Venture Capitalists are Pouring Money into Web3. Here's Why.

Venture capital firms invested $33 billion in crypto and blockchain startups in 2021 and are on pace to nearly double that in 2022. Here's why VCs are so enamored by Web3.

learn more about Arnav Pagidyala

By Arnav Pagidyala

Opinions expressed by Entrepreneur contributors are their own.

Venture capital (VC) investment into the Web3 sector has been on fire this year, with several established VC firms launching a Web3 and crypto arm. Bain Capital's $560 million fund and a16z's $4.5 billion fund are just a few examples.

So why are these firms so optimistic on Web3 investments?

Outsized returns

The token economies that underpin many web3 projects can result in outsized returns compared to Web2 investments. This is especially true in the current climate of soaring inflation, interest rate hikes, startup valuation markdowns and market volatility. While the cryptocurrency market has seen its share of ups and downs in 2022, its total market cap grew by nearly 200 percent in 2021, with Bitcoin and Ethereum returning roughly 60 percent and 400 percent, respectively. Other cryptocurrencies posted impressive returns like Avalanche, up by approximately 3,300 percent, and Solana, up by about 11,000 percent.

Being more sector-specific, DeFi (decentralized finance) had a market cap of just $2 billion in 2020 and opened with a $160 billion market cap in 2022 — an 80-time growth in just two years. Many prominent investors and institutions are making the bold prediction that DeFi, which currently represents an immaterial percentage of the S&P500 traditional finance market, could be worth 100 times more in just five years.

Related: 3 Steps to Web3: The Ultimate Guide to Navigating Web3 for Non-Tech Founders

The NFT sector shared the same level of explosive growth, becoming a $40 billion market in 2021, a 21,000 percent increase from 2020! The NFT market is almost on par with the traditional art market, and for a good reason. If you were an early investor in specific projects such as CryptoPunks or Bored Ape Yacht Club, you would have enjoyed a staggering 100x return in under a year.

Of course, for every outsized winner, there are countless losers. Given that your typical venture capital fund targets an annual return between 20–30 percent, a venture fund needs only select a few solid investments. As we've seen, there are many opportunities to invest in potential unicorns at their early stages, returning 100x and covering the myriad of failures. This special time in Web3 represents an opportunity reminiscent of the early days of the internet boom, which gave birth to many of today's most notable VCs.


Traditional equity investments into startups are illiquid. Investors will typically need to wait for a liquidation event such as an IPO or acquisition to cash out themselves. Sure, there is a secondary market for private stock, and buy-outs from private investors have been around for some time. However, this is a very complex process and is not considered a liquid investment.

On the other hand, most early-stage Web3 projects issue tokens that can be traded on exchanges at any time. Hypothetically, if an investment goes 100X in a short period, investors often have the opportunity to realize the returns much sooner, given there is no lock-up period.

Additionally, a startup reliant on its token economy inherently means it's built on-chain. Being 'on-chain' (data is publicly stored on blockchain) means that startups and their key metrics are far more transparent than in private markets. This is because investors in Web3 projects can see how much capital they have, how the capital is deployed, and so on. This information is usually available just a click or two away on platforms such as Etherscan.

Passive income

Instead of just making traditional equity investments and hoping to reap a capital gain upon exit, tokens provide VCs with a unique opportunity to generate passive income on their holdings.

This can be done through either of the following methods:

  • The most popular is by staking your tokens. This means committing your assets to support a blockchain network that leverages a proof-of-stake consensus mechanism.
  • Another method is yield farming. You can deposit your tokens into a liquidity pool and earn interest.
  • Lastly, you can utilize liquidity mining. This means you can provide liquidity to a DeFi protocol and earn rewards.

Related: 9 Top Trends Shaping the Blockchain Industry

The rewards of these passive income mechanisms can be pretty compelling. They often range from two to 25 percent, or in the case of some riskier projects, over 1000 percent. Additionally, these rewards are usually distributed daily, representing a drastic change from what we're used to with interest-bearing term deposits or dividends.

This ultimately means that venture funds could generate attractive passive returns for themselves and their partners well ahead of any liquidation event, thus incentivizing them to not only hold their position but further contribute to the project's success.

Capital efficiency

The internet and its subsequent innovations allowed startups to tap into near-zero marginal cost solutions and unprecedented economies of scale. This made pre-internet companies look seriously capital inefficient.

Let's take Netflix as an example. Netflix maintains a few thousand employees and boasts over a $100 billion market cap in 2022. In contrast, its brick-and-mortar predecessor, Blockbuster, only managed a peak market cap of $5 billion with more than 60,000 workers and plenty of real estate.

How does this relate to Web3? Web3's token economies and base layer infrastructure, which underpin how projects pool capital, coordinate and incentivize holders, threaten to make web2 companies look just as inefficient as their pre-web predecessors.

Chris Dixon of a16z wrote that he's "never worked with a project that spent meaningful money on sales and marketing. You don't need to spend money on marketing when users are genuine owners, love what they do, and love telling other people about it." Web2 companies often budget millions on aggressive marketing to accelerate consumer acquisition, whereas Web3 startups have the luxury of scaling the network through token incentives.

UniSwap is a leading decentralized exchange with a fully diluted market cap of $6.2 billion and 50 employees. That's a staggering $124 million in market value per employee. To put that into perspective, the most successful company of all time, Apple, sits at roughly $18 million per employee.

This proves that startups no longer need to hire a plethora of talent. Rather, they can strategically leverage their token-incentivized network to help them build, scale and prosper, essentially becoming a low-cost base talent acquisition model.

Bottom of the S-Curve

As indicated earlier, this is an incredibly new space primarily defined by a sense of urgency and excitement reminiscent of the early days of Web1. Similar to Web1, there is also a lot of hype and dumb money going into the space, so we should proceed cautiously.

Most major financial institutions predict that the broader web3 sector will grow at a roughly 50 percent compound annual growth rate to become a multi-trillion dollar industry over the next decade. Despite their criticisms about crypto in the early days, JPMorgan, Goldman Sachs and Citi have recently set up crypto research divisions to capitalize on the rapidly growing opportunity.

Today, we are at the bottom of the S curve, meaning this could very well be the advent of a once-in-a-lifetime opportunity.

Related: Are Investors Realizing Web3.0 Potential?

Arnav Pagidyala

Entrepreneur Leadership Network Contributor

Advisor at Hashkey Capital

Related Topics

Editor's Pick

Everyone Wants to Get Close to Their Favorite Artist. Here's the Technology Making It a Reality — But Better.
The Highest-Paid, Highest-Profile People in Every Field Know This Communication Strategy
After Early Rejection From Publishers, This Author Self-Published Her Book and Sold More Than 500,000 Copies. Here's How She Did It.
Having Trouble Speaking Up in Meetings? Try This Strategy.
He Names Brands for Amazon, Meta and Forever 21, and Says This Is the Big Blank Space in the Naming Game
Money & Finance

What Is a Good Credit Score and How Do I Get One?

Is bad credit holding you back? This article explains what constitutes a good credit score and how to raise your score if it's low.

Business News

I Live on a Cruise Ship for Half of the Year. Look Inside My 336-Square-Foot Cabin with Wraparound Balcony.

I live on a cruise ship with my husband, who works on it, for six months out of the year. Life at "home" can be tight. Here's what it's really like living on a cruise ship.

Business News

These Are the Most and Least Affordable Places to Retire in The U.S.

The Northeast and West Coast are the least affordable, while areas in the Mountain State region tend to be ideal for retirees on a budget.

Thought Leaders

The Collapse of Credit Suisse: A Cautionary Tale of Resistance to Hybrid Work

This cautionary tale serves as a reminder for business leaders to adapt to the changing world of work and prioritize their workforce's needs and preferences.

Business Solutions

Learn to Build a ChatGPT Bot for Only $30

If you want to see what AI can do for your business, grab this course bundle today.


6 Myths About Leadership That May Be Holding You Back

By dispelling these leadership myths, we can create a more realistic and nuanced understanding of what it means to be an effective leader.