KKR Blockchain Access to $4 Billion Fund Opens Door to Crypto Investors
Henry Kravis, executive chairman and former CEO of KKR & Co. LP, speaking at an event in Chicago, Illinois, in November 2013.
© 2013 Bloomberg Finance LP
As the US Securities Exchange Commission (SEC) cracks down on non-compliant Wild West cryptocurrency firms, a new breed of blockchain applications, built from the ground up to be securities, is emerging to meet the demand. This month, private equity giant KKR
This effort is the latest step into blockchain for the investment management company called Barbarians at the Gates in the 1989 book of the same name. And more compatible blockchain applications are in the works by companies around the world.
While the first generation of financial firms using the technology – rather derisively described by crypto hardliners as Enterprise Blockchain – focused almost exclusively on so-called permissioned versions such as Hyperledger Fabric and Corda, this latest movement is proving open to a wide range of technologies, including public blockchains that anyone can build on.
“In the longer term, blockchain has a lot of applicability across the private markets value chain,” says Dan Parant, co-head of KKR’s US wealth practice. “And so I think, for asset managers and other players in the space, blockchain will make it easier to run and manage private equity funds, from capital calls to distribution to capital account statements that will eventually move to blockchain as we want.”
Although New York-based KKR, which manages $491 billion in assets, is one of the few – and perhaps the first – US private equity firms to open one of its funds to tokenization on a public blockchain, a consortium led by iCapital, is exploring similar opportunities with 18 members, including US-based BlackRock
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KKR’s secret to being early in the game goes back to 2018, when Parant says the firm organized a competition among its employees. There, Parant and his team first identified the possibilities of fractionalizing investments using tokens on a blockchain, reducing the amount needed to invest and expanding the potential universe of financiers. Without blockchain, the typical HCSG II investor was worth around $100 million. While still not available to mom-and-pop types, the tokenized version of the fund was available to investors whose net worth was as low as $5 million and for a minimum of as little as $100,000.
To complete the feat, KKR partnered with San Francisco-based Securitize, a broker-dealer that raised $85 million from Morgan Stanley
In September 2021, a month before Kravis and his co-CEO stepped down from the company they founded 45 years before, the firm itself formally invested in ParaFi and revealed a task force dedicated to exploring blockchain applications. By the end of the year, KKR showed it would stay the course established by its co-founder, making its first fund investment in a crypto firm, leading a $350 million investment in Anchorage Digital, a crypto manager that received conditional approval to operate as a bank.
Showing the breadth of the potential impact blockchain could have in private markets and beyond, KKR kicked off 2022 by joining a consortium that also included financial giants Apollo Global Management
But until earlier this month, KKR’s crypto work had been limited to investment and team building. With the partial tokenization of the HCSG II fund, that changed. Although Parant and Securitize declined to share the value of the tokenized portion of the investment, they said it is in the millions of dollars, a small fraction of the $4 billion fund for healthcare companies; was offered under SEC Reg D 506(c); and includes only qualified buyers, which means Securitize knows who the investors are and they are not in breach of securities requirements.
Since July, the SEC has identified 10 crypto-tokens as securities and in early September announced plans to review filings involving crypto-assets. Domingo is not worried about the attack. “It is very important that we follow the existing regulations,” says Parant.
Although Securitize does not share revenue numbers, CEO and founder Carlos Domingo says it expects to double revenue this year and has enough capital to stay afloat for at least two years, even without any additional sales. The firm’s 250 employees now connect 1.2 million investor accounts to 3,000 investment opportunities and can build compatible financial instruments on permissioned blockchains Quorum, Corda and Hyperledger as well as public blockchains including Ethereum, Algorand and Polygon. Securitize has eight tokenized assets listed on its alternative trading system, also licensed by the SEC.
Although a recent report showed that the costs of being compliant could make some crypto projects unsustainable, Domingo says the cost of failures like Celsius and Voyager, which recently filed for billion-dollar bankruptcy, is even higher. The benefits creating assets on blockchains, on the other hand, far outweighs the resources needed to get started.
“The fact that the best investment opportunities are not being offered to retail, I think is fundamentally wrong,” says Domingo. “I should be able to invest the same as a Harvard endowment, right? And I think those laws need to be changed, relaxed and improved. That said, the compliance rules are there for a reason. They’re for investor protection. And I think people in crypto has realized that the lack of investor protection has actually resulted in many retailers losing a lot of money and that is wrong. So companies, especially companies that were making a lot of money, should have invested more in compliance to protect their investors, because those who have ended up suffering are the investors.”
Other possible blockchain applications could involve entirely new ways of structuring public funds, according to Miles Radcliffe-Trenner, KKR’s vice president of public affairs. “We are very much in favor of this first offering, which follows exactly how other private funds are offered in the market,” says Radcliffe-Trenner. “We want to make sure we get this right. We want to make sure investors have a good experience. But there’s definitely an opportunity in the future to think about other structures that can actually reach a wider audience of investors and be able to to tokenize these structures as well.”
Ironically, for technology that was first embraced by privacy advocates and criminals for its supposed anonymity, Parant says blockchains could eventually help play a role in helping firms more easily comply with anti-money laundering and know-your-customer regulations claim. Domingo goes further and argues that issuing securities on a blockchain reduces the likelihood of missteps like the 2013 Dole stock crisis, when phantom shares were discovered and no one knew where they came from. He expects lessons learned from decentralized borrowing and lending protocols like Aave, valued at $1 billion, and market makers like $2.5 billion Uniswap to be incorporated into traditional finance.
“These are very new blockchain protocols that have enormous applicability in a huge trillion-dollar market, which is the world of securities,” says Domingo.
