Chen Yueting, who previously managed entertainment investments, later participated in investments in projects like IOST, Mask Network, StepN, and Jay Chou Bear. Huofeng Capital is one of the few venture capitals focusing on the Crypto Game industry. This podcast interview was conducted on November 20, 2023, and some discussions about market trends and data have since changed. For the full version, please listen to the podcast.

How was the investment situation in 2023?

In 2023, our investment activities were very active, with new investments almost every month. Particularly in the primary market, despite the secondary market’s downturn leading to fewer investors, we persisted in investing in the primary market. It is widely believed that bottom-fishing during market lows is a wise choice, so we actively sought suitable investment opportunities.

Our main focus was on the Crypto game sector, where we had clearly defined our investment scope. After a series of screenings and research, we invested in some noteworthy projects in the domestic market. Although there weren’t many high-quality projects overall, we still found some opportunities with potential.

For example, one of the recent overseas shooting game projects I mentioned, “Shrapnel,” was valued at about $500 million after introducing a tokenomics model. Another project, “Big Time,” is currently valued at about $900 million. These projects demonstrate the immense potential of the crypto gaming field and the market’s interest.

Additionally, we also paid attention to some projects that started in the last bull market, especially those that have recently begun to focus on tokenomics. We found that by introducing these specific cases to people in the traditional gaming industry, their understanding and attitude towards crypto games and token economics started to change.

Is the main focus of your investments in gaming, or do you diversify into other areas?

Our investment strategy is firm and focused, mainly targeting the crypto gaming (Crypto game) sector. We don’t excessively diversify our investment directions because our investors have clear expectations of our investment focus — they invest in us to concentrate on the crypto gaming market.

Of course, we do explore some innovative fields to a certain extent, such as artificial intelligence, but these investments only make up a small part of our portfolio. Our primary task and goal remain to find and invest in promising projects within the crypto gaming domain.

We understand our investors’ expectations and requirements, so we won’t easily deviate from our core investment track. Even if the crypto gaming market fluctuates, we will stick to our area of expertise. Ultimately, our goal is to achieve success within our chosen field, rather than frequently switching between different tracks.

Is the primary focus of your investments currently on Chinese teams?

In 2023, our fund focused on investments in the crypto gaming (Crypto game) sector. Given my personal background and network advantages, we have a certain edge in investing in Chinese teams. Our investment logic is based not only on our positive outlook for this sector but more importantly, to meet the needs of our investors and to resonate with our investment philosophy.

While we invest in global teams, we mainly concentrate on the Chinese gaming industry, as this is the market we understand and are most familiar with. Our investment strategy takes into account the wishes of our investors and market trends. For instance, although we also explored investments in the AI field, such as funding MyShell.ai, our primary focus remains on crypto gaming.

We believe that Crypto can help Chinese gaming companies to capitalize through non-traditional stock and equity markets. The capital liquidity and valuation premiums in this market provide teams with better capital reserves and development opportunities. For example, we have observed some gaming projects reaching valuations of hundreds of millions of dollars post-Tokenomics, far exceeding the potential capitalization valuations in traditional markets for Chinese games.

We see Crypto as a capital market that is very conducive to promoting capital circulation and returns. At the same time, we realize that there is a need for an educational process for gaming teams unfamiliar with capital markets. Through the demonstration of successful cases and the more lenient regulatory environment abroad, we are gradually educating and attracting more teams to realize this. We believe the Crypto market provides a valuable capitalization platform for the gaming industry. While there is a certain risk of bubbles, as long as the future business model is viable, this market will gradually grow from immaturity to maturity.

Has there been any change in the valuation logic for games in the industry?

In the world of crypto funds, investment preferences are closely related to the background of the investors and their broader positioning in the capital market. Especially those funds focused on native crypto areas like public chains and DeFi tend to support innovative and cutting-edge projects in the blockchain field, such as those preferring project types like Magic.

However, the investor group of our fund is slightly different. Many joined through my personal connections, being long-time friends interested in the gaming industry or themselves gaming industry veterans, looking to explore the Crypto Game field. These investors are from outside the industry and prefer projects that are understandable, have clear business models, and involve more mature products and teams. Such teams are more likely to attract the support of our fund and its investors.

In fact, this reflects two different types of teams and investment orientations. The market in which our fund and its investors are willing to participate has more advantages compared to traditional finance. There is an open attitude towards such capitalized markets. Whether it’s teams supported by Web2 in the form of equity stocks in the past, or teams supported by Crypto now, essentially, their quality on the game product and development level is similar. Teams for modern, innovative game products, in addition to needing innovation in business models, also need a deeper understanding and familiarity with the Crypto field.

Do the projects you invest in also face difficulties in a bear market?

For us, 2023 was a year of continued active investment in the crypto gaming sector. Although not many funds were as active as ours, a strength of the crypto market is that people are willing to co-invest. Among the projects we supported, even in a bear market, these teams were still able to raise funds ranging from $5 million to $10 million, which is quite rare in the current market environment and very significant even compared to China’s equity market in 2023.

Our investors are mainly individuals interested in the gaming field, friends, or gaming industry veterans who want to explore the crypto gaming sector. Since they prefer understandable business models and mature products, our investments tend to be in teams they can understand and endorse.

In terms of the capital market, the primary market in Crypto remains active with sufficient funds. However, the financing cycle may be extended, and investment terms may be more favorable to investors, meaning average terms for founding teams. But overall, game development costs are relatively predictable, mainly depending on team size, labor costs, and outsourcing costs. Once the team secures enough funding early on, they typically don’t suddenly face a cash crunch.

On the other hand, we also encountered some teams that we ultimately chose not to invest in. These teams often struggled to secure a lead investor, leading to prolonged funding difficulties, a common phenomenon in the current market. As a primary market fund, we remain actively investing in a bear market. We’ve adjusted our investment terms, for example, accepting a three-year token unlocking period in a bull market, but in a bear market, we might require a shorter unlocking period.

Are investors in a more advantageous position relative to project teams in a bear market?

Indeed, there are relatively few funds in the current crypto market willing to continue investing and that still have funds available. Many funds operate in both primary and secondary markets, and their funds are often reserved for buying assets like Bitcoin (BTC) and Ethereum (ETH) at the right moment, aiming for bottom-fishing opportunities. Unlike them, our fund is entirely focused on primary market project investments, which is quite rare in the market.

In terms of project valuations, we have seen investment opportunities at various levels, including projects valued at $10 million, $20 million, $40 million, and even $90 million. However, we tend to not invest in projects with excessively high valuations. For instance, we only have one project in our portfolio with a valuation of $90 million. We prefer investing in projects valued between $10 million and $20 million, as this valuation range is more suitable for us.

Is there a phenomenon where some VCs are resistant to Crypto Game investments?

One characteristic of capitalization in the crypto market is the high emphasis on narrative. In this market, if a project has an attractive narrative, it can succeed even without a substantive product or result. This phenomenon reflects a core feature of the crypto capital market: narrative holds more weight than fundamental analysis and storytelling.

Comparing different types of projects, for instance, a team of 40 or even 70 to 80 people might take two years to develop a decent game. In contrast, a team of about 10 people might complete a project and tokenize it in just six months to a year. In such cases, many venture capitalists (VCs) who are more active in the capital market may prefer the latter. This is because the latter not only has a shorter development cycle and lower risk but also can achieve capitalization and returns more quickly.

This tendency reflects a common phenomenon in the crypto market: investors and capital favor projects that are quick and can bring rapid capital returns, rather than those with long development cycles and significant funding requirements.

Is the development of GameFi largely restricted by regulation?

When discussing regulatory standards, we usually consider whether a certain matter is suitable for operation. First, I believe that teams involved in such affairs should not only consider operating domestically. Once deciding to venture into gaming, the company should, to some extent, be considered a global enterprise. Importantly, these companies need to clearly recognize their global positioning, not just technically based on blockchain. If a team and its main market are both concentrated in China, this undoubtedly increases risk.

Taking large projects with Chinese backgrounds as an example, like STEPN’s GMT, they have not faced significant risks and are still launching new games like Gas Hero. If a business involves gaming and blockchain, then its corporate structure, team composition, employee status, and products should all have a global perspective from the beginning. This includes actions to consider, like restricting access for Chinese users and Chinese IPs.

For business, I believe the fundamental principle is innovation. Laws and regulations often lag behind innovation. This is a basic principle of business innovation. If we assess certain things with existing laws and regulations, there are usually two outcomes: either it is difficult to understand, or it is illegal. Obviously, illegality is easy to judge, and the conclusion is also easy, which is not to do it; while being difficult to understand means there is a gray area. On the fast edge of innovation, regulation is always lagging.

While avoiding obvious illegal activities, we need to create compliant solutions. For example, many Chinese teams are still involved in the development of exchanges, but they position themselves as global companies from the start. They may have development teams or personnel in China, but the contracts are not traditional labor contracts but are project-based. Their operations are not oriented towards the Chinese market. If someone raises questions, these teams would challenge how these individuals can access these services despite the blockade of Chinese IP addresses.

How do you view the criticisms directed at some GameFi projects, such as low playability and imperfect economic models?

I think, first of all, we need to have an accurate understanding of finance and Ponzi theories. It’s not appropriate to hastily label a project, as overgeneralization can lead to misunderstandings and biases. For example, consider China’s real estate market, which many believe is not a Ponzi scheme but normal financial activity. Another example is China’s stock market, especially on the Growth Enterprise Market, where some chip companies have been losing money for years but still have high market values. Are these companies’ valuations a bubble? Is their development, even after going public, still considered a Ponzi scheme?

In my view, to avoid being labeled as a Ponzi scheme, a company should have positive cash flow and net profit each year, while also having a reasonable market value in the capital market. Otherwise, the prices and values of many assets are actually determined through trading. In financial markets, controlling circulation is a common strategy to increase market value. For example, if the Shanghai real estate market implements purchase and circulation restrictions, reducing the circulating supply, it becomes easier to drive up house prices. Banks would also recognize these properties as assets, thus lending against them, and the total amount of borrowing capital in the market based on these properties can essentially increase.

We’ve discussed whether a specific game is a Ponzi scheme, but if we look at the entire cryptocurrency market, its biggest issue might be the lack of positive cash flow in the underlying assets. Thus, it can be argued that there is a certain level of risk in this market. Nevertheless, I believe the gaming sector is already one of the areas in this field that is closest to quality assets and could potentially bring positive cash flow.

Is there a contradiction between the financial attributes of a game and its playability?

Indeed, there can be a certain contradiction between the financial attributes of a game and its playability, which poses a core challenge for game development teams. Games are designed to provide an exciting experience, but overemphasizing the financial attributes within the game, such as buying, selling, or speculative actions, could harm the intrinsic experience of the game. Players of such games often have two distinct feelings: one is the entertainment experience provided by the game, and the other is the thrill brought about by the fluctuation in the value of game assets. These two feelings are often difficult to clearly distinguish, leading to issues in the game feedback loop experienced by players.

For instance, when a game’s asset value continuously rises, it may attract a large number of players to participate. However, when players lose interest due to a decline in asset value, they might forget the joy of the game itself. This situation demands a high level of design capability from the game product teams. They must find a proper balance between the gaming experience and the value transactions within the game or create a system that can integrate both.

Take “Fantasy Westward Journey” as an example; this game balances these two aspects well. It does not have extreme fluctuations in asset value while maintaining a good gaming experience. The items in the game hold certain value and also build a cooperative system among players, where some focus on producing items and materials, and others concentrate on different aspects. Such a design creates a mini-social system that effectively combines the gaming experience with financial attributes.

Why haven’t viable crypto gaming projects emerged yet?

The reason for the lack of sustainable crypto gaming projects primarily lies in two aspects. Firstly, the market itself does not require complex game products to be profitable. In the crypto market, simple financial products and speculative actions are sufficient to attract capital, which reduces the incentive to develop complex, in-depth games. This is the first layer of the reason.

The second layer concerns the fact that real industry experts, who understand how to integrate gaming experience with economic systems, are not inclined to participate in the development of crypto games. These experts are usually veterans in the gaming industry, possessing rich experience and in-depth understanding. For example, most game designers and producers in the current gaming industry grew up in a free-to-play model environment and may not be familiar with the economic systems of early MMORPGs (like “Legend”, “Fantasy Westward Journey”, “Westward Journey Online”, etc.). Different business models and game designs, such as the character charging system and economic system design created by MiHoYo, require completely different professional knowledge and skills. Therefore, when it comes to Tokenomics and MMORPG-like economic systems, the current mainstream talents are not a match.

To address this issue, a process is required. Professionals in the gaming industry first need to realize that the crypto market is an excellent capital opportunity. If this realization is not in place, then the most talented game producers might not join this field. Without the participation of these top talents, all the issues we discuss might still remain unresolved. The challenges in game product development, operational difficulties, and business model design all need these experts to solve. But the key question is, why would these top talents choose to join this field?

How do you view the major domestic companies’ attempts at Web3 projects?

The attempts of major domestic companies to venture into Web3 projects reflect a typical process of internal innovation within large corporations. In this process, it’s not possible to generalize the success or failure of these endeavors; each project needs to be evaluated separately based on its specific circumstances and involves many details.

Internal innovation in large companies requires several key elements: First, the top management, especially the CEO, must give significant importance to this area. Second, the executive team needs to have an accurate understanding and support for it. Finally, the execution at the operational level must be precise and error-free. If these elements are met, the innovation attempt may be successful.

However, there are some common issues. For example, if a company diverts resources that should be invested in one important area into ten different directions of innovation, this scattering of resources can lead to unpredictable outcomes. Additionally, some companies may only talk about innovation verbally but do not truly believe in it internally. They might be more driven by financial interests rather than a genuine intent to innovate. This discrepancy between words and beliefs often does not lead to substantial results.

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