Investing in Centrifuge

Published in

Coinmonks

7 min readAug 30, 2022

Centrifuge brings real-world assets to the blockchain. It offers a decentralized lending protocol that allows users to tokenize their real-world assets such as mortgages and royalties and unlock enormous liquidity from these assets. Centrifuge provides quick, cheap capital for small businesses and stable yields for investors.

Product

Tinlake, the Centrifuge’s core consumer-facing product, is an open, smart-contract based marketplace of asset pools bringing together Asset Originators and Investors to unlock the liquidity of real-world assets.

The chart below shows how Centrifuge works and its business model. In a nutshell, the asset originators (e.g., SEMs, artists) provide documents (such as invoice, art work), which will be verified by 3rd party, and then these document will be locked in NFT format as collateral in the Tinlake pool to finance the originators’ assets.

The benefit to asset originators is that they can access capital faster and cheaper than many traditional routes such as investment banking. What’s more, many SEMs that have traditionally been unable to obtain financing due to limited scale or unsupported asset types can finance their projects through Centrifuge.

For investors, Centrifuge provides them with two options to finance the loans, each through one type of token. The senior token, DROP, known as the “yield token,” is protected against defaults by the TIN token and receives stable (but usually lower) returns. The Junior token, TIN, is expected to be higher on return, yet more volatile as they absorb any potential defaults first.

Market

Let’s do some math before qualitative assessment.

TAM (Total Addressable Market): According to a report by Forkast, the total value of major real-world assets, which include real estate and commodities, is ~$30 trillion. If we use a conservative 400% collateral ratio for crypto, then TAM is 30/4= $7.5 trillion.
SAM (Serviceable Addressable Market): A major factor limiting the addressability of services is the total market cap of cryptocurrencies. According to CoinMarketCap, the total global crypto market capitalization fluctuates between ~$1T to ~$3T. For simplicity, I’ll take the median $2T.
SOM (Serviceable Obtainable Market): There are a few competitors in this space, although I believe Centrifuge is a leading one. A modest assumption is that Centrifuge can get 5% of SAM. That converts to a $100B SOM. This is a huge market.

Qualitatively, there are some existing evidences showing that Centrifuge is on the right track to find its niche and achieve product/market fit. For example, it has a successful pilot with a music analytics company to unlock the liquidity of digital media, a niche market not accounted for by the aforementioned TAM.

Team

For due diligence purposes, I usually check whether the founders should have complementary skillsets that cover product building, growth, and operation. These are best demonstrated by founders’ past experience:

CEO: Lucas Vogelsang, with software development experience.
CFO & COO: Martin Quensel, who was a co-founder and general manager of financial supply chain startup Taulia acquired by SAP.

It’s worth noting that Taulia and Centrifuge (core business) are in the same vertical; this utilizes founders’ domain expertise.

I’d like to see strategist, BD, and legal counselor (especially because of regulations that DeFi may face). I do find all these roles are filled on their expanded team.

Tokenomics

The Centrifuge Token (CFG) is the primary token for Centrifuge (on Polkadot L1). Details of tokenomics are as follows:

Total token supply: 425M
Circulation supply (as of August 2022, the same below if applicable): 302M
Market capitalization: 115M
Fully diluted market cap: 154M

CFG has the distribution and release schedule as shown below:

Note that while the largest portion of the allocation is given to core team members, this portion has a 48-month lock-in period and a 12-month cliff; this is reasonable.

It’s also worth noting that CFG is a governance token, but it can also be used to pay transaction fees and to stake — that is, it has a few use cases.

Traction

The chart below show two metrics (revenue, unique addresses) that demonstrate Centrifuge’s traction.

The graph of unique address (# of tokenholders) is aligned with token release schedule, meaning that the token is popular, not concentrated among a small number of holders. Also, the general increase in revenue, even during some cryptocurrency slumps, means Centrifuge has gained traction through its services, which charge transaction fees.

Competition

Since Centrifuge has a relatively broad spectrum of services, the competitors you observe will vary depending on the market segment you focus on:

If you focus on DeFi lending, then there are a tons of alternatives there. However, I’d argue that almost all of these alternatives only accept cryptos as collaterals, as opposed with Centrifuge’s real world assets
If the focus is tokenization of real-world assets, the notable player in this vertical is Polymath Network. But Polymath mostly stops at tokenization (into security token), and I also have some concerns about its progress and token price history.
If the focus is financing through real-world assets, which I believe is the most appropriate category, then competitors are:
Polytrade — Currently it mainly only supports invoices as collateral, much narrower than Centrifuge. It also has a much smaller market cap and trading volume.
Persistence — This is probably the only real competitor to Centrifuge at the moment. On closer inspection, however, Persistence clearly has a different strategic approach to developing its product. Currently, Persistence is more focused on building infrastructure and attracting developers to build on top of its infrastructure and achieve a similar vision to Centrifuge.

In short, the competitive analysis above reveals only one true competitor worth following up on. This segment is nowhere near as crowded as it sounds.

Past Funding and Investors

According to PitchBook, as of Aug 2022, Centrifuge has raised $11.8M. The latest funding round is a $4.3M venture round in Feb 2021. Its institutional investors include Galaxy Digital Holdings, AU21 Capital, and FinTech Collective. As is the case for many crypto project, it attracted a few angel investors, including Philipp Moehring and Robert Leshner.

Centrifuge is well-funded compared with many recent crypto projects. It also allocated >10% tokens into Foundation (see token distribution chart in Tokenomics section), which is buffer against uncertainty.

Risks

I’ll quickly recap their business model before discussing the risks to this project. The business model of Centrifuge has two main components: asset originators (borrowers) pledge real-world assets and receive funding, and investors (lenders) provide liquidity and receive interest when the loan matures. As I mentioned in the Competition section, Centrifuge differs from typical DeFi lending protocols because borrowers collateralize real-world assets. The main risks to Centrifuge are associated with this difference:

Borrower adoption risk: The borrowers are the owners of traditional asset or the creators of intellectual properties (rather than crypto holders in the case of typical DeFi lending). They generally have less understanding of DeFi, and more effort is required from Centrifuge to educate the market. (I won’t worry about lender adoption, as the lending aspect of Centrifuge is not much different from typical DeFi lending protocols such as Aave.)
Regulatory risk: This risks are also more relevant in the borrowing side. As Centrifuge connect DeFi to TradFi, the latter of which is more established and regulated, Centrifuge will attract regulatory scrutinization.
Collateral risk: It’s tricky here, because I believe the collateral risk is lesser than that of typical DeFi lending protocols in some sense, but is greater in other sense. On the positive side, because the borrowers pledge real-world assets, which is much less volatile, the collateral risk is reduced. However, the downside is how to consistently ensure the real-world collateral is authentic; from this perspective, more risk arises.
And of course, like most DeFi project, there is security risk.

Conclusion

Centrifuge is a leading company that connects real-world assets to DeFi, unlocks the liquidity for real-world assets, and use them to finance real-world business. The market size is huge and Centrifuge doesn’t have too many real competitors in the segment. Its team has deep experience in the vertical of the financial supply chain and has key hires in BD and legal consoler to address customer adoption risk and regulatory risk. I am bullish on this opportunity and recommend investing in CFG (or wrapped CFG).

About the Author

Haydon Luo is an MBA candidate at Carlson School of Management, University of Minnesota. He has professional experience on angel investing, startup operations, engineering project management, and strategic consulting. Haydon is a tech enthusiast, lifehacker, and now actively exploring Web3.

Reference

Centrifuge website, CentrifugeDocs, Centrifuge official CFG Token Executive Summary, PitchBook, Crunchbase.

Disclaimer

The analysis in this document is for general information purposes only. While I endeavor to keep the information up to date and correct, I make no representations or warranties of any kind, express or implied, about the completeness, accuracy, reliability, suitability or availability with respect to the document or the information, products, companies, or related graphics contained in this document for any purpose. Any reliance you place on such information is therefore strictly at your own risk.

Originally published at https://www.haydonluo.com on August 30, 2022.

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