deep pockets or to work with banks with deep pockets, which introduces a lot of friction into the process.

Web 3.0 protocols have finance built-in, and they can build on top of other protocols to provide more complex services, drawing from native pools of capital earning yield natively from each protocol.

There are technical implementations for all types of payment services outside of the typical on-chain transaction, from micropayments, which allow video streaming companies to pay for each unit of video transcoded, to state channels that allow two people to agree on a value exchange that only gets executed if something happens, and paid subscriptions that you can trade while sharing a percentage of the revenue with the issuer— all without a central party to take any risk or extract any value from the transaction.

Outside of payments, Web 3.0 protocols can support collateralized loans, algorithmic exchanges, working capital financing, each protocol with its own natively-supplied pools of capital, and these capital pools are getting deep. In its first year, MakerDAO issued roughly $200Min in collateralized crypto-to-USD loans, and it took Lending Club 5 years to issue $250M; Maker uses this to maintain a stablecoin so that other apps can build dollar on-ramps for their users. dYdX and Compound have issued ~$270M in 50K collateralized crypto-to-crypto loans the past 30 days; they provide the backbone for margin trading and yield-earning fintech apps.

To their users, many of these protocols will have business models that look similar to Web 2.0 APIs (as explained in this post by Jesse Walden from a16z). These protocols abstract away many of the complexities to building a product with finance and empowers smaller upstarts to offer complex financial services without having to raise a ton of capital. We are still in the early days of product innovation using these financial primitives, but one can imagine potentially a fan merch site that accept payment in the form of minutes watched of the a vlogger’s livestream, and that same ecommerce site paying for its web services as a percentage of its sales in realtime.

Products with (portable) Data

Web 2.0 companies are starting to both consume and produce more portable data stores that work across apps.

Source: https://static1.smartbear.co/smartbearbrand/media/pdf/smartbear_state_of_api_2019.pdf

As companies transition to microservices architecture, APIs proliferated because breaking down monolithic applications into smaller components produces more data feeds and integration points. It also means more ways for companies to monetize their data streams and more ways for new companies to build on pre-existing data stores. For example, Plaid and our portfolio company Truelayer help banks share customers’ data with other apps with the users’ permission. Whereas previously, a fintech company would have had to build custom integrations into each bank their customers use, collect their data, and manage all of that sensitive data, now it can easily plug into a secure data feed and build value-adding products on top. We are seeing similar kinds of shift in healthcare data and employment data as well. Today there are more than 50,000 public APIs, and >60% of surveyed companies have invested in a public-facing API and surrounding infrastructure.

The movement has only been accelerated by enterprises trying to comply with data privacy regulation and shifting consumer preferences. Consumers need to be able to “disappear” from enterprise data stores and to give consent for their data to be used; companies like OneTrust, BigID and our portfolio company Sourcepoint are helping enterprises make consumer data more portable as well.

Simultaneously, companies have to build for a wide variety of end-user displays, resulting in a decoupling of backend data stores from front end development. Multitude of front end displays such as IOT devices, mobile, and web all need to access the same data sources on the backend to provide a unified customer experience. Tools like Firebase, Heroku, and Amplify help companies build pluggable backend data stores that speak via API to front end platforms. Companies like Gatsbyjs and Hugo help front end developers quickly build webpages that plug into these backends that can also be more performant and secure.

Just as the networking layer of software development was abstracted away after Web 1.0, the backend layer seems to be getting abstracted away as well with the rise of tools like cloud, containerization, serverless, and Jamstack.

While more data components empowers more developers to build customized, full-stack app, navigating tens of thousands of public and unstandardized data feeds can be daunting and expensive for a developer.

Web 3.0 protocols are built on open and interoperable data. Blockchain data itself is open, and projects like the Graph help developers query blockchains in a standard way. The Ceramic Network helps developers define data schemas (among other things) across data feeds to make them interoperable, and Arweave allows apps to permanently store data across a community-owned web. Our portfolio company 3Box also securely stores a user’s data across all of their apps. Using it, a developer can built a customized, dynamic app, where users bring their own data.

Outside of data services, Web 3.0 protocols can provide other pluggable backend functions like compute, content management, file storage, content distribution, location services, and authentication. Many of these are still early in terms of performance, but they should be considered as options by companies building backend abstractions for the current web. This post by Joel Monegro from Placeholder explains more in detail why.

The Beginning

Along with the scams and controversies, the capital injection into crypto in 2017 has fueled a lot of bottoms up building and tinkering of important Web 3.0 rails these past few years, which is often less well-publicized. It’s exciting to say that after years of closely observing these movements as well as investment themes across Web 2.0 that these two are beginning to converge (maybe we are already operating in Web 2.5).

Huge successful companies have already been built using community, finance, and data as competitive advantages. I am hopeful that we will see many more because Web 3.0 rails enable builders to build the same features with less capital.

However, these are still only the early signals of where the bridges could be built across the chasm of adoption, and there is still a lot of work to actually build them so that average users can cross. I am hopeful that the same forces that have fueled the earlier growth will only be accelerated in the next few years because the talent inflow into the space has not slowed down.