Say Goodbye to Building Towers on Sand: The Transformation of Crypto VC

Author: Nancy, PANews

From being a "bellwether for investment" to now being "feared by VC", crypto venture capital is undergoing a necessary demystification and clearing out.

The darkest hour is also the hour of rebirth. This brutal process of deflating the bubble is forcing the crypto market to establish a healthier and more sustainable valuation logic, and is also driving the industry back to rational development and towards maturity.

The downfall of star VCs: the moment when the halo of elites is tarnished.

Another crypto venture capital firm has fallen. On December 17, Shima Capital was reported to be quietly ceasing operations.

In this brutal crypto cycle, VC exits are not uncommon, but Shima Capital's exit was anything but dignified. Unlike other VCs that died from liquidity shortages or were dragged down by poor portfolios, Shima Capital's exit stemmed more from internal ethical hazards and management chaos.

The immediate trigger for this decision was a lawsuit filed three weeks earlier by the U.S. Securities and Exchange Commission (SEC) against the firm and its founder, Yida Gao. The lawsuit alleges that the firm violated multiple securities laws and illegally raised more than $169.9 million from investors through fraudulent means.

Under regulatory pressure, Yida Gao swiftly reached a settlement with the SEC and the U.S. Department of Justice, paying approximately $4 million in fines, deciding to close the foundation, and announcing her resignation from all positions, expressing deep regret for her "misleading decision." The foundation has entered liquidation proceedings and will gradually liquidate assets to repay investors, subject to market conditions.

As a star venture capital firm that has frequently invested in the crypto space, Shima Capital's rise relies heavily on the elite aura of its founders. Yida Gao, an American of Chinese descent, was a top student on Wall Street, has a background at MIT, and even succeeded former SEC Chairman Gary Gensler as a crypto professor at MIT. Her resume also includes renowned institutions such as Morgan Stanley and New Enterprise Associates.

With this background, Shima easily raised $200 million for its first fund, with investors including Dragonfly, hedge fund billionaire Bill Ackman, Animoca, OKX, Republic Capital, Digital Currency Group, and Mirana Ventures.

With a massive amount of capital at his disposal, Shima became one of the most active bettors in the last cycle, investing in over 200 crypto projects, including many hot ones such as Monad, Puddy Penguins, Solv, Berachain, 1inch, and Coin98. Despite the large portfolio, Shima and his team were criticized by investors as young and inexperienced, lacking a true understanding of the industry and merely riding the wave of cryptocurrency speculation.

Even more seriously, all of this was built on lies. According to the SEC's indictment, when raising $158 million for Shima Capital Fund I, he fabricated past performance, claiming that one of his investments had achieved a 90-fold return, while the actual figure was only 2.8 times. When the lies were at risk of being exposed, he even tried to appease investors by claiming it was a "typo."

Furthermore, Yida Gao raised funds from investors by setting up a Special Purpose Vehicle (SPV) to purchase BitClout tokens, promising discounts and protection of principal. However, in reality, although he purchased the tokens at a low price, he did not sell them to investors at the original price. Instead, he resold them to his own SPV at a higher price, secretly profiting $1.9 million without disclosure.

From a long-term perspective, Shima's exit also sends a positive signal to the market: crypto-related wrongdoing is no longer a lawless zone, and the industry's transparency and ethical standards will be better improved.

Related Reading: Unveiling the Founder of Shima Capital, Suspected of Misappropriating Assets: From Fujian Immigrant to Wall Street Financial Elite

The era of making money blindly is over; venture capital is entering a period of evolution.

The so-called failure of the VC model is essentially a market-driven force for industry evolution.

Currently, the assembly-line model of "VCs assembling projects and retail investors taking over" has been broken, and funds are rapidly withdrawing from worthless projects. For example, Monad, which recently launched with a stellar investment lineup, still couldn't escape the pricing dilemma, causing many VCs to "break down," and venture capitalists like Dragonfly engaged in heated debates about its value and valuation.

The rules of the game in the industry have changed. Whether it's the success of projects without VC funding (like Hyperliquid) or the community's resistance to overvalued projects, both are pushing venture capital firms out of their ivory towers. Only when the path of making quick money solely through "issuing and selling tokens" is blocked will VCs truly settle down and look for projects with sustainable revenue streams that can solve real-world problems.

The pain is obvious. As retail investors leave, liquidity dries up, traditional exit channels for venture capital are blocked, and valuation corrections not only lengthen the return cycle but also leave a large number of investments facing serious paper losses.

Not long ago, Akshat Vaidya, co-founder of Maelstrom, the family office of Arthur Hayes, publicly complained that his principal investment in a Pantera fund four years ago had been nearly halved, while Bitcoin had risen by about two times during the same period.

Some VCs even confessed to PANews that they were overwhelmed by exits, and even those who participated in seed rounds were now holding tokens at prices below cost. Even with projects listed on top exchanges like Binance, they had only recovered one-fifth of their initial investment after many years. Many projects opted to list on smaller exchanges to appease investors, but lacked liquidity for exits. Some projects simply chose to lie low and wait for the right opportunity.

Glassnode data shows that currently only about 2% of altcoin supply is profitable, indicating an unprecedented market divergence. Historically, it's rare for altcoins to consistently underperform during a Bitcoin bull market.

The data confirms that the era of making money blindly is completely over.

The end of one era signifies the beginning of another. Rui of HashKey Ventures pointed out on social media that VCs aren't afraid of enduring hardship, but rather of rushing things, which is why bear markets are actually more suitable for them. To truly succeed, one must survive until the next period of stagnation; unlike project teams, VCs are quite resilient. Furthermore, most crypto VCs essentially rely on information arbitrage, coupled with some path dependence, to earn a meager income and channel fees. More importantly, many of these individuals have now transitioned into market agents or market makers, essentially making little difference.

Build roads first, then construct buildings; seek opportunities with certainty.

Faced with the retreat of hot money, VCs are not all "fleeing," but rather are strategically shrinking and adjusting their operations.

“If a project doesn’t have a data dashboard, we won’t invest in it,” revealed an attendee at a recent crypto event in Dubai. VCs are now more focused on actual business data than just a story. Faced with this bleak reality, VCs are significantly raising their investment thresholds, and some are even completely abandoning new investments altogether.

Dovey Wan, founder of Primitive Ventures, frankly stated that for investors, the ratio of ability to exchange for luck is becoming increasingly demanding, especially in the post-GPT era. This applies to all industries; choice is more important than effort, but choosing is far more difficult than effort.

Pantera Capital recently revealed a positive trend in a video. According to their disclosure, while total funding in the crypto space reached $34 billion this year, surpassing records set in 2021 and 2022, the number of deals decreased by nearly 50%. Several key reasons underlie this phenomenon: First, the investor structure has changed. Family offices and individual investors active during 2021-2022 have become more cautious after experiencing losses in the bear market, with some even choosing to exit the market. Second, existing VCs are concentrating their investment strategies, preferring to invest in a few high-quality projects rather than casting a wide net as before, due to the higher costs of capital, time, and resources required to launch new projects. Furthermore, some funds are shifting to relatively safer assets, explaining the high concentration of funds in Bitcoin and a few mainstream assets in this cycle. Third, while funds are plentiful, the pace of investment has slowed. Many VC funds raised substantial amounts of capital in 2021 and 2022 and currently have ample "ammunition" to support existing portfolios, rather than rushing to invest in new projects. From a longer-term perspective, this change is not a negative signal, but rather a sign that the market is maturing.

Galaxy Research's recent Q3 investment report analysis also points out that while crypto VC investment increased during the quarter, it remained relatively concentrated. Meanwhile, nearly 60% of investment funds flowed to later-stage companies, the second-highest level since Q1 2021. Compared to 2022, venture capital fundraising data also shows a significant decline in investor interest. This data also indicates that VCs are more willing to invest heavily in opportunities with high certainty.

To hedge against the risks of relying on a single market, some crypto VCs are diversifying their investments, targeting markets outside of crypto-native crypto. YZi Labs' recent investment portfolio shows that its focus has shifted to non-crypto sectors such as biotechnology and robotics. Some crypto-native funds have also been investing in AI projects for some time now; while they don't have a significant bargaining advantage compared to tech funds, it represents a shift in their investment strategy.

Pantera also reflected on its investments in the previous cycle. "In the last cycle, a large amount of money flowed into speculative areas such as NFTs and the metaverse. These projects attempted to skip the infrastructure and directly build the 'cultural top layer.' But like building a castle on sand, the underlying infrastructure was not ready, the payment system was not mature, the regulatory environment was not clear, and the user experience was far from mainstream. The industry was too eager to find a killer app and invested resources in application layers that had not yet taken root."

Pantera believes the current crypto cycle is undergoing a necessary "correction." Funds are now flowing more into infrastructure development, such as more efficient payment chains, more mature privacy tools, and stablecoin systems. This is the correct sequence, and only then will applications in the next cycle have the potential to truly explode.

Lay a solid foundation first, then build the building.

The current brutal shakeout of crypto venture capital firms is not only a painful process, but also a process of reshaping.