(Bloomberg) — Cryptocurrency markets boomed in March as Bitcoin hit a record high and billions of dollars flowed into new ETFs. But one particular group of investors had more reason to cheer than most.

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At the time, startup Monad Labs was closing in on a funding round in which venture capital investors including Paradigm valued it at $3 billion. While important by crypto standards, the Monad deal had another distinguishing feature: Some people known in the industry as “key opinion leaders” were allowed to invest at a fifth of Paradigm’s valuation, people familiar with the matter said .

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

In exchange for promoting crypto projects, KOLs typically get favorable terms such as valuation discounts and shorter vesting periods, according to interviews with influencers, entrepreneurs and legal experts. The deals have become a source of controversy, with critics focusing on poor disclosure and potential risks to retail investors.

At least some startups raising money do not require influencers to disclose their affiliations, several people familiar with such arrangements said — an apparent violation of U.S. regulations.

There is no indication that Monad Labs’ fundraising violated U.S. securities rules. One investor said the company did not impose any explicit requirements on KOLs. Chief Executive Keone Hon declined to comment on what vesting terms and disclosure rules applied to such investors.

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

Influencers and cryptocurrencies

“Projects that include opinion leaders and key influencers in a funding round with the expectation that such individuals will go out and promote the project token as an investment may be scrutinized by the Securities and Exchange Commission,” Michael Selig, partner at Willkie Farr & Gallagher LLP, which specializes in securities law, said in an email.

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

Buying tokens typically doesn’t offer investors the same protection that equity rounds do, but it offers one big advantage: the ability to sell them in just months, whereas equity investors are often locked in for years before a liquidity event like a ‘IPO. .

Then there is the role that influencers play in cryptocurrency markets. For years, cryptocurrencies have nurtured a cottage industry of famous people ranging from reality stars to athletes and self-proclaimed experts promoting projects online. During the initial coin offering boom of 2017, a large following on “crypto Twitter” could be a ticket to instant riches, in the form of early access to hot tokens and compensation for advertising them.

“Making So Much Money”

It doesn’t always take a lot of following to qualify as a KOL investor.

“Almost anyone with an influence or a community,” said Simon Chadwick, co-founder of crypto platform Eclipse Fi. “It could be someone who has 5,000 people on Twitter and who writes search threads,” he said, referring to the social media platform now known as X.

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

According to Chadwick, KOLs in these types of deals can get discounts of 20% to 50% and shorter vesting terms, meaning they can sell their tokens sooner than other investors.

“Some of these KOLs are investing in hundreds of rounds, making so much money,” he said.

The SEC has cracked down on influencer marketing by crypto projects. In October 2022, Kim Kardashian agreed to pay $1.3 million to resolve regulator allegations that she broke US rules by promoting a digital token without disclosing that she was paid to do so. She neither admitted nor denied the charges. Four years earlier, the SEC had fined Floyd Mayweather for failing to disclose a similar crypto deal.

HAMBURG, GERMANY – MAY 7: Kim Kardashian on stage during OMR Festival 2024 on May 7, 2024 in Hamburg, Germany. (Photo by Tristar Media/Getty Images) (Tristar Media via Getty Images)

Emily Meyers, general counsel and chief compliance officer at cryptocurrency fund Electric Capital, said she will caution projects against KOL rounds in light of the SEC’s actions against Kardashian and a similar case last year, in which the regulator accused eight celebrities, including Lindsay Lohan, of failing to disclose that they were paid to promote tokens.

Six of the accused celebrities, 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 influencer rings.

“Pump-and-Dumping”

Regardless of the regulatory implications, KOL rounds are becoming controversial in the cryptocurrency industry.

One crypto influencer, who posts on CL, who is based outside the United States and asked that his identity not be used due to the sensitivity of the subject, said it has avoided such deals because of the potential reputational risk.

The surge in KOL deals is “an extension of the pump-and-dumping of small-market-cap tokens, but on a larger scale,” said CL, who has nearly 200,000 followers on X. Influencers’ investments in such deals are often fast-tracked by a “well-known institution” to lend legitimacy to the project and raise prices, CL said.

KOLs are generally willing to accept longer vesting periods in larger deals with large venture capital backers, Eclipse Fi’s Chadwick said. On the other hand, they tend to ask for larger discounts in such transactions, she said.

Because details on influencer purchases are often “difficult to obtain,” venture capital data compilers do not provide separate reports on KOL rounds, said Orla Browne, head of insights at Dealroom.

They often take different forms, with some agreements involving written contracts outlining what KOLs should do in terms of promotions while others are made via Telegram. Some are part of VC-backed funding rounds; others are early-stage projects, not yet mature enough to court major institutions.

While most KOL trades are entirely token-based, some feature a combination of shares and warrants for yet-to-launch digital coins.

A written contract for a KOL funding round, a redacted copy of which was seen by Bloomberg News, specified that influencers who invested at a discount must promote the project through formats ranging from long-form podcasts to TikTok videos. The agreement stipulates that KOLs must disclose their affiliation with the project when advertising it.

But many other projects do not.

“It’s not a requirement,” said 0xJeff, who runs crypto consultancy Steak Capital, which lists “KOL management” among its services. “It really depends on the KOL side whether they want to let the community know that they are invested in the project and that they are affiliated with the project or not,” said OxJeff, who as CL tweets anonymously and asked that their real name not be used .

Diffusion of discomfort

Larger crypto projects typically don’t make explicit requests of KOL investors, said Jed Breed, founder of Breed VC. Instead, such broadcasters aim to create what he called a “whisper network” among the crypto-influencer community. “I’ve never seen a VC deal where it’s like, ‘if you want this allocation, you have to do X, Y, Z,’” Breed said.

Some startups are so interesting that they don’t need to offer heavily sugarcoated terms to KOLs.

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

Joshua Cheong, a product engineer at Parity Technologies who participated as a KOL in Monad Labs’ funding round, said the company didn’t require him to promote the project when he invested. He declined to comment on the valuation and vesting period.

According to OxJeff, US-based influencers are more wary of potential SEC scrutiny and tend to disclose their affiliations when promoting a project or token.

But disruption is starting to creep in throughout the community, regardless of where people are located, OxJeff said. That’s largely because ZachXBT, an influential tweeter with nearly 600,000 X followers whose handle describes him as a “rug survivor,” has begun publicly criticizing the KOL deals.

“I’d be lying if I said KOLs weren’t worried, right? All the KOLs are worried,” OxJeff said. “Especially in these days when there are too many KOL rounds and many don’t do so well.”

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