Blockchain prices, like most assets, are driven by a combination of speculation and fundamentals.
Speculation can be temporarily profitable. But fundamental profits are sustainable (and more useful to a long term investor).
Currently, fundamental value for blockchains has rested on Technical achievement:
speed
security
decentralization
These are very important - they indicate tech capacity. But Apps are (even) more important, because they help us see if the tech capacity is actually being used.
Ethereum tech is innovative (as seen by speed, security & decentralization). But it would be naïve to assume that “building great tech means users will automatically come”.
Apps help us work out profit growth. Profit growth helps us measure the long term fundamental value of a blockchain.
Profit growth for the app: (paying users - expenses) x growth
We can then calculate:
how much revenue an app pays to underlying chains
how much growth is temporary due to incentives (like token inflation)
Apps create paying users, which creates fee revenue.
Fee revenue is:
shared across the tech stack (App layer, layer 2 and layer 1)
secures the chain
incentivises developers to keep innovating in the ecosystem.
To get users, web3 apps need to outcompete web2 peers.
Scaling is helping unlock this potential but there is far more to making great apps than speed (functionality, cost, UX, security etc).
Web2 apps have a strong lead:
great UX,
large communities (which often give a network effect)
and battle-tested features
Web3 enables new features, which are more attractive to users and that web2 won’t allow. Such as allowing users to:
Monetize directly with your audience
Opt out of Ads
Keep your audience if you move apps
Why won’t web2 social media allow these features?
Because it requires web2 to give up their primary way of making money (paid ads).
Even if a web2 Team wanted to give up the way they earn money, their shareholders would slow them down.
The current value of app revenue is alarmingly low relative to the market cap of blockchains.
Investors are buying future growth. This means calculating the value of transactions x by the growth over time.
This calculation is complex, because 3 major variables are unknown:
Transaction value is reduced by scaling (like rollups), which reduce transaction cost
Transaction count depends on app usage (which is difficult to forecast)
Sustainable transactions are unknown. The most common example is apps using token incentives to get users. This temporarily lifts the volume of users, but these numbers aren’t sustainable (because inflation dilutes the long term value of the chain).
An investor valuing an L1 needs to make a case for how sustainable profits will filter down the whole tech stack:
Why users will choose various web3 apps (instead of choosing web2 options)
How these users will grow in value (number of users x share of wallet).
Why apps will choose the layer 1 & 2 infrastructure.
How L2 fee revenue will accrue to Layer 1 protocols (like Ethereum)
We have no affiliation, but we found these two apps have the most useful data on fundamental value:
Good Apps create paying users. Without paying users, the quality of a Blockchain’s tech stack is irrelevant.
Investors are waking up to the reality that apps need to deliver sustainable paying customers - otherwise underlying chains have no value.
Watching app profit-growth will become increasingly useful for investors value blockchains, like Ethereum.