Galaxy Digital: Q1 2024 Cryptocurrency and Blockchain Investment Report

Original Title: “Crypto & Blockchain Venture Capital -- Q1 2024”

Authors: Alex Thorn, Gabe Parker

Compiled by: Shenchao TechFlow

Introduction

Bitcoin and the broader liquidity cryptocurrency market saw a significant rise in the first quarter of 2024, rekindling optimism across the industry. The crypto venture capital market appears to be rebounding, although the data available at the time of writing in mid-April seems slightly dimmer than market sentiment. Overall, founders and investors report that the financing environment is more active compared to previous quarters. After three consecutive quarters of declining transaction numbers and investment funds, both metrics saw an increase in the first quarter. While the rise in the liquidity cryptocurrency market can boost sentiment in the venture capital community, the anticipated interest rate cuts sought at the beginning of the year seem less likely to occur. Stubborn inflation data, coupled with a generally strong U.S. economy, has led Federal Reserve officials to make numerous hawkish statements, causing the futures market to lower expectations for rate cuts in 2024 from seven cuts in January to 1-2 cuts. Higher interest rates will continue to pose challenges for venture funds seeking to raise capital, and thus, startups looking to secure investments from these funds will also face challenges.

The number of transactions increased by over 50% quarter-over-quarter, but investment funds only grew by 29%. Categories attracting significant venture capital attention include Bitcoin Layer 2, re-staking, infrastructure developer tools, and gaming. The transaction size remained flat quarter-over-quarter, but valuations increased by nearly 100%, indicating that while funding remains tight, founders are able to raise capital with less dilution by leveraging improved market sentiment.

Crypto Market Venture Capital

Transaction Numbers and Investment Funds

In the first quarter of 2024, venture capitalists invested $2.49 billion in the cryptocurrency market and blockchain companies (a 29% quarter-over-quarter increase), involving 603 transactions (a 68% quarter-over-quarter increase).

This marks the first increase in investment funds and transaction numbers in three quarters, possibly signaling that Q4 2023 was the "bottom," but the sustainability of this quarterly growth—and more meaningful growth—will be confirmed in the coming quarters.

Investment Funds & Bitcoin Prices

While venture capital in the cryptocurrency space is typically correlated with Bitcoin prices, this correlation has broken down over the past year. Bitcoin has surged significantly since January 2023, yet venture capital activity has largely remained sluggish. In Q1 2024, Bitcoin saw a substantial rise, and while investment funds also increased, investment activity is still far from the levels seen when Bitcoin last traded above $60,000. The native catalysts in the cryptocurrency industry (Bitcoin ETFs, re-staking, modularity, Bitcoin L2, etc.) and macro headwinds (interest rates) have contributed to this significant divergence.

Stage-Based Venture Capital

In the first quarter of 2024, approximately 80% of funds flowed to early-stage companies, while 20% went to late-stage companies. Early-stage venture funds focused on cryptocurrency remain active, and many funds are still relying on their fundraising from 2021 and 2022 to stay afloat, allowing notable early-stage companies to still secure funding. However, many large, diversified venture capital firms have exited the industry or significantly reduced their risk exposure, making it more challenging for late-stage startups to raise funds.

In terms of transactions, the share of pre-seed transactions slightly increased in the first quarter, indicating growth in newly established startups.

Valuations and Transaction Sizes

In 2023, the valuations of venture-backed crypto companies plummeted, reaching the lowest pre-money valuation median since Q4 2020 in the fourth quarter. However, despite the median transaction size remaining stable quarter-over-quarter, valuations rebounded in Q1 2024. Data indicates that founders were able to raise the same amount of funds compared to the last quarter of 2023, but with lower dilution. Meanwhile, the dynamics of the broader venture capital ecosystem were quite the opposite—transaction sizes decreased by 50% quarter-over-quarter, while the median pre-money valuation remained largely unchanged, indicating that founders had to sell more equity to raise the same amount of funds. The rise in valuations may stem from the heightened market sentiment in the first quarter—despite the lack of additional funds, founders were still able to leverage the improved market sentiment to achieve higher valuations.

Investment by Category

In Q1 2024, companies and projects in the "Infrastructure" category raised the largest share of crypto venture capital (24%), led by EigenLayer's $100 million financing.

Web3 and Trading companies followed, accounting for 21% and 17% of investment funds, respectively.

In terms of transaction numbers, Web3 led with a 24% share, primarily due to an increase in gaming-related transactions.

Infrastructure and Trading followed, accounting for 15% and 12% of all transactions completed in Q1 2024, respectively.

Investment by Stage and Category

Breaking down investment funds and transaction numbers by category and stage provides clearer insights into which types of companies are raising funds within each category. The vast majority of funds in the Infrastructure, Web3, and Trading categories flowed to early-stage companies and projects.

Examining the share of funds by investment stage in each category reveals the perceived maturity of each investable category in the eyes of investors.

Transaction numbers tell a similar story. The majority of transactions completed across almost all categories involved early-stage companies and projects.

Examining the share of transactions completed by stage within each category provides deeper insights into the various stages of each investable category.

Investment by Geography

Despite a challenging regulatory environment, U.S.-based companies continue to complete the most financing transactions and raise the most funds from venture capitalists. In Q1 2024, over 37.3% of transactions involved companies headquartered in the U.S. Singapore accounted for 10.8%, the UK for 10.2%, Switzerland for 3.5%, and Hong Kong for 3.2%.

U.S.-based companies attracted 42.9% of venture capital funds. Singapore accounted for 11.1%, the UK for 9.7%, Hong Kong for 7.9%, and France for 5.6%.

Investment by Cohort

In the transactions completed in Q1 2024, the vast majority involved startups founded between 2021 and 2023, which is understandable given that 2024 has just begun.

In terms of fundraising, companies founded between 2020 and 2022 received the most investment.

Crypto Venture Capital Fundraising

Fundraising for crypto venture funds remains challenging. The combination of the macro environment and turbulence in cryptocurrency market infrastructure has led some investors to no longer commit to cryptocurrencies to the same extent as in 2021 and 2022. At the beginning of 2024, investors generally believed that interest rates would be significantly lowered throughout the year, but strong inflation data throughout the first quarter weakened expectations for rate cuts this year, contributing to the difficult fundraising environment for venture capitalists. While the total amount allocated to crypto venture capital funds decreased quarter-over-quarter, the number of new funds increased, with at least 22 new funds announced.

On an annual basis, the average fund size in 2024 continues to decline, but the median size has slightly increased.

In terms of the sources of fund flows for allocators, crypto-focused funds are still struggling to raise funds from traditional allocators, who accounted for only a small portion of newly allocated funds in the first quarter.

Key Takeaways

• Sentiment and activity are improving, but still far below levels seen during previous bull markets. While the digital asset market has rebounded significantly from its lows in 2023, venture capital has lagged noticeably. In previous bull markets (such as 2017 and 2021), there was a high correlation between venture capital funding and the prices of liquid crypto assets, but in 2023 and 2024, venture capital remains far below previous levels while cryptocurrencies have rebounded. There are many reasons for the stagnation in venture capital: a high interest rate environment suppresses risk appetite; lingering weak sentiment in the crypto market following the 2022 explosion; and possibly a lack of sufficient late-stage companies capable of accepting large venture capital funding. As a result, early-stage companies account for the largest share of venture capital activity in terms of both funds and transaction numbers. In fact, despite only a slight quarter-over-quarter increase in total investment, transaction numbers grew by 50%, with most transactions occurring in Series A or earlier rounds.

• Early-stage transactions dominated in the first quarter. The continued focus on early-stage transactions signals a positive long-term outlook for the broader cryptocurrency ecosystem. While late-stage companies have struggled to raise funds, entrepreneurs are finding willing investors for new, innovative ideas. These projects and companies are building scalable solutions, games, tools, and services at the intersection of artificial intelligence and cryptocurrency.

• Bitcoin ETFs may pressure funds and startups. The launch of spot Bitcoin ETFs in the U.S. provides a convenient way for investors of all sizes to gain exposure to Bitcoin risk. While liquid Bitcoin is clearly not the same as investing in crypto startups, it may satisfy some investors' and allocators' demand for exposure to the cryptocurrency ecosystem. ETFs are regulated, offered by almost all brokerage platforms, have low fees, and high liquidity. Bitcoin ETFs also have the potential to challenge stocks linked to cryptocurrencies, which have historically been investment channels for the industry.

• Bitcoin L2 projects have garnered significant interest from venture capital investors. One of the most concentrated bets by crypto venture investors in Q1 2024 was on Bitcoin L2 projects. The emergence of Ordinals in 2023, followed by the creation of the BRC-20 token standard and now the Runes token standard, has prompted people to view Bitcoin as a platform network rather than just a currency network. Dozens of teams are attempting to build new types of second-layer networks on Bitcoin, many of which rely on and utilize scaling technologies developed in the Ethereum ecosystem (such as optimistic rollups, zk rollups, re-staking primitives, bridging protocols, etc.), and venture capitalists have invested heavily in these transactions.

• Web3 and Trading categories continue to dominate in transaction numbers and funds, but there has also been a surge in transactions in the infrastructure space. Both in terms of funds raised and completed transactions, Web3 and Trading categories remain in the lead, but in Q1 2024, "Infrastructure" actually ranked first in terms of funds raised and second in terms of transactions. This category is indeed broad (as are the other three categories), but the Infrastructure category broadly includes staking, re-staking, platform tools, sequencing services, or other tools aimed at blockchain developers and users. EigenLayer's $100 million financing round led the investment in infrastructure funds.

• Despite some fundraising success for newly established small funds, fund managers still face a challenging environment. In the first quarter, the number of newly established funds increased by 22, but the total amount allocated to crypto-focused venture fund management companies continued to decline. Understandably, the average fund size ($108 million) decreased quarter-over-quarter, while the median fund size ($65 million) only slightly increased. As mentioned, since 2022, with the bankruptcies of several venture-backed cryptocurrency companies and rising U.S. interest rates, crypto venture capital funds have struggled to raise funds, which has dampened allocators' risk appetite. If the prices and launch rates of liquid cryptocurrencies continue to rise, and some large venture capital funds successfully raise large amounts of capital, we expect the venture capital market to loosen again, and managers will achieve greater success.

• The U.S. continues to dominate the crypto startup ecosystem. While the U.S. maintains a clear lead in transactions and funds, regulatory headwinds may force more companies to go abroad. If the U.S. is to maintain its position as a long-term center for technological innovation, policymakers should be aware of how their actions or inactions will impact the cryptocurrency and blockchain ecosystem.