Author: Jeff Dorman, Chief Investment Officer of Arca
Translated by: Jiahua, ChainCatcher
Chart Source: TradingView, CNBC, Bloomberg, Messari
Cryptocurrency Protocols Start Making Real Money
Last week, Bitwise Chief Investment Officer Matt Hougan published an article suggesting that as more protocols link revenue to token holders through value capture mechanisms like token buybacks, valuations of crypto assets could double or even reach higher levels.
We agree with this perspective. In fact, we have been waiting for a long time for the market to start accepting this logic.
For nearly a decade, Arca has maintained that digital assets should ultimately be analyzed like all other investable assets, based on fundamental value and expected future cash flows. Tokens are not stocks, and the way token holders capture value differs from shareholders. However, the fundamental principles of investing do not suddenly become invalid just because the asset exists on a blockchain or the issuer changes from a Delaware corporation to a protocol.
Nevertheless, this view has not been easy to communicate in the past.
In July 2019, when most people still referred to nearly all digital assets as "cryptocurrencies," we pointed out that this definition was unreasonable. Digital assets represent a range of different types of economic rights. Some are currencies, some are utility tokens, and others, as we pointed out back then, “are essentially akin to assets tied to equity in companies that can generate cash flows.”
At that time, we specifically highlighted exchange tokens. These tokens have both product utility and economic ties to the underlying business, such as sharing a certain proportion of revenue or profits with holders through token buybacks.
Six months later, in our December 2019 annual review, we categorized digital assets into four types, including “firms using tokens that produce real cash flows.” At that time, some centralized crypto companies were already generating significant revenue, while most decentralized protocols were still in experimental phases. We wrote that decentralized protocols might still need “5 to 10 years” to truly create economic value.
Now, it seems we weren't too far off.
Six and a half years later, protocols like Hyperliquid (HYPE), Aave (AAVE), Aerodrome (AERO), and Maple Finance (SYRUP) have begun generating real fees and income from real users. Moreover, in many cases, their margins and capital efficiencies are enviable by most public companies.
The question is no longer whether decentralized protocols can create economic value, but how they should utilize that value. This is where things start to get interesting.
Revenue Does Not Equal Token Value
The generation of income by a protocol does not imply that its tokens necessarily have value. This point is crucial and is one of the recurring issues we have emphasized in our research on digital assets.
In August 2020, when analyzing the emerging DeFi protocol Aave, we distinguished between two different things: one is the incentivization generated by the issuance of additional tokens, and the other is the economic benefits created by actual users and business activities within the ecosystem. We wrote at the time: “In our view, exogenous cash flows from real business are key to the long-term value growth of token holders.”
Six years later, Aave is still around, and the question remains. If a protocol can generate $500 million in revenue annually, but none of that revenue ever flows to token holders, why should they care? This is precisely where there is a significant distinction between digital assets and stocks.
When you buy shares in a company, you own part of that company's residual claims. The company can reinvest profits into its business, return them to shareholders through dividends, or use them to buy back stock. Even if a company never returns a dollar of capital directly to shareholders, shareholders still have another way to realize value: the entire company might get acquired.
A startup can reinvest every dollar earned for several years because investors believe these investments will generate greater profits in the future. Once the company matures, it can start paying dividends or repurchasing shares.
Alternatively, another company or private equity firm might acquire it directly at a 20 times profit multiple, allowing shareholders to receive the acquisition payment, typically along with a premium compared to the then-current stock price.
But crypto protocols generally lack such exit strategies.
No one is going to acquire the Aave protocol at a 20 times EBITDA multiple and then send a check to all AAVE holders. No one will buy Hyperliquid and then exit all HYPE holders with a 30% acquisition premium. These protocols are decentralized networks that, at least theoretically, are designed to exist indefinitely, unlike companies that can eventually realize value through acquisitions.
Therefore, the connection between protocol economics and token economics could be even more important than the connection between company profits and their stock.
Because if a protocol generates billions of dollars in revenue over its lifespan, but not a single dollar flows to token holders, there may never be a final event to bridge the gap between "protocol value" and "token value."
Protocol Profits Must Ultimately Flow to Tokens
Thus, we are increasingly convinced that token buybacks are currently one of the simplest and most direct mechanisms to connect a protocol's success with the value of token holders. However, this does not mean that every protocol should immediately use all its income to buy back its tokens. In fact, in many cases, this would constitute poor capital allocation.
Many leading protocols today are still essentially in startup phases. They are growing rapidly and have plenty of opportunities to reinvest capital. They can improve products, offer liquidity incentives, enter new markets, acquire teams or technologies, build insurance reserves, subsidize new products, or invest in the entire ecosystem.
If a protocol invests $1 today and can create $5 worth of value in the future, we clearly would prefer it to continue investing rather than using that $1 to buy back tokens.
This is not a problem unique to the crypto industry.
Amazon became one of the most successful investments in history not by aggressively raising dividends and stock buybacks during its early rapid growth phase. If reinvesting capital yields higher returns, outstanding companies will choose to keep profits within the company for further investment rather than returning them to shareholders.
Protocols should do the same.
But there is a significant difference between “we are not buying back tokens today because there are better uses for capital” and “there is no reason to believe that this income will ever flow to token holders in any form.”
The former may be an excellent capital allocation decision, while the latter would make valuation almost impossible. In other words, buybacks do not necessarily have to happen today, but investors must believe that they will someday occur.
Morpho (MORPHO) founder Paul Frambot recently reignited this discussion. He opposed aggressive token buybacks, arguing that young, fast-growing protocols should reinvest profits back into the business rather than distribute them directly.
Last year, he also expressed similar views in a blog post. We largely agree: evaluating a protocol should be similar to assessing a company; when the expected returns from additional capital investments are high enough, they should continue investing; when those returns decline, capital should be returned.
However, a significant difference exists between Morpho and the tech companies Frambot used for analogy. Meta's shareholders own Meta. Even before Meta began returning capital to shareholders, they had a legal ownership stake in the company's continually growing profits and assets.
In theory, they can realize this value through dividends, stock buybacks, or the company being acquired. MORPHO holders do not have the same clear path to realizing value.
Therefore, reinvesting protocol revenues back into the business can delay token holders' receipt of value, but it cannot indefinitely replace the value capture itself. Ultimately, the economic value created by protocols must somehow flow back to the tokens.
Once again, Crypto Twitter interpreted this issue as a black-and-white debate on whether “buybacks are good” or “buybacks are bad.” In reality, the true question is about timing, as we discussed in March 2025. Buybacks do not necessarily have to happen today, but protocols must ultimately answer one question: what do token holders truly own?
How Should Protocols Spend Money After Making It?
For most of cryptocurrency history, “capital allocation” hardly seemed like an important topic because projects actually had little capital available for allocation. Projects would finance, burn money, and then issue tokens to incentivize users. If the money ran out, they would seek further funding.
Now, this situation is beginning to change.
Once protocols start realizing substantial free cash flow, their founders and governance participants suddenly face a question that Jamie Dimon, Warren Buffett, and all public company CEOs have confronted for decades: what should be done with this money?
Should it continue to be invested in the business?
Should it be used for acquisitions?
Should growth be subsidized?
How much reserve should be kept?
Should they enter adjacent businesses?
When the expected returns of these investment opportunities begin to decline, should excess capital be returned to token holders?
These are the capital allocation decisions. Therefore, digital asset investors should not only look at how much revenue a protocol generates going forward but also consider what it does with that revenue.
Assume there are now two protocols that can each generate $100 million in revenue annually, with a revenue growth rate of 30% and comparable margins and competitive positions.
Protocol A continually reinvests all earnings indefinitely while lacking any credible mechanism to ensure these earnings eventually flow to token holders.
Protocol B is similarly actively reinvesting at this stage but has governance mechanisms and a token economic model that clearly stipulates that after meeting reasonable reserve and growth investment needs, remaining cash flows will be used to buy its own tokens.
These two tokens should not have the same valuation multiples. Protocol B has established a credible mechanism for transmitting protocol revenues to token value, whereas Protocol A has not.
Buyback Does Not Equal Value Return
Even the term “buyback” itself needs careful analysis. Suppose a protocol generates $100 million in revenue, spends $50 million purchasing its own tokens, and then redistributes $50 million worth of similar tokens as incentives. This does not necessarily mean that it has genuinely returned $50 million in value to token holders. It may simply represent a cycle of token issuance and not equate to actual value returned to holders.
Buybacks and destroys will permanently reduce token supply; redistributing tokens to holders or stakers post-buyback will more directly transfer economic value. If a protocol places the repurchased tokens in a treasury, it may also create value, but the stipulation is that this treasury must ultimately be managed in the interests of token holders. The specific mechanism is important.
But the underlying principle is quite simple. If a protocol generates economic value, there must ultimately be a mechanism for token holders to share in that value. Otherwise, the so-called “protocol revenue” is merely an interesting statistic.
From Revenue to Valuation
By 2021, we had begun to see this framework operate in reality.
In July of that year, we introduced a group of digital assets and described the projects behind them as: “real companies, real cash flows, tokens capable of capturing economic value, and a way to measure their success.” We believed these projects had finally begun to achieve something we had long hoped digital assets would accomplish: allowing customers and users to also share in the economic value created by the project.
However, the problem at that time was that there were simply too few such projects. Now, the situation is different. This is precisely why Hougan's perspective is so noteworthy.
What is truly important about his article is not merely the assertion that “revenue should flow to token holders.” The real importance lies in the fact that just as these assets themselves have matured and this valuation framework has finally started to work, this framework is also beginning to become mainstream. This will have a significant impact on valuations.
Valuation Discounts Should Start to Narrow
If a protocol's revenue grows by 50%, its tokens may naturally become more valuable as the protocol's ability to generate profits strengthens. However, at the same time, another phenomenon may occur: the valuation multiples investors are willing to pay for these profits may also increase.
Suppose a protocol's profits grow by 50% per year, while at the same time, as investors become increasingly confident that these profits will eventually flow to token holders, its valuation increases from 8 times earnings to 16 times earnings.
In this scenario, the protocol's profits do not even need to double; the token price may also double. The reason is simply that the market is now willing to pay a higher price for every dollar of profit, as investors believe the likelihood of these profits eventually flowing to token holders has increased.
This is essentially the point Hougan is making: as clearer links are established between protocol revenue and tokens, the valuations of crypto assets could double or even reach higher levels. We believe he is correct. For a long time, profitable crypto protocols have been significantly undervalued relative to similar public companies, part of which is obviously justified.
Shareholders in stocks hold legally protected ownership, a company's governance structure is highly mature, financial statements are audited, securities laws protect investors, and management bears fiduciary responsibilities. After decades of practice, shareholders have a very clear legal and institutional basis for understanding what they actually own.
Token holders often do not possess these guarantees. Therefore, a token could indeed be expected to trade at a discount compared to a stock with identical economic characteristics.
But the question is, how significant should that discount be?
If a protocol has hundreds of millions in recurring revenue, extremely high profit margins, rapid growth, the ability to reach a global market, limited capital needs, and a transparent mechanism for continually using surplus cash flow to buy its own tokens, should it really only trade at a small fraction of the valuation multiple of a slower-growing public company?
Perhaps.
But we increasingly doubt that the answer is yes. This suggests that one of the biggest opportunities in the digital asset space today may not only be to find protocols with revenues still growing. A more significant opportunity may lie in identifying those protocols whose fundamentals have changed, yet the market is still pricing them using outdated valuation frameworks.
Crypto Investment is Moving Towards Fundamentals
For nearly a decade, Arca has maintained that digital assets will ultimately be valued based on the same fundamental investment principles as all other assets.
In 2019, we discussed companies with cash flows that use token buyback mechanisms.
In 2020, we proposed that external cash flow is key to the long-term value growth of token holders.
In 2021, we began focusing on truly revenue-generating digital assets that allow tokens to capture economic value.
This does not mean that the market at that time was ready for fundamental investment. To be frank, most assets themselves were not prepared. The issue was not that this framework was incorrect; it was simply that the entire industry was not mature enough to allow this framework to operate effectively.
Now, it is different.
Protocols have customers, they generate income, they create profits, and protocol operators are beginning to make capital allocation decisions, and an increasing amount of surplus cash flow is being used to buy tokens.
This means the questions that digital asset investors should be asking today have become strikingly familiar:
How fast is revenue growing?
What is the profit margin?
How long can the competitive advantage be maintained?
How much capital needs to be reinvested to sustain growth?
What returns can be expected from these reinvestments?
After high return reinvestment opportunities begin to decline, how much surplus capital will ultimately be returned to token holders?
In other words, crypto investment has finally begun to resemble fundamental investment. After spending over 15 years trying to invent various new methods for token valuation, the next significant “innovation” in the digital asset space may precisely be the logic that stock investors are already familiar with: making money, growing profits, appropriately allocating capital, and ultimately allowing asset holders to share in those profits.
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