Health, Wealth, and Happiness

June 23, 2023

"Whether we're talking about socks or stocks, I like buying quality merchandise when it is marked down."

- Warren Buffet

In today's issue: One of the key measures advertisers use is how much a conversion or a user is worth to their business over the long term. It's known as the user acquisition cost (or cost

to acquire a customer).

Today, we want to look into a similar metric but in terms of blockchains. With that in mind, we bring you a classic from the vaults of Bitcoin Market Journal and look into Value Per User: How Much is a Crypto User Worth?

If you think of investing in blockchains in terms of investing in traditional businesses, you'll find this analysis informative and useful. It can help you determine if you're getting great value for price when looking at your crypto investments.

To get good at valuing crypto users, read on.

Must Read

Today's most important story for crypto investors.

The Crypto Conspiracy

(Delphi Digital)

Recently, there's been an unaccountable shift of major financial institutions towards embracing crypto. Institutions like BlackRock, Deutsche Bank, and NASDAQ are suddenly entering the crypto market en masse, with moves like filing for a bitcoin ETF and launching crypto custody services.

The Federal Reserve chairman Jerome Powell has also shifted to a positive stance towards crypto. At a congressional hearing, he stated crypto is an investable asset class with "staying power," and stablecoins are "a form of money" and should be treated as such. These developments could address issues of liquidity and security in the crypto market and boost investor confidence.

The question is, "Why now?"

Consider, too, the recent regulatory actions against major crypto exchanges by the Securities and Exchange Commission (SEC). While some have interpreted this as a potential effort to bring the crypto industry under U.S. control, this piece suggests recent regulatory actions may be ways for the U.S. to capture more of the crypto industry by weakening incumbent established players.

The piece concludes by suggesting that, "What has been seen as a conspiracy against crypto, may have actually been one for it."

Investor takeaway: There's no doubt the recent spate of ETF filings and positive words about crypto from major personalities within the TradFi system have been bullish. Just look at where bitcoin sits now: up nearly 20% over the past week.

If BlackRock (and then potentially many others) get approval from the SEC for a spot bitcoin ETF, the positive mantra surrounding crypto from TradFi is likely to get louder and more insistent. Combine that with the institutional capital flows into the market, and we could be on the cusp of the next bull market cycle for crypto.

Value Per User: How Much is a Crypto User Worth?

by John Hargrave

John Hargrave is on vacation this week. Here’s a classic column (updated with the latest numbers).

One of the principles of value investing (the style of investing favored by Warren Buffett and Charlie Munger) is to find “stocks on sale.” In other words, you find stocks that are trading at less than their true value... You look for deals.

In value investing, you use certain financial metrics to evaluate the health of a company and to determine whether its stock price is a bargain. Most of those metrics just don’t apply to blockchains, but some do.

In my How to Invest in DeFi series, I described how blockchains are more transparent than public companies because we can see everything happening in real time. We don’t have to wait for earnings reports, press releases, or corporate spins. The numbers are the numbers.

Of these numbers, the number of users is the most important metric as blockchains have network effects (refresh yourself on the Rocket Ship Rule). Then, we can divide the number of users by the total market cap to get a value per user (VPU).

In the charts above, I’ve pulled these numbers for many of the leading projects, using monthly active users from Token Terminal. The takeaway is that on a value per user (VPU) basis, Uniswap (UNI) is currently looking like a great deal, while Compound (COMP) looks ridiculously overvalued.

We would expect Ethereum’s VPU to be high. It's the platform used to create all these DeFi projects. ETH is the “meta investment” all these other investments are built upon. If you believe in Uniswap, you believe in Ethereum. If you believe in Compound, you believe in Ethereum. If you believe in DeFi, you believe in ETH.

Unlike bitcoin, which is not good for much of anything in the real world, Ethereum is the platform of choice for blockchain developers. It’s where the next generation of financial services are being built, so we'd expect Ethereum to be much higher on a value per user basis than any other DeFi project.

By this logic, Compound (which is built on Ethereum) looks overvalued in comparison, but Uniswap (also built on Ethereum, as well as many other blockchains) looks like a ridiculously good value.

As I’ve written in previous columns, publicly-traded social media companies are much lower on a VPU basis. Traditional investors value Facebook stock at about $150 per user and Twitter at around $75 per user. Do these numbers make sense?

Well, maybe. Any fool can start a Twitter account, while opening an Ethereum wallet requires a certain amount of technical proficiency. You also have to want to move value around—as opposed to Twitter, where you want to post things that no one will read, so crypto users are more valuable.

However, when we look at the value per user for some of these DeFi protocols, it gets hard to believe an individual user could really be worth $25,000 or more.

Here’s a useful analogy: think of blockchains like businesses.

Blockchains as Businesses

In a traditional business, you have customers. In the marketing world, we often talk about the “cost to acquire a ccustomer,” which is abbreviated CAC (also, the noise you make when you get the bill from your marketing agency).

Let’s say you have an online shop that sells custom socks. Your average customer orders two pairs of socks and comes back later for another two pairs. Your average pair of socks costs $25, so the “customer lifetime value” is $100 (four pairs of socks at $25 a pair). To keep it simple, let’s say a new customer is worth $100.

What would you pay to acquire that new customer?

Of course, in a real business, we have to look at what it costs us to produce the socks, the operating costs of our sock sweatshop, etc., but we certainly wouldn’t pay more than $100 to acquire a customer that’s worth $100.

This CAC (gesundheit) is useful for deciding where to spend your marketing money to acquire new customers. For example, you wouldn’t want to buy search advertising if Google is charging you $2 per click and only one in 100 ad clickers end up buying socks ($2 / 1% = $200 CAC).

Now, imagine you own an entirely different business. Let's say you make the ecommerce software that powers the online sock stores. New users pay $1,000 per month, and because it’s such a hassle to switch ecommerce platforms, they stay for an average of three years. Your CAC is $36,000.

As these are more valuable customers, it's reflected in Google's ad prices. Now, your cost to advertise on Google is $20 per click (ecommerce software is a better business than ecommerce itself), but if one in 100 ad clickers end up buying your ecommerce platform, you’ll pay Google all day long ($20 / 1% = $2,000 CAC to acquire a $36,000 customer).

This is why the cost to advertise on some Google keywords (like “ecommerce software”) is so expensive, while the cost on others (like “custom socks”) is so cheap. They’re totally different customers, and one type of customer is easily ten times as valuable as the other.

Now, let’s apply this to blockchains.

When you buy a blockchain investment, it's like you're investing in the underlying business. To be clear, you’re not buying a business. There’s often not even a company involved, but the idea is similar. Instead of customers, you have users, and those users have real value... both now and in the future.

This is not how most people invest in blockchain. They go with the crowd, jump on what’s hot, and follow the fools on Twitter. They look at historical prices and try to guess where they're going next. If a price is going up, they jump on the bandwagon, and when that price is going down, they sell to “lock in their losses.”

What I’m encouraging you to think about is the fundamental value of a blockchain project (value investing). A good measure of its value is users, especially when those users are active and engaged. They’re like the loyal customers of a company.

Now, think about what you’d pay to acquire those new customers if you were running the blockchain "business." If you were the CEO of Ethereum (no such thing), would you pay $36,000 per new user?

If you were running the Compound “company,” could you really make the case that each new user is going to bring in $118,000 in long-term value? If we’re paying $36,000 per user on Ethereum, then paying $118,000 per user for an Ethereum-based project seems like a stretch to put it mildly.

Think of it this way... Would Compound pay $118,000 to get a new customer? If so, I want to be in charge of its marketing plan.

The takeaway for me is that a great way to invest in the DeFi ecosystem is to simply buy and hold Uniswap (UNI). At $44 per user, that’s a cheap crypto company.

Like a rising teenage pop star, the blockchain industry is still young and immature, so don’t invest more than you’re willing to lose. Think about blockchain investing as part of a balanced diet. Invest for the long term, as the only thing constant about crypto is change.

Most of all, look at the underlying value of these blockchain investments. As the legendary Ben Graham (the father of value investing) said, “Price is what you pay. Value is what you get.”

When the value far exceeds the price (like this newsletter), that’s a good investment.

Health, wealth, and happiness,

John Hargrave

Publisher, Bitcoin Market Journal

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