Written by: Joel John, Decentralised.co; Translated by: Yangz, Techub News

Money controls everything around us. When people start talking about fundamentals again, the market is probably in a bad situation.

This article raises a simple question, is it necessary to generate income? If so, should the team buy back their own tokens? Like most things, there is no clear answer to this question. The way forward needs to be paved by honest dialogue.

This article is inspired by a series of conversations with Ganesh Swami, co-founder of the blockchain data query and indexing platform Covalent. The content involves the seasonality of agreement revenue, the evolving business model, and whether token repurchases are the best use of agreement capital. This is also a supplement to the article I wrote last Tuesday about the current cryptocurrency industry being at a standstill.

Private capital markets such as venture capital always swing between excess liquidity and scarcity of liquidity. When these assets are transformed into liquid assets and external funds continue to pour in, industry optimism often drives prices up. Think of all kinds of new IPOs, or token offerings, which newly acquired liquidity will put investors in more risk, but in turn will drive the birth of a new generation of companies. When asset prices rise, investors will turn their funds to early stage applications, hoping to get higher returns than benchmarks such as Ethereum and SOL.

This phenomenon is a characteristic of the market, not a problem.

Source: Equidam Principal Researcher Dan Gray

The liquidity in the cryptocurrency industry follows a periodic cycle marked by the halving of the Bitcoin block reward. According to historical data, market rebounds usually occur within six months after the halving. In 2024, the inflow of Bitcoin spot ETFs and the large-scale purchase of Michael Saylor (a total of $22.1 billion spent to buy Bitcoin last year) became the "reservoir" of Bitcoin. However, the rise in Bitcoin prices did not drive the overall rebound of small altcoins.

We are currently in a period of tight capital liquidity, with capital allocators distracted by thousands of assets, and the founders who have been working hard to develop tokens for many years are also trying to find the meaning of all this. "Since the launch of meme assets can bring more economic benefits, why do you have to work hard to build real applications?"

In previous cycles, with the support of exchange listing and venture capital, L2 tokens enjoy a premium because they are considered to have potential value. However, as more and more participants pour into the market, this perception and its valuation premium are being dissipated. As a result, the L2 token value is, which in turn limits their ability to subsidize smaller products with grants or token revenue. Furthermore, overvalued valuation in turn forced the founders to raise the old question that plagued all economic activities: Where does the income come from?

The above figure explains the typical way cryptocurrency project revenue works well. For most products, Aave and Uniswap are undoubtedly the ideal templates. These two projects have maintained stable expense income for many years due to their early entry into the market and the "Lindi Effect". Uniswap can even generate revenue by increasing front-end expenses, perfectly confirming consumer preferences. Uniswap is to decentralized exchanges, just like Google is to search engines.

In contrast, the revenues of the projects Friend.tech and OpenSea are seasonal. For example, the "NFT Summer" lasted for two quarters, while the speculative boom in social finance (Social-Fi) lasted for only two months. For some products, speculative income is understandable, provided that its revenue scale is large enough and consistent with the original intention of the product. Currently, many meme trading platforms have joined clubs with fee income of over $100 million. This revenue scale is usually achieved for most founders only through token sale or acquisition. This level of success is not common for most founders who focus on developing infrastructure rather than consumer applications, and the revenue dynamics of infrastructure are different.

As between 2018 and 2021, venture capital companies have provided a lot of money for developer tools, and look forward to developers to gain a large number of users. But by 2024, there have been two major changes in the cryptocurrency ecosystem:

First, smart contracts have achieved unlimited scalability with limited manual intervention. Today, Uniswap and OpenSea no longer need to expand their team proportionally based on transaction volume.

Secondly, advances in the Big Language Model (LLM) and artificial intelligence have reduced the investment demand for cryptocurrency developer tools. Therefore, as an asset class, it is in a "clearing moment".

In Web2, the API-based subscription model works because of the huge number of online users. However, Web3 is a smaller niche with only a very small number of applications that can scale to millions of users. Our advantage is that the single user has a higher customer order income. Based on the characteristic that blockchain can make funds flow, ordinary users in the cryptocurrency industry often spend more money at a higher frequency. Therefore, in the next 18 months, most businesses will have to redesign their business model to earn revenue directly from users in the form of transaction fees.

Of course, this is not a new concept. Originally Stripe PressAPI calls are charged, while Shopify charges a flat fee for subscriptions, but both platforms later changed to charging at revenue percentage. For infrastructure providers, Web3's API charging method is relatively simple and direct. They cannibalize the API market by competing to lower prices, and even provide free products until a certain transaction volume is reached before negotiating revenue sharing. Of course, this is an ideal hypothetical situation.

As for what will happen in reality, Polymarket is an example. Currently, the tokens of the UMA protocol will be bound to dispute cases and used to resolve disputes. The more predicted markets, the higher the probability of disputes occur, thus directly driving demand for UMA tokens. In a trading model, the required margin can be a small percentage, such as 0.10% of the total bet. Assuming a bet of $1 billion on the presidential election results, UMA can earn $1 million. In the hypothetical scenario, UMA can use this income to buy and destroy its own tokens. This model has its advantages and also faces certain challenges (we will discuss it further later).

Aside from Polymarket, another example of using a similar pattern is MetaMask. With the wallet’s embedded redemption feature, there is currently about $36 billion in transaction volume, and the revenue from the redemption business alone exceeds $300 million. In addition, a similar model applies to staking providers like Luganode, which can charge fees based on the amount of the staking assets.

However, in a market with declining revenue from API calls, why should developers choose one infrastructure provider over another? If you need to share your income, why choose this oracle service instead of another one? The answer lies in the network effect. Data providers that support multiple blockchains, provide unparalleled data granularity, and can index new chains faster will become the first choice for new products. The same logic applies to transaction categories such as intent or without Gas redemption tools. The more blockchains supported, the lower the cost and faster it provides, the more likely it is to attract new products, because marginal efficiency helps retain users.

It is not new to peg the token value to agreement revenue. In recent weeks, some teams have announced mechanisms to repurchase or burn native tokens based on revenue ratios. Among the things worth paying attention to include Sky, Ronin, Jito, Kaito and Gearbox.

Token repurchase is exactly the same as stock repurchase in the US stock market. It is essentially a way to return value to shareholders (token holders) without violating the securities laws.

In 2024, the amount used by the U.S. market alone for stock repurchases was as high as about $790 billion, compared with the figure in 2000 that was only $170 billion. And before 1982, stock buybacksAlways considered illegal. Over the past decade, Apple alone has spent more than $800 billion to buy back its own shares. While it remains to be seen whether this trend will continue, we see a clear differentiation in the market between tokens that have cash flow and willing to invest in their own value and tokens that have neither.

Source: Bloomberg

For most early protocols or dApps, using revenue to repurchase their own tokens may not be the optimal way to use capital. One possible approach is to allocate enough funds to offset the dilution effect of new token issuance, which is what Kaito founders recently explained its token repurchase method. Kaito is a centralized company that uses tokens to incentivize its user base. The company obtains centralized cash flow from corporate customers and uses part of the cash flow to execute token repurchases through market makers. The number of tokens repurchased is twice the number of newly issued tokens, thus bringing the network into a deflation state.

Unlike Kaito, Ronin takes another approach. The chain adjusts the fee based on the number of transactions per block. During peak usage periods, some network expenses will flow into the Ronin treasury. This is a way to monopolize the supply of assets without buying back the tokens. In both cases, the founders designed mechanisms to link value to economic activities on the Internet.

In future articles, we will explore in-depth the impact of these operations on the price and on-chain behavior of tokens participating in such activities. But for now, it is obvious that with the decline in token valuations and the reduction in the amount of venture capital flowing into the cryptocurrency industry, more teams will have to compete for marginal funds flowing into our ecosystem.

In view of the core attributes of the blockchain's "monetary track", most teams will switch to the revenue model of volume percentage. When this happens, if the project team has already launched the token, they will have the motivation to implement the "repurchase and destroy" model. Teams that can successfully execute this strategy will become winners in the liquid market, or they may purchase their tokens at extremely high valuations. All the results can only be known afterwards.

Of course, one day, all discussions about prices, benefits and income will become irrelevant. We will continue to invest our money in various "dog Memecoin" and buy various "monkey NFTs". But look at the current market situation, most founders who are worried about survival have begun to have in-depth discussions around revenue and token destruction.