The Sure Shot Entrepreneur

Is Decentralized Finance Really Getting Decentralized?

Episode Summary

Andy Kangpan, a Principal at Two Sigma Ventures, shares his experience supporting founders building enterprise software, cybersecurity, and crypto startups. Andy talks about the growth of decentralized finance (DeFi) and gives real-life risk management tips for entrepreneurs and investors wishing to venture into DeFi.

Episode Notes

Andy Kangpan, a Principal at Two Sigma Ventures, shares his experience supporting founders building enterprise software, cybersecurity, and crypto startups. Andy talks about the growth of decentralized finance (DeFi) and gives real-life risk management tips for entrepreneurs and investors wishing to venture into DeFi. 

In this episode, you’ll learn:

4:15 Risk-taking for venture capital investors means thoughtfully making calculated bets on ideas that have a clear path to sustainability.

8:30 Ideas for finding unique insights into quickly growing nascent spaces

12:13 Decentralized finance represents a big paradigm shift, but are we there yet?

16:33 How risky is decentralized finance as an asset class? What should founders know before venturing into this field?

The non-profit organization that Andy is passionate about: NYU Entrepreneurship Institute

About Guest Speaker

Andy Kangpan is a Principal at Two Sigma Ventures. He currently focuses on investments in enterprise software, cybersecurity, and crypto. Andy has been an operator, advisor and investor. Prior to joining Two Sigma, he was an investor with ff Venture Capital where he invested in early-stage companies building innovative technologies in areas such as robotics and machine learning.

Fun fact: In his spare time, Andy enjoys skateboarding, gaming, devouring science fiction, and going to concerts around the city.

About Two Sigma Ventures

Two Sigma Ventures is a New York City-based venture capital firm investing in transformative companies harnessing information growth and computing power to change the world. The firm supports data- and computing-driven transformation in every industry - from infrastructure tools and healthcare to real estate and consumer hardware. Its portfolio companies include Anomalo, Brella, Carbon, Enveda, Firedome, GitLab, Odeko, Remote, Radar among others.

Next Week’s Episode

Coming up next week in Episode 87, we welcome Winter Mead, the founder and CEO of Coolwater Capital. Coolwater is a new organization that is changing the way venture capital investors build new firms. Winter will take us behind the scenes to show us how venture capital works, how LPs think about the industry and what Coolwater is doing to revolutionize the sector.

Subscribe to our podcast and stay tuned for our next episode that will drop next Tuesday. 

Follow Us:  Twitter | Linkedin | Instagram | Facebook

Episode Transcription

Andy Kangpan: It was really only a few years ago that we had the introduction of some of the large protocols that are a big portion of the decentralized finance market today. So if you look at the decentralized lending markets or decentralized exchanges, these are concepts that really have not existed for more than a handful of years.

Gopi Rangan: You are listening to The Sure Shot Entrepreneur, a podcast for founders with ambitious ideas. Venture capital investors and other early believers tell you relatable, insightful, and authentic stories to help you realize your vision. 

Welcome to The Sure Shot Entrepreneur. My guest today is Andy Kangpan. He is a principal at Two Sigma Ventures, based in New York City. We're going to talk to him about the kind of startups he invests in what he looks for in entrepreneurs, what questions he asks in the first few meetings, what gets him excited, and hopefully, he'll also share some things that tick him off and something that doesn't work for him. We'll give examples of startups that he's worked with in the past.

Andy, welcome to The Sure Shot Entrepreneur. 

Andy Kangpan: Thank you for having me. I'm really excited to be here. 

Gopi Rangan: Tell me about yourself starting with your childhood. You grew up in Kentucky, right? The borderline of Midwest and the South. 

Andy Kangpan: Yeah, that's right. I had one of the unusual, and in some ways, uniquely American childhoods. I was actually born in North Dakota and I grew up in Kentucky, but my parents are Chinese immigrants who came to the country without a dime to their name, landed in Iowa of all places, and followed the educational and economic opportunities that were available to them. That was how I ended up in Kentucky. They were professors who had some time at the University of North Dakota and made their way down to the University of Louisville, which is where I spent the majority of my childhood. 

Gopi Rangan: So you grew up in an academic household. 

Andy Kangpan: I did. 

Gopi Rangan: How did that shape your thinking and your outlook for the world?

Andy Kangpan: I think it made a big impact in a number of different ways. One of the early childhood stories I can recall is for my birthday when I was in seventh grade. My father actually gave me an AP biology textbook in the hopes that one day I would pursue a medical career. He is a medical researcher. So, in some ways, he was hoping that I would follow in his footsteps. 

Gopi Rangan: You gotta be a doctor.

Andy Kangpan: For sure. So, growing up in that type of household, a number of things were impressed upon me: the importance of working hard, being studious, and really appreciating the power of science and technology to change the world. Those were things that really have stuck with me throughout my life.

Gopi Rangan: I grew up in an academic household as well, and I can relate to the high demands that parents place on children growing up. How did venture capital happen in your career? You very quickly moved into the investing world. 

Andy Kangpan: I did. I actually started out my career as a brand strategist. It was my job to help organizations think about their mission, their vision, and really what the purpose of their organization was and how that would manifest across all aspects of their business, from the products that they brought to market to how they communicate with their customers. So, when I joined, I helped the firms start their digital practice, which is focused on helping companies reimagine their customer relationships in a world that is increasingly dominated by digital channels.

What that actually entailed was that a significant portion of my time there was researching new technological trends and speaking with founders, pushing those trends forward and hopefully introducing them to companies that they could potentially partner with. After some time and reflection, I really discovered that what got me out of bed was helping these founders manifest their vision. In my previous role as a brand strategist, that was making introductions to these corporations in the hopes of advancing their business. But I became obsessed with this idea of being able to play even a small part in helping these founders succeed and realize that's what I wanted my career to be. That's when I knew that I wanted to pursue venture capital and it's a role where we really get to meet and support founders every single day. It didn't sound like work to me then. It still doesn't, and it's something that I would want to do even in my free time. After some time, I made a transition to the first fund that I was a part of over at ff Venture Capital. 

Gopi Rangan: Why do you like venture capital? What's interesting for you? 

Andy Kangpan: Venture capital is really interesting to me on a number of different levels. In a more abstract sense, it is a way to incentivize risk-taking. I think it's a very important part of our economy to have the sort of financial infrastructure to support individuals who want to build enterprises that may not be profitable today, but can be profitable in the future thanks to a number of different trends that are shaping the world. And I think that the role that venture capital plays is very important. 

Gopi Rangan: But isn't risk bad in general. It's risky. How do you manage that outlook towards the risk? Venture is a very, very risky asset class. The chance of failure is very high. And you like that from the description that you gave? Isn't it kind of volatile to be exposed to so much risk? Why do you like that?

Andy Kangpan: In our business, it's very important to take calculated bets. Risk-taking for us is not in the sense of being speculative - so allocating capital to things that have no clear path to sustainability.

It really means investing in businesses that are focused on making a change in how a certain industry operates and having a very credible and thoughtful approach to how that might happen. That needs very thoughtful perspectives on a number of different levels from how the market might change, how customers might be willing to pay for that product or service over time, how to build an organization around that, et cetera.

Well, we are taking a lot of risks because these things are unknowns at the time we make the investment. We would like to believe that they're calculated that's because they're focused on teams and projects that have really given a lot of thought to how they manifest. 

Gopi Rangan: So, you really like to embrace uncertainty in the startup world, and that's why you enjoy being a venture capital investor.

I'm curious to understand, how is your average day? What happens on a normal day?

Andy Kangpan: Like many venture capital investors, the day-to-day varies quite dramatically. I would say in aggregate, the time spent falls pretty equally across a number of different activities, those being, sourcing and originating new opportunities for the firm to potentially invest in to actually assessing opportunities that we've made a determination that there's a good fit from the actual race that's happening to the thematic focus of the company and so on. So going into a deeper diligence process, and then an equal amount of time actually supporting our companies, whether that's in the capacity as a board member on the companies that we work with to more ad hoc types of initiatives, where we can be particularly valuable additive. So on any day, the time spent across those various activities will vary pretty dramatically but if you look at an aggregate, that's typically where we're spending our time. 

Gopi Rangan: Yeah. You mentioned assessing, which is due diligence and supporting startups. Do you have a favorite? 

Andy Kangpan: Yeah, it's tough. There are pros and cons to every aspect of the role. I really enjoy the process of diving deeper into the opportunities that we're considering for investment. I think that's where you really generate insight and perspective on what is going on in a particular sector and get to develop a view on what are the things that are most particularly interesting from an investment standpoint and how that might inform not only that particular deal that you're working on but forward-looking investment activities as well.

But going back to how I got into venture capital, I also really enjoy working with our companies post-investment. I really love this notion of being able to play even a small part in a company's success. So, no job is too small for us, whether it's making introductions to customers or even hopping on a quick call with a recruit that the company is trying to bring onto the team. These are all things that I really enjoy doing that hopefully add value to what a company is trying to do. 

Gopi Rangan: This is the task that happens when you say assessing and doing research on the market, working with the entrepreneur to understand the business in more detail. These are tasks that happen after you found an opportunity and you decide that you want to spend more time on them. How do you engage with an entrepreneur at that stage? Can you give an example of one of the startups that you recently worked with? What's the nature of the questions you ask them? What information are you looking for? 

Andy Kangpan: I can give a specific example here. One of the projects that we recently invested in is a team called Rift Finance. They're in the decentralized finance ecosystem, and they're building a protocol, a liquidity management solution. A lot of the process of building conviction around that opportunity was speaking to the founder and trying to get to the unique insights that the founder had about the market and where the space was going.

I think in particular, in a space like DFI that is moving so quickly where there's a lot of noise. Part of what we look for there is unique insight or view around where the market is going to help us build confidence in investing in that particular project. 

Gopi Rangan: How do you do that? The unique insight is obviously not available in the first sentence and it's a journey with the entrepreneur and then it becomes evident to both sides that this is the thing that we believe is true. The rest of the world hasn't really caught up to it. Now, how do you arrive at that? What's the process?

Andy Kangpan: It's one of those moments that it's very hard to articulate. People sometimes describe it as an aha moment, but Josh Wolfe often says you can see the directional arrows of progress. When we're looking at spaces, we can see that the market is headed in a general direction. So, we try to educate ourselves around: who are the major players in the space? What are the competitors focused on from a strategic perspective? And where does the attention seem to be going? When we meet with founders, we like to hear their perspectives on what is going on in a space. What are the nuances of the products that exist in the space that we may not fully appreciate it because we don't live that problem on a day-to-day basis? And it's more of an iterative, exploratory discussion where, ultimately, the way they frame the problem and the solution to that problem makes intuitive sense.

It's very hard to articulate what exactly makes insight unique, but all of a sudden things click for you around: "Oh, this is really what is wrong with the space today and this particular solution is the one that we should really invest in." So yeah, it is a little bit vague admittedly, but it is somewhat of an iterative process that involves a good amount of probing around the nuances of the market and the category that we're exploring.

Gopi Rangan: Is this mainly a conversation with the founder, or do you also speak to other experts in the industry and maybe potential customers and others? Who is involved, especially in the early stages of the process until you form the conviction?

Andy Kangpan: Even before we meet with a particular team and we're exploring a particular category, we're doing our best to build an informed opinion about what's going on in the market. So, that's a mix of primary and secondary research, both speaking to experts and operators in the space who have that empathy and that appreciation for what is going on in a particular market, to consuming as much information as we possibly can. And then when we're actually in those conversations with the particular projects or teams that we want to back, it's a mix of conversations with the company itself, but also reaching out to advisors and experts and individuals in our network who can help guide our thinking or challenge the thesis that we're trying to form around that particular investment. So, it is a process of speaking to a number of folks who have a strong opinion about the space and using that data to inform whether or not we should move forward with that particular investment.

Gopi Rangan: I see you're giving a clear description of what really happens in that room that no one gets to see. Thank you for sharing authentic information. I understand crypto is one of your areas of interest. Generally, what are the areas you invest in? And let's talk about crypto also in more detail.

Andy Kangpan: Yeah, absolutely. I spent the first few years of my career as a generalist. So, I have explored and invested in a number of trends from insurance and cybersecurity to now crypto, which is increasingly a significant focus for me. But aside from opportunities in the crypto space, I also focus on themes in the context of enterprise software. Cybersecurity, in particular, is a big focus area for me but I would say those are really the big themes that I spend a lot of time on. 

Gopi Rangan: That's a broad set of topics that all very exciting topics indeed. But I want to talk about crypto. This is a new topic. In the past few years, it's become wildly popular. What is your view of crypto and where is the opportunity in the future? 

Andy Kangpan: Over the years, it's really fascinating to see how quickly the space has evolved. Two Sigma Ventures has been investing in the crypto space for many years now. We made our first investment in 2018, and we've been keeping close tabs on what's been going on in the sector since then and continued to make investments in the space. Beginning in 2019, and going into 2020, we really started to see momentum around this concept called decentralized finance. And that's something that's really clicked for me a number of years ago and continues to be a space in crypto that I tried to spend a lot of time in. There are a number of narratives there that are quite compelling. In particular, this concept of open market access is really exciting.

Coming from an immigrant family, I appreciate the notion that economic opportunity is really not evenly distributed. And in many respects, it's structurally favorite to individuals with excessive capital and in developed markets. DeFi to me represents a really big paradigm shift in that no matter where you are in the world, there's a system with a global currency where you can participate in these really exciting, interesting protocols in a way that was not possible before.

Again, this notion that you have the potential for a truly global currency and a truly global economic system that is more inclusive than what we have today is something that really clicked for me and it continues to be a big focus area for me. Decentralized finance in general is the space where I'm spending almost all of my time these days and will continue to focus on going forward.

Gopi Rangan: You're referring to how power is concentrated with a few when we use a centralized system. The traditional financial systems use the centralized infrastructure that naturally favors for a few people to have more power and the rest of the population doesn't have the same kind of opportunities because they don't have that power. Decentralization exposes the infrastructure to everybody. And now anyone who is interested will have an opportunity to participate. In theory, it works great, but are we there yet today with decentralized finance?

I see in one of your blog posts, you talk about decentralized finance is really getting decentralized, but has it already happened? Do we have enough decentralization or is it going to continue to evolve, and at some point in the future, we'll have that future that you are describing?

Andy Kangpan: I absolutely do not think we're there yet. It's important to realize that we are still in the beginning phases of an enormous revolution. There is a significant amount of inefficiency and challenges to the way the centralized finance market as a whole operates today. 

Gopi Rangan: Where does that come from, the inefficiency? Are we trying to force-fit into legacy systems or have we not figured out the technology that's ready for prime time today? Or are there other reasons, cultural reasons perhaps? 

Andy Kangpan: One of the reasons is the fact that we're just so early. It was really only a few years ago that we had the introduction of some of the large protocols that are a big portion of the decentralized finance market today. So, if you look at the decentralized money markets or decentralized exchanges, these are concepts that really have not existed for more than a handful of years. We're still in the beginning phases of foundational building blocks being put in place that without those actually being a part of the ecosystem, we're going to have inefficiencies across a number of different levels.

What we're seeing now, and what we're excited about, is the opportunity to invest in some of these foundational primitives that are addressing the inefficiencies that have emerged in this ecosystem over the past few years. I can give an example. One of the investments that we recently made was in a decentralized oracle called Pyth, which is in the Solana ecosystem. Oracles are not a new concept. In fact, there are a few different Oracles that exist in the market today that are quite successful. But what Pyth has really focused on is providing real-time, first-party data that will enable more sophisticated, high-volume, high-frequency, financial applications. To us, that's a really exciting opportunity. If you're going to build a more complex, sophisticated, decentralized financial market over time, you need really high-quality, high-speed data. And that's a missing building block that we just simply don't have today. So, Pyth was a project that we felt particularly excited about, that could address some of the challenges that exist with the infrastructure that we have in place today. Those are the types of things that we're very excited about. 

Gopi Rangan: Andy, I understand you like risk. That's why you chose venture capital. You like embracing uncertainty, but this is the deep end of uncertainty. Crypto is so nascent and there's so much that needs to be figured out yet. Institutional investors are beginning to adopt this. That's a positive sign. There are some crypto native folks that are living and breathing in that world and that's a very, very minor population. It'll grow in the future. 

There is so much more uncertainty in this space. How do you assess companies- like the examples that you gave about market sizing and the research that you do with the entrepreneurs? How is that process different in crypto compared to how you evaluate companies in other sectors like cybersecurity or other industries? 

Andy Kangpan: Yeah, it is undeniably a frontier technology. We are still in the early days of what exactly the technology will look like and the particular use cases where it's going to actually deliver a tremendous amount of value. So, in that way it is challenging. 

Gopi Rangan: Yeah. So what's your advice to entrepreneurs? How can they prepare to be effective in the first one or two meetings with you when they have a crypto startup?

Andy Kangpan: It's particularly important in a space as noisy and as early as DeFi to have a really strong view about what it is that the protocol or the project is focused on building. That may sound like an obvious statement, but once you start dipping your toes a bit into the ecosystem, there is so much jargon and so much complexity to the way in which teams describe what it is that they're building.

I really appreciate it when a founder is able to simplify in some ways the space as it is today, and really distill what are some of the challenges that exist. Going back to the example of the project that we invested in, Rift Finance, one of the big challenges for every single project in the market today is actually building sustainable liquidity around the project itself. 

When you take a step back, you can see that there needs to be a more sustainable solution for that other than the tools that exist today, which basically takes the form of liquidity mining, which is giving users tokens for free so that they'll come to use your product or provide liquidity on decentralized exchanges around your token. That's just not sustainable. It's proven to really be destructive to the value of projects over time. And so, in conversations with the team at Rift, they were really able to distill that problem in a very clear way and propose a solution that aligns with the incentives of both the protocols and users who are operating in this space today.

It comes down to first principles, in some way, of ultimately, what is the problem that you're trying to solve, and what's the solution that you're proposing? That's what really gets us excited when we speak with project teams building in this category. 

Gopi Rangan: So, in some ways, the crypto industry is even more interesting because building unique insights is a little easier, although it's challenging from a technology perspective, adoption, and various other things, finding a unique insight is a little easier because the whole space is so broad and very nascent. But from your perspective, as you evaluate these companies you're still going by the same basic principles of you need to have a problem to solve. There needs to be a customer that will adopt the solution and the size of the market, unit economics, and various other things. You're pretty disciplined about looking at the opportunity from all of those perspectives.

Andy Kangpan: To some degree, yes. I would say that some of them are fundamental pieces of analysis that we try to do in more of the traditional equity investments at the firm, it takes on a different flavor in the context of DeFi. The value capture mechanisms often tend to be a little bit different. The concept of 'tokenomics' becomes a critical piece of our discussion. And again, these protocols are building for a market that is growing very quickly, but still quite early. So, we just try to be very clear when we were making our investments around the assumptions that we're making, where we are today, and what you need to believe in order for a particular project that we're focused on. Well, we need to believe in order for that product to be successful. In that sense, I think the analysis is quite similar, but there are very unique aspects of the ecosystem that we have to navigate that are quite distinct from the more traditional equity deals that we do at the firm. 

Gopi Rangan: This is fascinating. We could talk about this for hours. There's so much to uncover here. We're coming to the end of our conversation, and I want to talk to you about your community involvement. Is there a non-profit organization you are passionate about? Which one? 

Andy Kangpan: Yeah. Actually, one that I'm very actively involved with is one that's affiliated with my alma mater, New York University. The Entrepreneurial Institute is one that I frequently support as an active participant in their community as a mentor in their summer incubator program. I also regularly give lectures there to teams on how investors think about startups and metrics that they can adapt to better manage their business. And the reason it's so important to me is, as a student at NYU, the entrepreneurial community during the years that I was there, was relatively nascent and unorganized. I always felt that if there was a centralized resource to give students more exposure to the concept of startups and entrepreneurship, it would have had a big impact on how I approached the first few years of my career. So, that's an organization that I feel particularly excited about because it has the potential to impact the student body of the university that I attended.

Gopi Rangan: Oh! This is fantastic. I hope the body of work that you're creating for yourself, which includes teaching, encouraging students to pursue entrepreneurship as a career choice, work that you do as a venture capital investor working with founders, and the crypto world that you are discovering and uncovering for the rest of us, hope all of that collectively has created far more impact than you might have had as a doctor and hopefully your parents are prouder of you now than they were when you didn't pursue the medical route. 

Andy Kangpan: Yeah, I hope so. It's challenging to explain to my parents what I do, especially as they started to go deeper into the Web 3 rabbit hole. It's more and more challenging by the day to explain to them what I do. But yeah, hopefully, the work that I'm doing and what we're doing at 2 Sigma Ventures is making a big impact.

Gopi Rangan: Thank you very much for sharing insightful stories, specific examples from your portfolio, and the topics that you are excited about, especially crypto. I look forward to sharing your nuggets of wisdom with the world.

Andy Kangpan: Thank you, Gopi. I really appreciate you having me on the show. 

Gopi Rangan: Thank you for listening to The Sure Shot Entrepreneur. I hope you enjoyed listening to real-life stories about early believers supporting ambitious entrepreneurs. Please subscribe to the podcast and post a review. Your comments will help other entrepreneurs find this podcast.

I look forward to catching you at the next episode.