BlogMainWeb3 Remains Highly Relevant for Private EquityIn the world of private equity, the current wave of web3 technology—despite the ups and downs of the crypto market—holds promise for far-reaching impact. Parallels to the dot-com crash are easy to draw: irrational investments, a cascade of collapses, and, yes, fraud. Yet, just as the internet went on to reshape every aspect of life, the foundational technologies of web3—blockchains, tokens, smart contracts—show strong potential to transform private equity.Web3 Remains Highly Relevant for Private Equity

The Core of Web3's Value

While the recent volatility in crypto assets has certainly caught attention, the true story lies in the technologies that underlie the web3 ecosystem. Despite the market shrinking from a $3 trillion high to a fraction of that, these innovations continue to attract interest from major companies across industries, including private equity firms, venture funds, and tech giants like Google, JPMorgan, and Disney. The focus has shifted from hype to applications, with web3 technologies poised to drive efficiency and liquidity.

Currently, the ecosystem encompasses thousands of companies backed by approximately $94 billion in start-up capital, spanning venture and hedge funds, private equity, and institutional investors. Forward-looking private equity firms are now exploring how web3 can optimize their strategies, enhance fund management, and cut administrative costs. This has opened a new investment theme and created pathways for fund strategies to leverage digital tokens, which can unlock liquidity and make fund operations more cost-effective.

The Web3 Investment Landscape

Although crypto’s turbulence has highlighted risks, it also serves as a proof-of-concept for the potential of web3 technologies. By enabling a decentralized, interoperable internet, web3 moves beyond the limitations of web1 (read-only) and web2 (interactive but controlled by platforms) to an open, protocol-based network. This decentralized internet infrastructure offers multiple value-transfer methods, improved data sharing, and cross-platform application development.

Web3’s foundational tools include:

  • Blockchains: Open, decentralized databases that provide security through consensus mechanisms.
  • Smart Contracts: Pieces of code executed on the blockchain to automate transactions securely.
  • Tokens: Digital assets with assigned usage rights and detailed data, capable of representing anything from real estate escrow details to gaming items.

Applications built on these technologies range from DeFi (decentralized finance) and DAOs (decentralized autonomous organizations) to digital wallets and dApps. For instance, JPMorgan, DBS Bank, and SBI Digital Asset Holdings used tokenized bonds and liquidity pools in Singapore for foreign exchange transactions, enabling a high-speed, efficient process that traditional systems struggle to match. Goldman Sachs recently facilitated a €100 million bond transaction on the blockchain, settling in a mere 60 seconds rather than the usual five days.

Growing Role of Web3 in Private Equity

Private equity firms are finding that web3 provides more than just investment opportunities; it brings critical capabilities to fund management and portfolio oversight:

  • As an Investment Theme: Private equity firms are backing companies across the web3 ecosystem. These include financial infrastructure providers, software developers, layer-one and layer-two blockchain projects, and user-facing apps. With a spectrum of investments available—from highly speculative startups to more stable "pick-and-shovel" companies—investors have opportunities across varying risk levels.
  • **As a Disruptive Threat (and Opportunity): **Even traditional portfolio companies face potential disruption from web3 technologies. Private equity firms are scanning their portfolios to assess web3 exposure, identifying risks and opportunities for value creation. For example, IBM’s blockchain-based Supply Chain Intelligence Suite improves transparency and security in supply chains, while the Blockchain in Transport Alliance works to implement blockchain standards in logistics, drawing interest from companies like FedEx and Delta Air Lines. As these shifts develop, due diligence now often includes web3 factors, allowing private equity firms to prepare for changes in sectors like finance, media, and supply chain management.
  • Transforming Fund Management: Web3 technology also stands to reshape fund management through tokenization. For private equity, tokenization can streamline fund structures, simplify secondary transactions, and enable more liquid, efficient fund models. KKR, for example, has already tokenized part of its Health Care Strategic Growth Fund II, allowing tokens to trade on secondary markets. Similarly, Partners Group and Hamilton Lane have collaborated with the ADDX exchange to reduce minimum ticket sizes for their tokenized funds, opening doors to a wider range of investors.

Building for the Future: Steps for Private Equity Firms

To capture web3’s potential, private equity firms are employing strategies that build both web3 fluency and specialized insights. Key practices include:

  • Focused Investment Mandates: Some funds, like diversified buyout firms, are creating separate vehicles with dedicated web3 investment mandates. This helps maintain alignment between portfolio goals and the firm’s broader objectives.

  • Web3 Specialist Teams: Leading firms are standing up dedicated web3 teams that work across the organization. These teams track web3 developments, educate other departments, and identify potential investments. This structure supports thorough understanding and enables sector-focused insights for more informed investment choices.

  • Sector Expertise Integration: Firms often embed web3 experts within sector teams or maintain a central team to ensure both web3 and industry-specific knowledge are applied to investments. This approach balances understanding of potential web3 disruptions with the realities of specific industry dynamics, fostering sharper insights.

Tokenization: Redefining Fund Management

The potential of tokenization to reshape private equity fund operations is immense. By digitizing asset ownership, tokenization enables secondary trading, greater transparency, and cost-effective fund administration. Key advantages include:

  • **Broader Fundraising: **Tokenization lowers minimum investment thresholds, making it easier to attract individual investors. This can open up a previously untapped pool of capital.

  • **Operational Efficiency: **Smart contracts automate routine tasks, from distributions to capital calls, and simplify secondary market transactions. This reduces back-office staffing needs and compliance burdens, freeing up resources for investment activities.

  • Improved Transparency: Distributed ledgers create an immutable record of fund transactions, streamlining regulatory reporting and compliance.

Several private equity firms, including Apollo and KKR, are already piloting blockchain-based initiatives. For instance, Securitize enabled KKR to tokenize a portion of its health care fund on the Avalanche blockchain, with secondary trading available through a digital marketplace. Partners Group and Hamilton Lane are using ADDX’s platform to tokenize parts of their funds, targeting smaller investors by lowering the minimum investment threshold to $10,000.

A Path Forward for Private Equity

Implementing web3 technologies will require investment, but with support from tech providers like Broadridge, FIS, and iCapital, private equity firms don’t necessarily need to develop these capabilities in-house. For many, collaborating with specialized fund administrators offers a practical approach to experimenting with web3.

Whether investing in web3 infrastructure or adapting portfolio management practices, private equity firms that embrace this technological shift will find fresh insights and advantages in a transforming market. With advances in fund tokenization, smart contracts, and blockchain-based administration, web3 is poised to become an integral part of private equity over the coming decade, reshaping operations and opening new growth avenues. While diving in headfirst may not be necessary yet, it is crucial to start building expertise now, as web3 innovations will only grow in relevance.