Hello world, and welcome to the second issue of our new format: Thursday Thoughts.
Each week (in addition to our Tuesday newsletter), founders and investors will share their thoughts on fundraising trends and strategy.
Mechanism Capital was launched in 2020 and is now a leading fund in the cryptocurrency industry with a focus on DeFi. Recently, they backed Divergence, Pontem, Set, Alice, and Burnt Finance.
Daryl Lau is responsible for sourcing and analyzing venture and public market investment opportunities, as well as conducting market research. Prior to that, he worked as a Market Research Analyst at CoinGecko.
Mechanism Capital invests globally - what are the main differences you see between Western and Eastern approaches?
The starkest difference we’ve noticed being a DeFi focused fund is that some of the western funds have restrictions on providing capital into Liquidity Mining/Yield Farming/Protocol Participation programs due to most having capital raised from Limited Partners with risk mandates attached. Most western funds are also significantly larger than their Asian counterparts, with 10-figure portfolios due to the closer proximity to different sources of capital like university endowments. Also, there may be some difference in the tendency of deployment of capital, like the larger Western funds prefer to bet on more mature products (Series A or later) where they’ve proven themselves or have gotten some amount of market share.
How do most founders get on your radar?
All kinds of ways! Could be from the network that we’ve built out, they range from other funds that we’re close with who appreciate how we work with our portfolio companies or founders within our portfolio network. We occasionally scout hackathon projects and also go through Twitter religiously be it our DMs. My twin brother, Darren also has this channel he calls “The Daily Ape” that posts quick links of interesting news that he curates as well.
How would you describe Mechanism’s brand? How important do you think the fund branding is today?
Biased but I think we’ve managed to build out a great brand and reputation in the short time that we’ve been live as a fund. Andrew, Marc, and I have been in the space a long time and managed to come together in a very synergistic way. Ben and Eva, albeit newer, have managed to pick up things quickly, with Ben being one of the biggest brains I know around L2s/rollups.
We’ve built a brand around being high touch with our portfolio companies, with Marc leading as the Head of Platform doing regular check-ins with founders to see where they need support. Support from our end could range from mechanism design (our name!) and token economics, things like designing an appropriate liquidity targeting program which we wrote an introductory piece here: https://www.mechanism.capital/liquidity-targeting/. This and among other great posts on our blog, we also commit to helping portcos structure their launch and TGE and make introductions to our networks - other funds for future financing rounds or other projects in the space for deeper integrations/partnerships.
How impactful is a crypto fund size on its investment strategy?
This is gonna be a multi-pronged answer, in most cases as a fund you’d want to have a sufficient enough % of the network to be incentivized to put in the work, but at the same time in a bull market like the past few months, everyone else has the capital to spare. So whatever allocation there is gets oversubscribed way too quickly and the % you’d ideally want to have gets cut as well. You can look at it from a pure number perspective as well, if a fund is a 9-10 figure fund, a $100k check would be <=0.1% of their book. So it’s slightly tricky expecting funds to put in all their resources to micromanage a position. In those cases, the project suffers as a result where value-add doesn’t really add any value. You also get the tragic common scenario where if there’s a party round VCs expect other VCs to do the work and nobody ends up doing it.
We’ve seen some funds like Paradigm do a few and concentrated approach where they come in for 60-80% of rounds and in return they do everything they can to make it succeed and you see few other funds that really just need to deploy as much capital as they can per their LP mandate so they spray and pray into every and any round they do have. At the end of the day, capital is cheap with an abundance of new capital pouring into institutions either from funds that have seen the wealth effects generated by Coinbase listing or just how DeFi has performed the past year, so it all boils down to actual portfolio support and how value add these funds beyond just re-tweets and marketing support in turn that’s proportional to their investment sizes and network exposure.
What advice would you give to a founder fundraising today?
Take your time raising, seriously. The market has taken a hit the past few weeks and the time for quick and easy capital raises are over: most of the valuations that we’ve seen have yet to come down and are still priced far too high for pre-product stage projects. You can take your time vetting the funds that want to invest in the round, doing your own due diligence by asking the projects in their portfolio what they think of said investors. As a founder, you want investors that back you through the project’s lifespan and have a multi-year horizon. If you take capital from a random marketing “fund” that popped up among the hundreds in this supercycle, that might not have been the best decision to make.
Take your time planning out how you want your token mechanics to work whether it’s a valueless governance token or a valuable cog in the machine. Regardless, your token is going to be your lifeblood of the project, and the token distribution needs to be thought through deeply. Many blue chips launched in the depths of the bear without any token and their products still gained meaningful traction. In a bear market, capital doesn’t come cheap either so you’d most often be wasting emissions in those scenarios.
Take your time launching your project, no matter the project’s prestige they’ve all been hacked before. Launch in phases with TVL Caps or user limits if you want. Get audits done or code reviews done. Test the hell out of it and the underlying components if you’re building on top of another DeFi Protocol. Don’t try to overengineer simple problems. Optimize for builders who’ve been through multiple cycles, they’ll have valuable advice and perspectives.
Thanks again Daryl for your incredible insights.
See you on Tuesday for Dove Mountain Weekly #6,
The Dove Mountain Team