Founder of IOSG The Dilemma and Breakthrough of L2s

The Dilemma and Breakthrough of L2s The Journey of IOSG's Founder

L2 summer or dilemma?

◦ Recently, I have heard several friends who are engaged in scalping studios complaining to me. Many studios have invested huge resources and trading volume in zkSync and Linea, only to find them empty. Instead, they contributed millions of dollars in transaction fees to major L2s. As a result, when these studios see new L2s go live, they no longer have the same enthusiasm to create transactions.

◦ We originally expected a prosperous L2 Summer without the need for studios, but now we have discovered that as studios gradually fade out, the trading volume and TVL of several zkEVMs have not reached expectations. When speculators in the market no longer participate in L2 and no longer create vitality for the ecosystem, we encounter the dilemma of sluggish growth and shrinking ecology.

L2 competition from investors’ perspective

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◦ From an investor’s perspective, the investment logic of laying out L2 infrastructure lies in our belief that these teams will engage in multi-dimensional ecological competition with abundant capital support, encouraging various applications within the ecosystem to flourish. However, most L2 arms races currently do not focus on ecological construction. Instead, they still allocate a large amount of funds to recruit expensive ZK experts and technical talents from PSE (which, strategically speaking, is understandable in terms of technology research and development and talent competition). But in my opinion, high-concurrency-compatible Rollup without applications has little value and will only be castle in the air.

Growth dilemma of L2 ecosystem

◦ Waiting for natural growth of the ecosystem will be a long process. If this arms race fails to help Ethereum achieve an explosive growth of application ecology, and instead focuses excessively on underlying technologies such as share sequencers/Bytecode bottom layer design/repeated investment, then we cannot expect to see a thriving ecosystem.

◦ Currently, competition among L2s for ecological applications is extremely fierce. If an application is tied to a particular L2 chain, it will be extremely difficult to gain support from other L2s. At this stage, the application also hesitates to migrate to other L2 chains because once migrated, it means they will have a harder time obtaining the original L2’s Grant. Therefore, choosing the right partners becomes a challenge that applications need to face. Also, based on this reason, every L2 wants to have exclusive applications, and then applications in different L2s may engage in separatist battles. Of course, after the applications grow, application chains or multiple L2 deployments may appear. However, the problem lies with L2. When they cannot figure out whether future applications will stay in their own L2, they are not willing to invest too much for the time being. We often see L2 applications that have not yet grown up, wandering between different L2s seeking financial support to survive because they do not receive grants or incentives on certain L2s. So, which L2s currently do not have their own public ecological Grant plans?

Breakthrough Approach 1: Head L2 Projects Take Up the Ecological Construction Responsibility

◦ We certainly don’t want to see a situation where each L2 project stands on its own, leading to a relative fragmentation of the Ethereum ecosystem. Perhaps this is a byproduct of a competitive market, but in our view, it is necessary for the overall L2 ecosystem to foster and support a diverse range of application products through a combination of L2 applications.

◦ Unicorn companies worth over $1 billion should definitely shoulder the responsibility of ecological construction, which is extremely important. There are many ways to carry out ecological construction, for example, Starkware and Optimisim have provided significant support to the FOG game through the Dojo and Mud engines; Arbitrum Grant has done an excellent job in supporting the ecosystem with short-term support for GMX, a trading platform that rivals dydx in terms of transaction volume and user experience, and they have also jointly invested with IOSG in TreasureDAO’s game platform (known as on-chain 4399 in the industry); Optimism and Coinbase have launched Base chain based on Opstack and Base chain has witnessed phenomena-level applications like http://Friend.tech in less than two months, with protocol revenue exceeding $20 million and TVL reaching over 20 million…

◦ What they are doing is quite simple – attracting developers within the ecosystem based on network effect and incentivizing diversified innovation and investment through protocol tokens. Of course, recently I have also discussed with some zkEVM L2s, many founding teams believe that providing airdrops and incentive expectations, including how to internally support ecological projects, does not encourage emerging innovations, and they prefer non-interference, allowing projects within the ecosystem to compete naturally. At this level, I believe that platforms that do not heavily invest funds and tokens in building the ecosystem will face bottlenecks in their development and more aggressive strategies that involve certain levels of investment will create advantages in future market capacity and position.

Breakthrough Approach 2: Competition Should Emphasize Strategic Alliances

◦ The competition among L2s is theoretically different from that of L1. Ethereum emphasizes equality and open collaboration, with different technical routes and challenges in various technical implementations. All scaling protocols are aimed at helping Ethereum establish a stronger network effect.

◦ After Ethereum transitioned from the ETH2.0 roadmap to Rollup, the ecological technological responsibility fell on L2. The industry’s prospects lie in the entry of super applications and large-scale users, and capital always executes Ethereum’s roadmap as soon as possible. So, should the L2s supported by capital initiate an arms race based on the construction of ecological applications? With a valuation of several tens of billions of dollars and over $5 billion in capital investment, how should it be channeled downstream to drive innovation in user-facing applications?

◦ I believe that in addition to continuing heavy investment and support for the application ecosystem, zkEVM represents the great hope of industry innovation and should shoulder the mission of repositioning the development plan of the ecosystem. L2 should learn from DeFi Lego, and entrepreneurs and developers should not just repeat building similar technology service stacks, but should explore different ideas and directions, try more creativity and possibilities. In some technically open source protocols and directions, the same standards should be used as much as possible to reduce the waste of duplicated resource inputs. As for competition, it is necessary to employ a strategy of uniting and cooperating to deploy more funds and resources on breakthrough applications. Every platform should strive at all costs to support applications like GMX/Friend.tech, which are pioneering in their respective fields.

The end game of a flourishing ecosystem – L3 and the growth of application chains

◦ The industry is currently going through a phase of turbulent innovation. In the bear market, we have witnessed too many frustrating moments, and many first-time founders encounter various difficulties. To overcome these difficulties, L2 project founders need to truly understand their importance in the industry. In such challenging times, they should not only consider competition but also encourage and support a diverse and flourishing Ethereum ecosystem through more cooperation.

◦ Mainstream VCs and L2 projects can contribute to developer environments and developer ecosystems. The industry should dare to support projects that do not focus solely on token listing but rather provide value to other projects. Build up the open-source community, improve the developer experience, enhance the application front end, and invest in developer education and training. I firmly believe that L2 Summer, based on the explosive growth of applications, can lead us out of the bear market!

◦ When dydx chose to leave Starkware, they decided to deploy an application chain on Cosmos. More and more application projects are beginning to move away from mainstream L2 and rebuild their own infrastructure, valuation logic, and product architecture. At the same time, we have seen the emergence of Rollup-as-a-Service projects based on opStack deployment, such as Conduit/Caldera/Gelato, supporting the gaming and application ecosystem on a large scale. For example, Caldera helps protocols and games build small temporary features that take 2 to 5 engineering days, providing highly interactive and tailor-made application functions (with monthly and feature-based payment options). Gelato, on the other hand, helps Astar launch zkEVM on Polygon chain and charges monthly fees based on Raas. Emerging projects like Arbitrum Orbit/Risc0/Nil foundation are also competing and building ecosystem protocols in this new Raas landscape.

◦ In the past year, IOSG’s investment strategy has decreased the ratio of investment in infrastructure from 80% to the current 60%, while the investment ratio in the application direction has risen to over 40%. We have great confidence in the innovation of Asian teams in areas such as product user interaction, AI-driven applications, and social gaming. And we will also support these application teams to cooperate with various L2s and gain broader ecological support.

This article represents only personal opinions and does not constitute any investment advice. Thanks to Jiawei/Weikeng for their editing suggestions. Furthermore, based on disclosure of interests, IOSG is an investor in most L2 protocols currently (including but not limited to Arbitrum/Optimisim/Starkware/zkSync/Aztec/Scroll/Risc0/Linea/Taiko, etc.).

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