On the value of social tokens
Part 2 of the social token series
This post originally appeared on Outlier Ventures Research.
Social tokens are crypto assets that primarily describe social relationships (as opposed to economic or legal relationships). Social tokens are typically centred around either an individual or a community, and can therefore be called either personal or community tokens, respectively. For more background on the emerging social token space, see a previous article.
Social tokens overlap with other classes of crypto tokens, such as “utility” or “governance” tokens. The utility of social tokens comes from the relationships the token gives access to, as opposed to utility from accessing a protocol or a product. We proposed the notion of intrinsic community value (ICV) to measure this “social utility”. Governance tokens, on the other hand, derive their value from the control they give over the valuable resources of a given community, whereas the value of social tokens comes from belonging to the community.
In this article, we will explore this notion of ICV in more depth, differentiating it from other mechanisms of value creation and proposing a framework for quantifying it.
How social tokens capture value
Before we dive further into ICV and the different components we propose for its calculation, it seems important to clarify how that value is captured for the creator or community in question.
The primary mechanism for capturing some of the value of social tokens for their creators is through “founder allocations” - an allocation of a certain percentage of the total token supply to its creator(s) or the shared treasury of a community. At this point and especially for community (vs. creator) tokens, it is considered best practice for founder allocations to have vesting over several years. Whether as founder equity in traditional venture capital, pre-mines in early crypto projects, or team allocations of token sales, this mechanism of value capture is well-known to investors.
This method of value capture is popular because it aligns incentives across stakeholders: The same way that the founder rewards capture value for the founders, all community members benefit from holding tokens in the same way. As the community becomes more successful, its tokens rise in value, which benefits all of its members. Most current social tokens capture value through founder allocations, such as $FWB and BitClout.
In addition to founder rewards, some social tokens have also conducted a direct sale to raise money, which allows them to collect funds at the time of the sale. This makes sense if there is a specific project that needs to be funded right away, like Alex raised $20k to finance his career move.
Different factors contribute to the value of social tokens
We argue that it is in the nature of social tokens that most of their value is created intrinsically, by giving members access to a community. In that community, value is created through information sharing, collaboration, and a sense of belonging. What we call Intrinsic community value (ICV) is the value members get from being a part of the community. During our event “valuing social tokens”, Cooper (FWB co-founder; Seedclub member) shared this view that the value primarily comes from access. Access to a community in crypto also means access to information and dealflow, to talent and expertise, to events, and so on.
Even though we believe ICV is the most significant factor influencing the value of a social token, it is not directly measurable and needs to be approached through proxies.
Calculating intrinsic community value
ICV can be compared to calculated intangible value (CIV) (alternatively: “brand equity”) from traditional finance. Analogously, to determine the ICV of a social token, one could subtract all values that can be accounted for through financial value flows, products and services, and even token design mechanisms from the market capitalization. The remaining value is what token holders intrinsically get from being part of the community, independent of any financial benefits. It is important to note that for openly traded tokens, future expectations for ICV are also included in this metric, since social tokens too are subject to speculative investment.
This is the formula we propose for an indirect calculation of ICV via a subtractive approach similar to how intangible value is calculated in traditional finance.
ICV = MCap - ((V(financial) + V (product, services)) * M V(token design))
Starting with the fully diluted market cap, we subtract any quantifiable elements including financial value flows, the value of provided products and services, and value generated from token mechanisms. The latter can be conceptualized as a multiplier on all the previous sources of token value accrual (as it does not provide any value by itself).
We now turn to analyze the other factors determining token value: financial value flows, products and services, and token design.
Financial value, products and services
As already discussed in the previous article, some social tokens include direct financial value flows. In the case of creator tokens, this is often tied to future earnings or profits (for example, income-share agreements). Similar with community tokens: The present value of all cash flows, for example from member subscriptions or events, is calculated. Estimated revenues in the future can be valued through a discounted cash flow analysis.
Any products and services offered (for example, merchandise or NFTs) should be converted into their cash equivalent for this calculation (their “fair value” if they would be acquired on the open market).
Community tokens sometimes have a shared treasury. If that is the case, the social tokens generally have a governance function whereas token holders can decide how these shared funds are spent. We can simply add the treasury value to the financial value part of the calculation in order to incorporate this control over financial resources.
Token design as a multiplier
Last but not least, the mechanics of the token itself also have a significant impact on token value. In the formula above, it is set as a multiplier because it amplifies whatever other sources of value are present, whether financial or connected to products or services. For example, if a community has its members lock social tokens for access or participation, that token would tend to appreciate more than the token of a counterfactual community with the exact same utility but without a lockup.
The relevant considerations are the same as they are for any other crypto asset: What are incentives to hold? What mechanisms support token value? Especially a class of mechanisms concerning token gravity are important when it comes to supporting token value.
Most relevant mechanisms from a token design point of view concern token gravity, the propensity of tokens to not change hands (have a low velocity). Mechanisms that increase token gravity, usually by locking up tokens, support the value of a token by removing the locked up tokens from the supply that is available for sale, making the token de facto more scarce. This supports token value in a similar way to token buybacks, even if tokens are only temporarily removed from the supply in this case. Find more details on these matters in the Token Ecosystem Creation report.
The most common mechanism is staking, where token holders lock up a token for a given amount of time to receive a yield on it. Staking is especially common in DeFi applications. If a yield is offered to stakers, value is redistributed from opportunistic holders to committed members, since locking up tokens requires a certain amount of conviction. The yield itself should be added to the financial value flows part of the calculation - it’s the fact that tokens are locked up and removed from circulation that constitutes the token design multiplier.
Similar mechanisms can be found on the governance side: By locking up any tokens used for voting, token gravity increases as with staking. Most projects today govern themselves through variants of “coin-voting” where each token grants a proportional amount of voting power. The downside of this simple mechanism is that large holders tend to control voting outcomes. A mechanism like conviction voting, where voting power increases the longer tokens are locked up in a specific proposal, not only addresses the concern around excessive power of the largest holders, but significantly improves token gravity.
So far, there have not been enough projects employing these different mechanisms, so the precise impact these token design mechanisms have on a token’s overall valuation is not yet clear. Once that is the case, a quantitative comparative analysis should yield a clear multiplier, depending on which mechanisms are used and where its parameters are set (e.g. average length of lock-ups). For current calculations, the influence can either be excluded by setting the multiplier at 1, or the multiplier can be set subjectively based on how the token design in question compares to most notable competitors or market standards.
Proxies for estimating ICV
Although the subtractive method allows for pricing ICV, the analysis only applies post hoc. To estimate and especially project ICV itself, a number of proxies seem relevant:
Number of community members
Weekly active users
Average number of posts/week
Regularity and attendance of events
Status and influence of key members
Social media followers
Due diligence on background
Connections: Talent, dealflow, expertise
The number of members in a community seems like a relevant metric according to Metcalfe’s law (“the value of a network is proportional to the number of user's of the network”). Engagement metrics in whatever communication platform is used provide a solid indicator of community value, since members would only engage regularly if they found significant value in the community. Another valuable insight from Cooper Turley is that in tokenized communities, engagement follows a fat-tail distribution: Only 1% contribute 80% of the work, while maybe 10% contribute the remaining 20% (and the rest is pretty much passive). It might make sense to incorporate this reality into any measurement of community engagement: Instead of considering average engagement, measuring what the percentage of the most active members is and how much they are contributing (and to what degree that contribution is consistent) might make more sense.
Proxies that are also relevant but harder to measure are the influence and status of key community members, especially the community founders. Approaches for estimating the latter range from social media followers to more complex, network-based rankings of influence (e.g. Hive.one Crypto Twitter rankings), to a more subjective analysis of key community members’ backgrounds and achievements. Finally, the type of access that is provided by the community is another important factor, even if equally hard to compare qualitatively. Crucially, the access should be provided by the community collectively to count towards its intrinsic value, as opposed to provided by only a few persons (e.g. founders).
A golden age of internet communities
The first part of this series was supposed to provide a general overview and understanding of the social token space, while this follow-up proposed a basic framework for this new class of crypto assets. Communities are already taking over the internet and we believe that social tokens give them the tools to capture and distribute value, and eventually even govern themselves effectively. This will blur the boundaries between communities and organizations. It is important to note that we are still at the very beginning of this development and there is likely much more innovation to come down the road. For example, while our explorations primarily focused on fungible tokens, there are alternative approaches centred around NFTs with much of the same goals. We encourage you to check out Nouns DAO for a fascinating example. Eventually, we expect fungible and non-fungible tokens to be combined in the most successful online communities.