A Look at Token Sale Treasuries
Every week the Mosaic research team will delve into important topics within the cryptoasset space.
Jason Yannos and Lanre Ige
This article will look at treasury selling across some of the most popular Ethereum-based token sale projects in an attempt to understand the effect treasury selloffs have on a given project’s operations. Moreover, we develop a metric, the Treasury-to-Market ratio — inspired by negative enterprise value investing — to help uncover potential investment opportunities underpinned by the treasury dynamics of token sale projects.
Treasury selling and the implications for Ether (ETH)
There is a common narrative that currently permeates amongst many investors and traders in the cryptoasset ecosystem, particularly in the Ethereum community. They believe that the price of ETH receives excess selling pressure from ecosystem projects that have conducted a token sale in the last 12 to 24 months, because these projects must fund operational costs to cover daily expenses and, as the price of ETH falls, token projects rush to sell their treasury holdings to lock in purchasing power at higher rates. The price of Ethereum is currently down 80 percent from its all-time high of $1432 USD in January 2018, and many pontificate that the worst has yet to come. When diving into the treasury dynamics of some of the largest projects in the Ethereum ecosystem at these “distressed” levels, one quickly realizes that these projects are sitting on absolute warchests of capital today regardless of whether the price of Ethereum is at $282 USD or 50% lower at $141 USD. In reality, the perceived selling pressure from these projects is low relative to this narrative.
We conducted a minor study to understand the implications of these large treasuries. We analyzed the treasuries of the projects listed on dappcapitulation.com (excluding EOS, Polkadot, and Perlin) alongside estimated monthly operational expenditures in the form of ETH spent in the last 30 days to understand the runways of these projects at different price levels and what they could mean for the price of Ethereum as a whole.
Two important points to note are: (1) that the values are broad assumptions based on the number of ETH transferred out of the projects’ main wallets and the value of ETH at the time of this writing; and (2) that data for ETH spent out of project wallets each month could only be found for 11 of the 20 projects we sampled, thus creating an average spend rate for a sample of 11 projects instead of 20.
Of the projects sampled, on average they currently sit on treasuries of approximately 126,582 ETH, equivalent to $35,569,660 USD with DigixDAO sitting on the largest balance of 466,648 ETH ($131,128,088 USD) and Decent sitting on the lowest balance of 20,263 ETH ($5,693,903). At the current price of Ethereum today ($281.67 USD on August 31st, 2018), the current average monthly runway (assuming a 24 month runway) for this sample of projects is $1,524,019 USD. When factoring in a 50% discount, in the event the price of Ethereum was to experience another volatile move downwards from this price level, this would leave the average monthly runway for these projects at $762,009 USD. When factoring in the current estimated average monthly spending rate for operational costs of $332,909 USD, these projects are well equipped with a proverbial “margin of safety” as their current treasury balances mean they can weather much more pain — roughly another 75% decline from current price levels.
What will happen to the price of ether is anyone’s guess as it is simply a function of the supply and demand of the market at any given moment. In an analysis of the macro factors currently affecting the dynamics of the crypto markets by Alex Kruger, he highlights that the top 5 proof-of-work coins (BTC, ZEC, ETH, LTC, BCH) currently produce an additional 22 million dollars worth of new coins each day and estimates that exchanges are currently selling approximately 25 million dollars worth of coins each day to cover expenses, totalling 47 million USD each day — or 17 billion USD each year — currently added to the supply side of the market, creating a substantial imbalance. With the dearth of buyers at the moment, market dynamics are aligned towards a bearish bias in the near future, unless this dynamic is to dramatically change. However, referring back to the 20 treasuries we analyzed, the total outflow in the form of estimated monthly expenditures sits at $6,658,189 USD, an absolute fraction of daily outflows from miners and exchanges. This negates the narrative surrounding substantial selling pressure from the sales of treasuries of these projects contributing to further downward pressure on the price of Ethereum.
Enterprise Value and cryptoasset treasuries
A common financial term is that of ‘Enterprise Value’ — a measure used to reflect the value of a business as an alternative to market capitalization. Enterprise value is the acquisition price in the event of a company being purchased. In other words, it is defined as the sum of claims on the creditors and shareholders of a business (from its various claimants).
Enterprise value =
Common equity at market value
+ debt at market value
+ minority interest at market value
+ preferred equity at market value
+ unfunded pension liabilities and other debt-deemed provisions
- value of associate companies
- cash and cash equivalents
When one purchases an entire business and settles with all its security holders, the amount paid would be the enterprise value (EV). An interesting case which is worth paying attention to is when a company’s EV is negative. In this case, a company is likely to hold large amounts of cash which is not reflected in the market value of its common stock.
Hypothetically, in such a situation, acquiring a negative EV company would mean that the cash received upon acquisition, would be greater than the cost of acquisition. In reality, the situation is often more complicated as companies with negative EV often have other issues which aren’t necessarily obvious from a look at their income statement. Nevertheless, some investors see negative EV companies as an interesting investment opportunity — most noticeably, Alon Bochman. He investigated the performance of all negative EV stocks trading in the United States between 30 March 1972 and 28 September 2012.
In our study, we saw similarities between a company which has a negative EV due to the large amounts of cash they hold (relative to their market capitalization) and cryptoasset projects which hold large amounts of funds (relative to their token’s network value). Certain projects¹ such as DigixDAO, Aragon, & Gnosis raised amounts of ETH (which have subsequently appreciated in value) which are worth more than the total value of their respective circulating tokens. It is easy to see the similarities with the ratio between the total token sale treasury amounts held and the network value of the token sale token compared to the hypothetical negative EV company mentioned in the previous section.
Treasury-to-Market (TM) ratio
We define the Treasury-to-Market (TM) ratio as:
We calculated the TM ratio for a handful of tokens which we show below:
The reasoning behind the ratio is as follows: it represents the amount of money one would hypothetically be entitled to by investing a single dollar into the aforementioned tokens. As a result, ceteris paribus, a token with a higher TM ratio would present a better investment opportunity. As outlined below, however, there are a number of issues with the ratio which are important to keep in mind.
Potential issues with investing based on the TM ratio
The reason why negative EV companies are often attractive investments in deep value investing could be argued to be based on the slightly misguided premise that buying a share in a company for 75 cents would give an investor a (legally backed) claim on $1 of cash on the firm’s balance sheet in the form of excess cash, yielding a return of 33 percent on capital invested. However, this reading of negative EV is overly simplistic.
For example, owning common stock gives investors the right to vote on the major issues of the firm and an entitlement to dividends — after preferred stockholders². But a firm does not necessarily have to issue dividends and as such stockholders do not have direct access to a firm’s excess cash balance. A negative EV firm undergoing liquidation may offer stockholders more direct access to cash on its balance sheet; however, negative EV companies’ financials and accounting methods can change during a liquidation — perhaps turning a negative EV company into positive EV company, completely changing the dynamics of the investment opportunity originally presented through the lens of deep value.
The degree to which token holders are ‘entitled’ to a given token project’s treasury amounts is uncertain. For example, consider the Terms of Token Sale for 0x:
“Purchase, ownership, receipt or possession of ZRX carries no rights, express or implied, other than the right to use ZRX in connection with Protocol Utility, in each case, to the extent that the 0x Protocol remains in use after its deployment by Company.”
There’s generally no legal relationship between a token holder and any other party when they use, transact, or hold a given token. These tokens, at most, give users certain permissions to engage with particular smart contracts in certain ways. There’s just the fact that you have a write permission on a database, and the hope that it’ll still be there and be worth something when you go to use it. For example, in the 0x set of smart contracts (see lines 733–769), fees to relayers must be paid in the 0x token — a fact which is enforced by the logic of the Exchange.sol smart contract. However, 0x holders have no claim on the amounts raised in 0x’s crowdsale nor the current treasury amounts; moreover, 0x has no explicit obligation to use those funds in a way to maximize the value of the 0x token. As such, 0x token holders have a non-existent claim on any treasury amount due to the apparent lack of fiduciary duty that 0x developers have toward 0x token holders.
A more interesting example on the question of ‘to what extent do token holders have rights or claims on a token project’s funds’ is the case of Decentralized Autonomous Organizations (DAO). A DAO is an organization represented by rules encoded as a computer program (in a smart contract, for example) that are transparent, controlled by token holders and not enforced by a central government. DigixDAO is an example of a DAO and, as such, holding DGD tokens should give smart-contract-enforced rights within the DAO. The Digix project is unique in that the team has yet to spend any of their treasury funds raised in their token sale without the approval of DGD token holders. Instead, holders of DGD tokens who lock up certain amounts of DGD are entitled to suggest and vote on proposals for how to spend the treasury ETH in accordance with their governance model — and enforced by the DGD smart contracts. It can be argued that tokens with similar governance models as DGD (i.e. other DAOs) have a much stronger claim on a project’s treasury funds and therefore the TM ratio seems appropriate.
This article has taken a closer look at the treasuries of several different token sale projects and attempting to elucidate their treasury management policies. Moreover, the Treasury-to-Market ratio could be a useful metric for token investors — especially for DAO-based projects. However, we have largely focused on the treasury management of ETH on token sale projects. Token sale projects often also have large amounts of their own native tokens which they can sell for financing, but the lack of liquidity in small-cap tokens makes it more difficult to model and develop a framework around their management. Have a read of Jill Carlson’s article for some more thoughts on token treasury management.
 As of 21.08.18 11:00 BST
 In the event of a liquidation, preferred stockholders get paid out first and common shareholders get whatever is left — which technically makes common shareholders second class citizens when searching for negative EV.