The Fallacies of Using Developer Activity to Value Cryptocurrencies

Can you value a company’s stock based on its employee count?

In conventional valuation theory, such a metric might be heresy. But the idea is taking holding within the cryptoasset ecosystem. The haphazard and volatile price swings of cryptoassets has left most analysts and commentators scratching their heads to come up with suitable metrics to value them or predict their price movement. Developer activity is among the few metrics that have gained a following from the many that have been suggested.

But cryptocurrency investors should take valuation assessments based on developer activity with a generous fistful of salt. Developer activity, while an important marker of maturity for cryptocurrencies, is an unreliable indicator of its value and is susceptible to manipulation.

Using Human Capital To Measure Blockchain Value

The idea of using human capital to measure a stock’s value is not new. Analysts routinely use senior management pedigrees and performance in their evaluation of company stocks. Venture capitalists invest in teams and not products. Publications report on company movements for executives, he logic being that their skillsets and teams affect a company’s overall performance.

This is also one of the reasons why, despite losses, tech companies generally have a high P/E ratio (price-to-earnings ratio). The human capital of rockstar founders, such as Larry Page or Steve Jobs, has its own network effect on their team and investors value their ventures based on their future potential rather than the current state of their technology.

Crypto analysts have used a similar rationale to justify valuations for cryptocurrencies. Authors Chris Burniske and Jack Tatar provide a bunch of reasons, from network effects to the maintenance of blockchains, to track developer activity in cryptocurrencies in their book about crypto investing. Others have attempted to quantify the activity.   

Cryptocurrency data and research site CryptoCompare uses Code Repository Points (CRPs) to assess developer activity on a platform. CRPs measure the number of stars, forks, and subscribers to cryptocurrency code on GitHub, a platform for developers. The more the number of CRPs, the better the project’s chances of survival. Cryptomiso, a website, ranks cryptocurrencies based on the number of commits it has received on developer platform Github. (A commit is code with changes that has been baselined until further development).

The Problems With Using Developer Activity to Measure Crypto Value

There are several problems with these approaches. Chief among them is the use of developer activity as a proxy for senior management skills. It overlays the identity of developers, who are anonymous foot soldiers in a pseudonymous blockchain, on that of leaders. To be sure, there are no well-known leaders in crypto. Even Satoshi Nakamoto, perhaps the best known of all developers, is more of an abstract figurehead than a living, breathing being with opinions. Unscrupulous characters regularly co-opt his name to incite debates and fork off cryptocurrency blockchains for money.

Then there is the fact that these metrics are susceptible to manipulation.  

Take the problems with counting the number of code commits as an indicator of developer activity. The number of commits in a mature cryptocurrency, such as Bitcoin, will be far less than the same number for a relatively new one because the latter will have more bugs and security fixes. As of this writing, Insolar, a coin with a market cap of roughly $8.5 million, had the maximum number of commits on GitHub, surpassing even those for Bitcoin and Ethereum.

Code commits can also easily be manipulated. A programmer commits code to a repository after making changes to it. The nature of these changes can be variable i.e., they may be as big as complete overhaul of a functionality or feature or as small as the inclusion of a semi-colon to separate two lines of code. Both changes will require a commit in order to be integrated into overall code, pushing up the overall count.

(An equivalent comparison is having multiple editors work on different parts or tasks associated with the same book. One editor may work on focus on grammar while another one may rework the structure of an entire chapter. Eventually the changes, big and small, are merged together into a single version.)

The construction of data points related to developer activity also does not follow a coherent line of reasoning. CryptoCompare’s CRP is inscrutable. On a recent day, Bitcoin’s code on GitHub had 115.76K CRPs with 198 subscribers and 1351 forks. (The number of forks to Bitcoin’s code is mostly a function of the number of cryptocurrencies in the market since most blockchains use a portion of Bitcoin’s code.)

But these data points are technical jargon to most non-technical investors and traders. Consider the case of Ethereum’s forks using this data point. On a recent day, Java Ethereum had 1016 forks and 247 subscribers. Google’s recently-released programming language Go had 2,031 subscribers and 8700 forks on the blockchain, in contrast. But the high numbers for the latter is a reflection of the fact that Go’s implementation of Ethereum or Geth (as the portmanteau is known) is the most popular client of Ethereum.

Finally, the number developers at work on a platform is also skewed by the crypto blockchain’s access to capital. Developers will flock to well-capitalized coin platforms because they have access to money and are test beds for innovation.

Not surprisingly, research firm Electric Coin Capital recently found that Bitcoin and Ethereum, both cryptos with multiple funding sources, were the most popular platform for developers. Others cryptocurrency blockchains, with limited access to funds, are struggling.