Why does KOL financing exist? Why is the controversy growing?

• “Key opinion leaders” (KOLs) use their influence to get deep discounts in funding rounds;

• The U.S. Securities and Exchange Commission (SEC) has cracked down on influencer marketing of crypto tokens.

Cryptocurrency markets have been booming in March, as Bitcoin surged to records and trillions of dollars flowed into new ETFs. But a particular group of investors had more reason to cheer than most.

Around that time, startup Monad Labs was about to close a funding round that valued it at $3 billion from venture capital investors including Paradigm. While large by cryptocurrency standards, the Monad deal had another notable feature: Some people in the industry, known as “key opinion leaders,” or KOLs, were allowed to invest at one-fifth of Paradigm’s valuation, people familiar with the matter said.

These “KOL rounds,” which bear similarities to celebrity deals that U.S. regulators have cracked down on in recent years, have sprung up as digital assets have staged a comeback from a brutal bear market. This time around, the investors getting favorable terms are more likely to be cryptocurrency bloggers than athletes or reality TV stars.

In return for promoting crypto projects, influencers often receive favorable terms such as valuation discounts and shorter lock-up periods, according to interviews with influencers, entrepreneurs and legal experts. These favorable terms have become a source of controversy, with critics pointing to poor disclosures and potential risks for retail investors.

At least some startups raising money don’t require influencers to disclose their affiliations, in apparent violation of U.S. regulations, several people with knowledge of such deals said.

There is no indication that Monad Labs’ fundraising activities violated any U.S. securities rules. An investment source said the company did not make any explicit requests for KOLs. CEO Keone Hon declined to comment on the vesting terms and disclosure rules applicable to such investors.

San Francisco-based Paradigm, which runs one of the largest cryptocurrency venture capital funds, also declined to comment.

KOLs and Cryptocurrency

“Projects that include key opinion leaders and KOLs in a funding round where it is expected that these individuals will go out and promote the project’s token as an investment may come under scrutiny by the SEC,” Michael Selig, a partner at Willkie Farr & Gallagher LLP, which specializes in securities law, said in an email.

KOL rounds exist in part because of some unique characteristics of the crypto market. While some digital asset startups raise venture capital funding by offering equity in themselves, others do so by selling tokens they issue or are affiliated with. The project’s valuation becomes a function of the number of tokens sold and their price, similar to a stock sale. There are also hybrid financing rounds that mix tokens and equity, such as Monad Labs.

Buying tokens doesn’t generally offer investors the same protections as equity financing, but it does offer one big advantage: It’s possible to sell in just a few months, whereas stock investors are often stuck for years before a liquidity event like an IPO.

Then there’s the role KOLs play in the cryptocurrency market. For years, cryptocurrency has been nurturing an army of celebrities, from reality TV stars to athletes to self-proclaimed experts in promoting projects online. During the initial coin offering boom of 2017, a large following on “Crypto Twitter” could be a ticket to instant riches — getting in on hot tokens early and getting compensated for peddling them.

Hundreds of rounds of financing to make a lot of money

You don’t always need to have a lot of followers to qualify as a KOL investor.

“It’s pretty much anyone who has influence or community,” said Simon Chadwick, co-founder of crypto platform Eclipse Fi. “It could be someone who has 5,000 people on Twitter writing research posts,” he said, referring to the social media platform now known as X.

Eclipse Fi helps projects built on a blockchain called Cosmos launch tokens. To make the process easier, Chadwick said the company has a network of more than 400 influencer investors that startups can tap. The potential for quick returns is so great that some influencers have tried to use fake social media accounts so they can invest multiple times in the same round, he said.

Chadwick said KOLs in such deals can get discounts of 20% to 50% and shorter lock-up periods, meaning they can sell their tokens earlier than other investors.

“Some of these KOLs have made hundreds of investment rounds and made a lot of money,” he said.

The SEC has been cracking down on influencer marketing for cryptocurrency projects. In October 2022, Kim Kardashian agreed to pay $1.3 million to settle regulators' charges that she violated U.S. regulations by promoting digital tokens without disclosing that she was paid for it. She did not admit or deny the charges. Four years ago, the SEC fined Floyd Mayweather for failing to disclose a similar cryptocurrency arrangement.

Kim Kardashian Photographer: Michael Reynolds/EPA/Bloomberg

Emily Meyers, general counsel and chief compliance officer at cryptocurrency venture capital fund Electric Capital, said she would warn projects against influencer financing in light of the SEC’s action against Kardashian and a similar case last year in which the regulator charged eight celebrities, including Lindsay Lohan, for failing to raise funds through influencer marketing.

The six celebrities charged, including Lohan, settled the case without admitting or denying the SEC's allegations.

The SEC did not respond to a request for comment on the KOL round.

“Pump and dump”

Regardless of the impact of regulation, KOL rounds are becoming increasingly controversial in the cryptocurrency space.

One crypto influencer who posts on X under the pseudonym CL and is a member of early-stage investment group eGirl Capital said they have been receiving “nonstop” pitches from crypto projects looking to invest as an influencer. CL lives outside the U.S. and asked not to use their identity due to the sensitivity of the topic. CL said they have steered clear of such deals due to potential reputational risks.

CL, who has nearly 200,000 followers on X, said the surge in KOL transactions is “an extension of the pump and dump of low-cap tokens, but on a much larger scale.” CL said KOL investments in such transactions are often quickly followed by “well-known institutions” to grant legitimacy to the project and drive up the price.

KOLs are often willing to accept longer lock-up periods in larger deals with large venture capital backers, said Chadwick of Eclipse Fi. On the other hand, they tend to demand bigger discounts in such deals, he said.

Cryptocurrency venture capital transactions resume

Orla Browne, head of insights at Dealroom, said compilers of venture capital data do not report separately on KOL rounds because detailed information on KOL purchases is often “difficult to come by.”

They often take different forms, with some deals containing written contracts outlining the KOL’s work in promotion, while others are done over Telegram. Some are part of venture-backed funding rounds; other projects are at an early stage and not mature enough to attract the attention of major institutions.

While most KOL deals consist entirely of tokens, some combine equity and warrants for yet-to-be-launched digital currencies.

A written contract for a KOL funding round, seen by Bloomberg News, stipulates that KOLs who invest at a discount must promote the project through a variety of formats, from long-form podcasts to TikTok videos. The agreement stipulates that KOLs must disclose their relationship with the project when promoting it.

But many other projects are not.

“It’s not a requirement,” said 0xJeff, who runs Steak Capital, a cryptocurrency consulting firm that lists “KOL management” among its services. “It really depends on the KOL side whether they want to let the community know that they’ve invested in the project and that they’re associated with the project,” said OxJeff, who anonymously liked CL’s tweet and asked that their real name not be used.

Unrest spreads

Jed Breed, founder of Breed VC, said that larger crypto projects typically don’t make explicit requests of KOL investors. Instead, such issuers aim to build what he calls a “whisper network” within the crypto KOL community. “I’ve never seen a venture capital deal where it’s like, ‘If you want this allocation, you need to do X, Y, Z,’ ” Breed said.

Some startups are so hot that they don’t need to offer KOLs very attractive conditions.

Humanity Protocol, which is building a blockchain network that uses people’s palm prints to verify identity, raised funding at a $1 billion valuation this month from venture investors including Animoca Brands. Humanity founder Terence Kwok said KOLs invested about $1.5 million in March, but their investment terms were “almost the same as some venture capital firms,” and their investment was capped at $25,000 per person.

Joshua Cheong, a product engineer at Parity Technologies who participated in Monad Labs’ funding as a KOL, said the company did not ask him to promote the project when he invested. He declined to comment on valuation and lock-up period.

OxJeff said that U.S. KOLs are more wary of potential SEC scrutiny and tend to disclose their affiliations when promoting projects or tokens.

But OxJeff said unease was starting to spread throughout the community, no matter where people were. That was in large part because ZachXBT, an influential Twitter user with nearly 600,000 followers who describes them as “Rug Pull survivors,” had begun publicly lambasting influencer trading.

“Everyone is worried, especially now, there are so many KOL rounds, and many of them don’t go well.”