Undervalued Layer 2s: When Market Cap Falls Below Fundraising

Layer 2 scaling solutions, once the bright lights of blockchain innovation, are now rather quiet.

The networks that seemed so promising and so full of potential are now looking a little drab and stagnant. Many of the coins associated with these networks have been performing poorly and are not even close to their prior all-time highs. However, underneath this relatively calm surface, something interesting is taking place: several Layer 2 projects that raised tons of capital during the last bull market are now trading at market capitalizations that are lower than the amounts they originally raised.

This uncommon occurrence has given rise to two opposed schools of thought—one rooted in caution and the other in opportunity. These two opposing views collaborate to create a slightly more sophisticated and less Manichean view of the state of Layer 2s. At the very least, it looks like this pheonomenon is a pretty good omen for the next wave of Layer 2 investor interest.

On the one hand, the pessimistic take sees this as proof that lots of Layer 2 projects were overhyped and overfunded. In the strongly bullish market of 2021 through early 2023, investors from both retail and institutional backgrounds shelled out billions into blockchain infrastructure projects that promised to solve Ethereum’s scalability problems. Many Layer 2s landed astronomical valuations during their seed and Series A fundraising rounds, propped up by a huge amount of capital chasing the next big thing.

With valuations now dropped below their initial fundraising totals, some argue that the market is merely correcting past excesses. This suggests that even deep-pocketed venture capital firms can miscalculate value in rapidly evolving, speculative markets. And what of the well-held belief that VC backing gives a price floor that won’t collapse? That assumption, too, is being challenged.

Still, there is an alternative—and more hopeful—interpretation that’s beginning to gain traction.

Looking at this from the bright side, the current difference between the market cap and the amount raised could suggest a huge, unbounded upside that these teams are working on.

If they’re responsible with their treasury management and have kept the lion’s share of what they raised, then the reserves they hold could actually rival—if not exceed—what we think these tokens are worth.

It can be inferred from this that the market might be placing a lesser value on the financial health of these initiatives than is actually warranted. A robust treasury does more than just fund the day-to-day continuation of a project, which, in the case of some such as this one, is already in its fifth year. A sound financial base also allows for considerable strategic maneuvering in how to use the funds in ways that can stimulate real growth and user interest.

In addition, projects with strong reserves might find themselves in an enviable spot during the consolidation turns, when less capitalized rivals can’t make payroll and either shut down or shift away from Layer 2 development. Being able to not just maintain but also push through to the other side of a down market—Leyden says bear markets are actually better for Layer 2 growth—affords a project a shot at coming out the other side as a definitional player. Historically, this kind of resourcefulness has made projects successful in down turns.

This capacity becomes even more alluring when it is coupled with the relevance of the technical aspects. Although the narratives in the world of crypto may rapidly change, the requirement for scalable infrastructure stays the same. The Layer 2s still provide wonderful solutions to the problems of congestion and high gas fees on Ethereum, particularly when you think about a future in which we’re seeing mainstream adoption and demand for large-scale, low-cost blockchain interaction.

Currently, investors assessing these projects must undertake a vital job: telling apart Layer 2s that were not able to meet both the criteria of a sustainable business model and the appearance of something more than an initial funding success, from those that truly have both a sustainable business model and the appearance of something more than just an initial funding success.

In this market cap-to-fundraising world, we have a fresh discrepancy among the prices, which serves as a litmus test for resilience. Because capital isn’t really flowing like it used to, the crypto space feels a bit dormant. But guess what? This is the moment when some of our not-so-fundamentally sound Layer 2 projects might finally be forced to reckon with their prices and, hopefully, their actual value.

Alternately put, with some fresh sight:

When capital re-enters the crypto space, will the most financially sound Layer 2 projects be positioned for a second act? Because if they are, look out!

The tokenomics or technical merit of a comeback narrative depend less on what it is and more on who it is in order to play out. Executing and living up to the promise of the narrative—that’s what it’ll take to make certain projects investable again. For now, Layer 2s are a compelling story in crypto. You can go on dYdX and trade with up to 25x leverage. That’s what you call an investable layer, my friends.

Disclosure: This is not trading or investment advice. Always do your research before buying any cryptocurrency or investing in any services.

Follow us on Twitter @themerklehash to stay updated with the latest Crypto, NFT, AI, Cybersecurity, and Metaverse news!

The post Undervalued Layer 2s: When Market Cap Falls Below Fundraising appeared first on The Merkle News.