One acquisition. One merger. One reason

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Good Morning Dear Reader,

First of all, a warm welcome to new subscribers of The Nutgraf. Last week’s edition about the Bengaluru floods became quite popular, and I got a ton of emails from subscribers. I’ve still not found time to reply to everyone, but I hope to do so before this weekend is out.

If you signed up expecting regular articles about the political economy of cities, well, unfortunately, that’s not what I usually write about. But I do have a fairly wide range of topics, so who knows?

Anyway, in today’s edition, we are going to return to the world of business and technology.

Last week was characterised by two key events.

First, Adobe announced that it would acquire Figma for US$20 billion. Adobe is one of the world’s market leaders in the area of digital creation, i.e., mostly video, audio, and image creation and editing. Photoshop, Illustrator, etc. Figma is much younger than Adobe… but better. So Adobe bought Figma, effectively taking out its biggest rival.

Second, Ethereum completed a major revamp of its blockchain network that was over two years in the making. Crypto people are calling it “the merge”. This change makes Ethereum more energy efficient, and fundamentally changes how people can create and use Ethereum.

One merger and one acquisition.

At the face of it, they don’t seem to have much in common at all.

But go one step deeper, and some interesting parallels emerge.

Let’s dive in.

One merger and one acquisition

Photo by Nick Fewings on Unsplash

The news about Adobe’s decision to buy Figma was met with a collective gasp of horror followed immediately by a ‘hmm, maybe it’s not so bad after all’. The horror was expressed by two quarters—from designers who love Figma and intensely dislike Adobe, and from investors who heard the US$20 billion number and promptly sold their Adobe stock.

I understand why the designers were mad. Most designers see Figma is the cool, young, hip challenger, and Adobe as the jaded, older, but all-powerful veteran. If Adobe is the Empire, Figma is the Rebel Alliance. And of late, Figma has been steadily eating away at Adobe—not because it’s cool, but because it’s better.

From a user standpoint, Figma does most of what anyone can do with Adobe, but users prefer it because they can do it on a browser, or using Figma’s App. This is significantly different from Adobe, which requires you to download and install software, and can be used locally. A good comparison would be, say, Microsoft Excel and Google Sheets. Of course, Adobe can do many more things, but for the most part, Figma makes it super easy to collaborate, build, and share. And you don’t need to attach files to emails or send drive links to people.

Many people think that the reason why Figma is better than Adobe is because Adobe is a slow, dull company.

It’s not.

This is happening because companies like Adobe cannot become Figma even if they tried. Even with all their infinite resources.

And this is because of a simple reason. Files, and backward compatibility. Amal Dorai, Partner at Anorak Ventures, explained this in great detail on Twitter in a thread. Simply put, his point is that companies like Adobe have a massive base of customers who have built and adapted their behaviour by creating files locally on their system, which they edit and share offline. Adobe simply cannot become a cloud player like Figma overnight because they wouldn’t be able to take all of these files and make them compatible with older versions of Adobe.

Combine this with the fact that legacy desktop applications are sold as "pay once, run forever", which means that people all over the world are using multiple versions of photoshop. Trying to get them all onto the cloud is an incredibly impossible task.

So Adobe decided that it’s easier to buy than to build.

But investors feel that US$20 billion seems like a steep price.

And they’ve made their displeasure clear.

I understand why they are furious. When Figma raised money last year, it was at a US$10 billion valuation. And now, after the tech crash, Adobe is valuing it at double that number. Also, this valuation is 50 times Figma’s annual revenue—which is pretty much an outlier.

Nobody pays this much to buy a company.

But since we are talking about prices, we might as well talk about Ethereum, whose price also fell after the much-vaunted merge.

For a long time, life was hard if you were using Ethereum. Transactions were expensive. In an earlier edition, I described why the existing model made it hard for Ethereum.

The solution was that someone had to take the pains to “validate” the transaction, potentially a time-consuming operation. There would be an incentive offered to this person to do this—usually a part of the currency itself. That’s how the system runs: crowdsource the validation, and reward the person doing it.

In crypto terms, this is called proof of work. This solved for consensus, and for reasons we won’t get into here, it also solved for security.

Proof of work was, and in many ways still remains, the best way to achieve both consensus and security on web3. But it has one big problem. It’s computationally expensive, which is why a lot of people (rightfully) criticise Bitcoin for being environmentally unfriendly.

And it’s not just Bitcoin, even Ethereum employs proof of work, which places a significant cost on validating every transaction on the network. In Ethereum, this is called “gas fees”.

It’s a lot.

And of late, it seems to be getting more expensive.

The most important crypto company, The Nutgraf

Anyway, last week, Ethereum switched to the proof of stake model.

And there was much rejoicing.

I mean, literal rejoicing. Here’s an actual photo from Bengaluru, with people celebrating ‘merge diwas’ donning masks of Vitalik Buterin, founder of Ethereum.

So what is this merge exactly?

I could explain in more detail, but for now, all you need to know is that Ethereum’s new process consumes very little power, because it doesn’t depend on miners. Instead, the transactions are validated by people who stake existing Ether coins, and get rewarded with more coins.

The consequences of this shift are enormous.

Still, for existing Ether investors, staked coins will be similar to putting money to work instead of stuffing it under a mattress. The yield feature allows traditional finance professionals who’ve long struggled with valuing crypto assets to perform cash-flow analyses to compare Ether’s performance with that of traditional assets. They can also benchmark staked Ether against other investments.

“It’s not risk-free, but it gets you close,” says Henry Elder, head of decentralized finance at Wave Financial Group, an investment manager. “This is something that crypto really struggled with: How do you compare asset managers, how do you compare performance? I think that’s super important, because when you get to institutional investors, that’s the language that they speak.”

The Ethereum Merge Ups the Stakes—and Reshapes the Crypto Universe, Bloomberg

There are other consequences. As Matt Levine, author of Money Stuff, the second best newsletter in the world asks, “if you are a big US-based crypto exchange and you are paying staking rewards on Ethereum, does that make your offering a security that needs to be registered under US Securities and Exchange Commission rules?”

Nobody knows.

But for now, crypto, after months of bad news, is looking for any sign of hope. And if that means making crypto resemble traditional financial assets, then so be it.

I think both Adobe's acquisition of Figma and Ethereum’s merge represent two examples of technology companies crossing an insurmountable barrier—their technology itself. Adobe was stuck with legacy files, and Ethereum was stuck with expensive gas fees. And both these factors had to do with the kind of companies they are, and how they got there. It’s served them for a while, but in these tumultuous times, it’s clear that if companies need to break out and get to the next stage, they’re prepared to use any means necessary. Even if that means destroying what made them what they are, or… shelling out US$20 billion.

Adobe’s acquisition of Figma is a way for it to jump into the new world without having to build its way to it.

And Ethereum’s transformation is a way for it to jump back into the old world, by building a way back to it.

The bridges are being built.

It remains to be seen how the crossing will take place.

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Take care.

Regards,
Praveen Gopal Krishnan

The Nutgraf is a paid weekly emailer that explains fundamental shifts in business, technology and finance that happened over the last seven days in India. In a way you’ll never forget.

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