Civic (CVC) Analysis and Valuation

Disrupting the Identity Verification Industry

Note: I am not a financial advisor and this is not to be considered financial advice, it is merely my opinion and any investment should not be be taken without speaking to a qualified professional first

Introduction

Last year, consumer credit reporting agency Equifax reported what would come to be one of the largest data breaches in history. The personal information of around 150 million people was exposed to the hackers. Their names, birth dates, addresses even social security numbers and credit card information were released leaving them vulnerable to identity theft.

What’s concerning is that this is not a one-off event. Every year large corporations have been getting hacked releasing not only their own proprietary data but the personal data of their consumers as well. This highlights one of the major problems of current identity verification (IDV), but is not the only one. The core problems in the current model of IDV can be summarized as follows:

1. Security: Companies who need to control the data of large number of customers are a centralized honey pot for hackers with the wherewithal to access that information. Identity fraud is a growing problem affecting 16.7 million Americans last year.
2. High Costs: Financial firms are spending on average $60 million on KYC every year, with some spending more than $500 million. Aside from the costs to run proper KYC, firms still manage to slip up costing huge fines. For example, last year Deutsche Bank had to pay over $600 million in fines after improper KYC led to organizing $10 billion worth of trades used to launder money out of Russia.
3. Inconvenience: The IDV process is extremely redundant and every firm needing to comply must carry it out themselves. On average, it takes a bank 48 days to onboard a customer because of the regulatory complexities. This is increasingly adding more friction to the process for customers looking to change service providers across a range of different industries where verification is necessary.
4. Lack of Identity: The World Bank estimates that there are 1.5 billion people in the world without any sort of proof of legal identity. The absence of proper documentation and high costs of obtaining them mean these people are prevented from utilizing basic services we take for granted such as opening a bank account, accessing healthcare, or voting.

Civic Protocol

Modern cryptographic techniques coupled with the use of distributed ledger technology and smart contracts have the potential to disrupt this industry. Personal data can be secured using end-to-end encryption and still be trusted as reliable with open authentication and documentation. The Civic ecosystem is utilizing these breakthroughs to allow for on-demand, secure, and cost efficient IDV.

How it Works

Users can download their mobile app to gain access to Civic’s Secure Identity Platform (SIP). They can then provide personal identifying information which gets sent to a trusted third party identifier. This attestation that the person is who they say they are is then sent to the blockchain where it cannot be altered or reversed. Now anytime a service provider needs IDV, the user can readily provide the certain information required to the provider who can be confident in its authenticity. The provider pays a fee denominated in Civic’s token (CVC) which is distributed to the third-party provider and the user based on a predetermined distribution.

As shown in the projects white paper

This is a mutually beneficial solution because third party verifiers now have a source of revenue to offset the spending on the work they did to KYC that customer. The service provider does not have to do the verification work already done by the third party, rather they pay a small fee for real-time authorization. Finally, the user is in control of their secured data and they only have to provide the information they are comfortable sharing. They also receive a stream of payments for their participation as well which can be used for various identity-related services.

Staking Mechanism

In the first quarter of 2018, the Civic team partnered with Newtown Partners to improve their token mechanics. The result was to a structure designed to regulate the behavior of participants in the network a trustworthy system in the absence of any individual trust, while the incentives propagate a positive feedback system in order to grow the network. To put into the simplest terms, verifiers need to stake tokens to incentivize providing a correct attestation while requestors are incentivized to report incorrect attestations with the hope for a reward. This system will work to scale the network because as more requestors seek attestations, more verifiers will be drawn into this revenue producing ecosystem, more tokens will be staked decreasing the supply and increasing the price of the token.

Token Value

The native token to the platform CVC is an ERC-20 compliant token that acts as a proprietary payment solution which allows service providers and verifiers access to the platform. While this can be debated, I maintain that the service of identity verification is a commoditized service. In practice this is not 100% true but I believe there is not significant differentiation between verifier’s attestations. It is enough of a uniform process where there will not be competition to provide a better attestation then other verifiers. Luke Duncan, research lead for the Aragon project says:

The process of commoditization turns a good or service which is highly differentiated or even unique into a fungible resource, where differences between the commodity offered by sellers in a market are low. Commoditized markets are associated with declining prices and narrow profit margins, as competitors struggle to differentiate their offerings and instead rely on price-based competition.

Therefore, verifiers will receive income streams proportional to the number of user’s identities they have attested and added to the blockchain. Service providers will simply go to the lowest cost verifier with the user’s data they need. In the long term, competition will push this price down and a user’s data will have a somewhat universal price like any other commodity.

By framing the ecosystem in this way, we can deduce that increased usage of the network will cause a proportional increase in the price of CVC because growing demand will mean verifiers are earning more money for their service and more money will be paid per token for the right to become a part of this lucrative ecosystem. You can think of this as the price someone would pay for a taxi medallion in rural Iowa vs. New York City.

We can now value this token as multiple of the operating cash flows in the system. The current market for securing personal identification is $8.7 billion and is projected to grow to $9.7 billion in 2021. 90% of this market is eDocuments which is relevant for the market Civic is going after bringing the future market size to $8.73 billion in 2021[1]. Given the first mover advantage by capitalizing on the benefits of decentralizing this service, we can estimate Civic to capture 10% of this market share bringing the company’s market size to $873 million. While there are not many public competitors to look at, Equiniti is one that offers KYC as a service and they maintain operating margins of ~12%.

However, I believe that utilizing blockchain as opposed to a centralized database will improve operational efficiencies bringing the relevant margin closer to 20%. This leaves the final data point to complete our valuation, the discount rate. Given the riskiness and uncertainty behind these assets, most valuation models on crypto assets utilize a rate between 30%-50%. For our purposes we will caution on the conservative side and use 50%. This makes for a calculation of the terminal value of Civic $873 million * 20% / 50% = $349million. With a current circulating supply of 440 million, the implied price per token is $0.79. Since the current network value is 66.93 million or price of $0.19, this leaves substantial room for growth.

Risks

As with most projects in the crypto asset space right now, there is still a lot of uncertainty as to how quickly and widespread adoption will occur. It is difficult to model where these assets lie in the S-curve used to measure the adoption of new technologies. Businesses could feel uncertain about utilizing this new technology making adoption occur slower than initially anticipated.

Looking at competitors, one of Civic’s biggest competitor is theKey, which is a similar project looking to solve the same problems. They have numerous copyrights and patents for their technology as well as commercial and municipal contracts. However, they are focused more on Asia which is a huge market, but still leaves room for Civic to capture significant share. In addition, given China is a major focus, this leaves them open to sovereign risk as the Chinese government had levied strict regulations surrounding the acquisition of crypto assets. As the blockchain IDV space continues to become more concentrated, it will be important to pay close attention to competitors like theKey in order to further assess the risk posed to Civic. Civic is also operating in an ever-changing world of government regulations surrounding KYC and AML both in the US and across the globe. Staying on top of these changes is going to have to be a priority for the development team if the project is going to be successful. An added piece of uncertainty lies in the lack of clear guidance as to the regulation of tokens like CVC. Regulatory bodies like the SEC and CFTC will eventually classify these tokens, whether it is as securities, commodities, property etc. which would have a significant impact on how they are acquired and used.

Conclusion

It is evident that the current system of IDV is desperately in need of improvement. The frequent hacks exposing the sensitive, personal data of millions is unacceptable in today’s society leaving the industry ripe for disruption. IBM performed a proof of concept blockchain-based KYC and concluded:

Blockchain provides a safe, secure and scalable infrastructure to support the sharing of common KYC information providing benefits to all network participants — banks, corporates, service providers, and regulators… Banks will be able to use such a platform to enhance the customer experience, automate mandatory processes and eliminate duplication through harmonizing and sharing KYC information resulting in operational cost savings and, over time, reduced operational risk. The corporates also benefit from reduced paperwork by doing KYC once and sharing it with relevant financial institutions through a user-controlled model.

Civic is seeking to solve the inherent problems in the current system by capitalizing on the secure, immutable nature of the blockchain. They have designed a system that benefits all parties involved as described in the report by IBM. With all of these clear benefits, it is easy to imagine blockchain based KYC gaining substantial market share over existing centralized solutions. As a result of the staking mechanics, the CVC token used to participate in this economy is in a position to appreciate in value as the ecosystem grows over time. For these reasons, I am bullish on my outlook of the CVC token.

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