Which DeFi Protocol is the most valuable?
Which DeFi protocols are the most valuable? Which are under- or overvalued? As DeFi continues to mature and capture the more mainstream attention, there's a growing need to evaluate these protocols financially. This article aims to do exactly that.
We'll examine six prominent DeFi protocols—Uniswap, Aave, Maker, Curve, Balancer, and Compound—using financial indicators borrowed from tradfi to evaluate investments and provide a nuanced understanding of these protocols' performance and future potential.
Important Caveats
Before diving into our analysis, it's crucial to understand two key points:
Not Financial Advice: This analysis is a thought experiment and for informational purposes only. It does not constitute financial advice, and should not be used as a basis for any investment decisions.
Experimental Approach: Traditional financial metrics have not been extensively tested on cryptocurrency protocols. We know these methods may not perfectly capture the unique aspects of DeFi, as such they do not serve to assess if a project is over or undervalued. Instead this analysis adapts conventional metrics to compare protocols, where they perform well and where they face challenges to ultimately figure out if they are fairly valued comparatively to each other.
Methodology and Ratios
To evaluate DeFi protocols, we've adapted traditional financial ratios. Here's a overview of our approach:
P/E (Price-to-Earnings Ratio)
Calculation: FDV / (Fee revenues - Token incentives)
Adaptation for DeFi: We compare fee revenues to token incentives to assess economic sustainability and value creation. We only count the share of revenue that is accrued to the protocol, not the part that is paid out to liquidity providers. This approach doesn't account for development costs due to limited financial data availability.
Interpretation: A lower P/E suggests the protocol is generating more value relative to its market cap. It indicates a cheaper valuation compared to the amount of earnings generated.
P/S (Price-to-Sales Ratio)
Calculation: FDV / Revenue
DeFi relevance: This ratio helps compare protocols of different sizes by relating their valuation to revenue generation.
Interpretation: A lower P/S generally indicates the protocol is generating more revenue relative to its valuation, which is typically viewed positively.
PEG (Price/Earnings to Growth Ratio)
Calculation: (P/E Ratio) / (Earnings Growth Rate)
DeFi application: This ratio factors in growth rate, crucial for young, rapidly expanding DeFi protocols.
Interpretation: A lower PEG is generally better, suggesting the protocol's valuation is justified by its growth rate.
TVL efficiency
Calculation: (Annual Revenue - Token Incentives) / TVL
DeFi context: As liquidity providers need to be rewarded, TVL can be expensive to acquire and maintain. The more efficiently a project can thus monetize each unit of TVL, the higher the probability of long-term success.
Interpretation: Higher TVL efficiency indicates more efficient use of locked assets in generating revenue.
Note on Fully Diluted Valuation: We use FDV instead of current market cap to account for all tokens, including those locked or not yet circulating. This provides a more comprehensive view of the protocol's potential valuation.
These metrics offer valuable insights, but remember they're adaptations of traditional finance tools applied to a new and evolving sector. Interpret results cautiously and always consider the broader context of each protocol's unique features and market position.
Input Data
[1] annualized YTD 2024 (Data from September 5th, 2024)
[2] We averaged the revenue to clear fluctuations caused by crypto’s volatile market movements.
[3] Annualized revenue 2024 / Avg. 1Y revenue. We aimed to normalize the growth rate and eliminate the effect of market fluctuations by dividing it by the average revenue.
[4] for Uniswap we assumed the fee switch was already implemented. Otherwise the revenue would be 0, which doesn’t allow for any analysis.
Calculated Ratios
[5]As there are no financial statements, we just count token emissions in expenses. These are annualized numbers for 2024
Protocol Analysis
Uniswap, the highest valued protocol of the pack, shows high P/E and P/S ratios, indicating it might be overvalued compared to its peers. It has the second highest TVL efficiency at 3.3%, indicating the protocol is successful at monetizing the TVL it managed to attract. Finally, Uniswap's Price/Earnings to Growth (PEG) is very high, indicating that the protocol is highly priced considering the stagnating growth. Uniswap will need to grow in size and revenue to justify its valuations.
It also has to be noted that as of this point, Uniswap’s revenue is just theoretical as legal concerns block the implementation of a fee switch mechanism. In reality, still 100% of Uniswaps massive fee revenues go to liquidity providers, leaving the protocol and Uni holders with nothing. To make this analysis, we needed some revenue, hence we calculated the values as if a fee switch was already implemented at launch. We can conclude that even if the fee switch was already implemented, Uniswap’s valuation is quite high compared to its peers.
Aave boasts the highest TVL of $12.918 billion of all the protocols, as well as the highest revenue growth with 208%, indicating the protocol is on a great trajectory. Yet despite this massive growth it still doesn’t translate its TVL to revenues as effectively as other protocol’s manage to. In fact, Aave's TVL efficiency is the lowest in the group, suggesting there's room for improvement in how well it utilizes its vast pool of locked assets to generate even more revenue for the protocol. On top of that, Aave has proposed a fee switch mechanism, if accepted and implemented, holders can directly benefit from Aave's value creation.
Maker stands out with massive revenue, great growth metrics and its leading P/E ratio. Its growth, combined with its low P/E ratio, results in the most attractive PEG ratio in the group. All in all, Maker shows great financial performances and seems to be the most attractively priced compared to the other protocols in the group.
On top of that Maker token holders also get to benefit from a part of the protocol's strong revenues. If the revenue exceeds protocol expenses and payouts for DAI savings rate, the surplus accrues to the protocol buffer. Once that buffer is filled, excess revenue is used to buy Maker on the open market and burn it. This mechanism might not be as reliable for token holders as a fee switch, but it’s still great that protocol success translates to value for token holders.
Curve and Balancer are facing some tough challenges. Both have negative P/E ratios, which means they're spending more than they're earning. This is mainly because they use token rewards to attract users. Their P/S ratios are average compared to other protocols we looked at, but they're not very efficient at using their locked assets (TVL) to make money.
Unfortunately, both Curve and Balancer are also seeing their earnings shrink over time, which raises concerns about their future. To get back on track, they need to do several things:
Attract more trading volume
Get better at making money per unit of TVL
Reduce their token rewards without losing users
These goals can sometimes conflict with each other, making it a tricky balance to achieve. If they can manage all this, they could become competitive again and start growing. However, it's a big challenge that won't be easy to overcome.
Compound shows the worst numbers of the pack. It has the poorest P/E ratio and a weak P/S ratio, suggesting it is overvalued in comparison to the other projects Moreover, it has a negative growth rate - the steepest decline of the group - indicating it is on a declining trajectory. Finally Compound also has one of the lowest TVL efficiencies, showing that it struggles to generate revenue from its TVL. With no redeeming factor, Compound’s financial performance shows that it needs to make big leaps to get back on track and justify its valuation.
Examining performance and growth dynamics among these six DeFi 1.0 protocols, we observe a clear division in growth trends. Aave leads with an impressive 206.35% growth, followed by Maker at 189.47% which is also growing rapidly. Compound (-26.20%), Balancer (-19.43%), and Balancer (-16.88%) on the other hand are experiencing significant contractions. Uniswap is somewhere in the middle at 3.07%, indicating stagnation. Revenues draw a similar picture, with Uniswap, Maker and Aave generating great revenues and profits, while Curve and Balancer have not only much lower revenues, but also operate at a loss. Compound is still profitable, but its steep growth decline and low revenue are still major red flags.
This split is explained by the development of the DeFi space since the bull market of 2021, where all six of these protocols boasted massive revenues and were market leaders. The market has since become increasingly crowded as many new protocols have been built. Maker, Aave, and Uniswap have proven to be the strongest of the bunch, continuously innovating and improving to defend and grow their market share. The negative growth of Compound, Curve, and Balancer suggests these protocols have lost ground to newer competitors. To regain their position, these protocols will need to innovate and adapt better to market demands.
Future Outlook
Looking into the future, these metrics give us a good indication of potential and trajectories for these protocols.
Maker - soon to be rebranded to Sky - stands out as best-positioned for sustained success, combining efficient revenue generation with strong fundamentals. With its rebrand it will also expand to new ecosystems to continue its strong revenue growth trajectory.
Uniswap will have strong revenue generation as soon as the fee switch is implemented, but it will have to accelerate its growth again to maintain its leadership position and justify higher valuations. The introduction of v4 aims to bring AMM innovation to Uniswap and compete with newer AMMs on their grounds. This shows that the team is working towards growing TVL and volume at a faster rate again, indicating the protocol can remain on a good trajectory.
Aave demonstrates massive potential with its impressive growth. Yet, it should address the issue of improving its efficiency in generating revenue from its TVL. The initiative to launch its own Layer-2 blockchain could be designed to resolve this issue as sequencer revenues have proven to be a strong revenue driver. Once this new revenue stream is up and running, Aave could truly shine and fully capitalize on the massive liquidity it has attracted.
Curve and Balancer have carved out specific niches in the AMM space. Stablecoin swaps are Curve’s focus, while Balancer specializes in liquid staking and restaking derivatives. However, their current negative growth trends suggest that these niches may not be generating enough trading volumes to be profitable. Despite their expertise in these areas, a significant portion of their niche’s trading volume occurs on Uniswap. The impending release of Uniswap v4 further threatens to erode the advantages these specialized protocols have cultivated and thus they’ll face even stiffer competition soon.
Compound faces a different set of challenges. Unlike Curve and Balancer, Compound hasn't successfully differentiated itself within the lending space.Without the brand recognition and strength that Aave has built, and lacking a clear differentiating factor, Compound has lost market share to both new competitors and Aave. It will need big changes and innovation to change its fortunes.
Overall the metrics reveal a clear divide between the market leaders and those struggling to maintain relevance. Uniswap, Maker, and Aave have demonstrated their ability to adapt and grow, leveraging their strengths to maintain or expand their market positions. Meanwhile, Curve, Balancer, and Compound illustrate the fierce competition in DeFi. Since the early days many new innovative protocols have stepped into the ring, and these projects failed to keep up and defend their once dominant positions.
As the sector matures, we're likely to see a continued emphasis on operational efficiency, sustainable tokenomics, and genuine user value creation. The future leaders in DeFi will be those who can not only innovate technologically but also translate that innovation into tangible financial performance.
