CEO of R3 David Rutter
John Phillips—Getty Images for TechCrunch
By Jeff John Roberts
June 7, 2018

R3, a startup that last year announced it had raised $107 million to bring blockchain services to the financial sector, is floundering and could be out of money by early next year, according to two former employees of the company.

The company’s reported struggles come amid questions about R3 and its ability to build a business around its version of blockchain, a type of software that facilitates transactions by creating a secure ledger across multiple computers.

Fund-raising questions

R3 launched in 2014 with ambitious plans of supplying blockchain technology to a consortium of major banks. The company’s initial strategy involved an invitation-only version of blockchain that would let financial institutions carry out transactions in a faster and more secure fashion.

The project got off to a fast start as the likes of J.P. Morgan and Goldman Sachs agreed to be founding members of the consortium. Meanwhile R3 developed Corda, its own version of a blockchain (the company prefers the term “distributed ledger technology”), and rapidly added dozens of additional partners.

R3 encountered a setback in 2016, however, when some of its blue chip members—including Goldman Sachs and Santander—left the consortium. As a Goldman insider told Fortune at the time, the bank chose to let its membership lapse in part because it did not anticipate the group to mushroom to 70 members, which made the arrangement less attractive.

The departures didn’t deter R3’s ambitions, though, and the startup trumpeted a $107 million funding round in May of last year. At the time, it also suggested the round was just the first tranche of a larger plan to pull in $200 million as it built out the consortium.

That plan appears to have fallen far short. While Reuters last week reported R3 raised another $15 million from financial settlement provider CLS and two other companies, the news came after frantic efforts to raise a much bigger round, according to the former employees. These employees, like other sources in this story, asked to speak on the condition of anonymity in order to preserve professional relationships.

In an email statement, R3 said the $200 million figure—which appears in numerous media accounts—was based on a one-time plan to sell a stake in a research subsidiary, but that R3 subsequently dropped this plan.

Meanwhile, one former employee added that the original $107 million figure was overstated because it included consulting fees from prior years that R3 reclassified as equity under terms of its partner agreements. The company confirmed to Fortune that only $98.2 million of the $107 million was new money.

The former employees also claim R3 has widely missed internal financial targets set a year ago, with one estimating that revenues are “10X short” and another describing the figure as “laughably off.”

Charley Cooper, a managing director at R3, disputes the claims. He did not provide any specific figures but told Fortune that the company exceeded its revenue targets last year and will provide an update at the end of this calendar year.

Big Spenders

In its quest to build out a blockchain service to a global web of customers, R3 has made significant investments in staff and travel costs. It hasn’t been cheap.

“Just look at the public information. You see their hiring plan and the number of people on their website,” said one of the former staffers. “There’s also expensive real estate in London and New York.”

Another employee questioned a corporate culture in which executives and consultants flew to frequent meetings around the world. In the employee’s view, many of the trips, some of them business and first class flights, could have been conducted online instead.

The salary of CEO David Rutter is also reportedly a source of contention among R3 staff, and one person described it as “outrageous.” The company declined to provide a figure but said it is not excessive.

“David’s salary is commensurate with market rates for a leadership position and was approved by the board,” said the company in response to an inquiry about Rutter’s compensation.

But while R3 has built out an ambitious global operation and given ample support to its executives—including a “Chief of Staff to the CEO”—it’s unclear if the company has a viable business model.

Though R3 was originally conceived as a consortium in which financial institutional would pay ongoing fees to develop and use Corda, the departure of big banks such as J.P. Morgan (which also dropped out of the consortium) suggests interest in the company is waning.

R3’s challenge is harder still because banks typically do not have a hands-on role in software development, and are not structured to make rapid collective decisions on new technology.

“Building consortiums is hard,” said Ryan Selkis, a founder of the crypto startup Messari, and a longtime authority on blockchain.

This may be why R3 has recently announced partnerships with non-financial companies, including a Sydney-based startup called Bloxian Technology, in an effort to promote its Corda blockchain as a way to build corporate software products. According to Cooper, enterprise blockchain sales represent an enormous new opportunity that R3 is poised to be first to capture.

This field is a crowded one, however, and includes notable rivals like Hyperledger, which has received open source contributions from IBM, as well as a collective known as the Enterprise Ethereum Alliance. These rivals have attracted corporate heavyweights, including JPMorgan Chase and Microsoft, in their bid to popularize industrial applications for the blockchain.

In this competition to create a blockchain platform for companies, skeptics say R3 has its work cut out for it. A big reason, they say, is because the company has been unable to attract a critical mass of developers to build out its Corda software. A lack of developers can be fatal to software projects because it can result in a dearth of applications, and create doubt among customers about its staying power.

“Although R3 will say 1,300 architects are contributing to Corda, if you look at the public release notes of R3, there will be no more than three people listed. The public version of Ethereum had 10,000 developers contributing,” said one former employee who nonetheless had praise for some of Corda’s features.

Meanwhile, a prominent figure in the blockchain financial world told Fortune that many developers mistrust R3 because it has allegedly engaged in “open washing,” a term that describes an attempt to portray proprietary software as open source. While Corda is nominally open source, this person said R3 has held back on key code contributions to public repositories.

Another source at a prominent investment bank described R3 as “lethargic” in sharing its code.

“There is an open source version of Corda and an enterprise version. All code for the open source version is available via Github, and the enterprise version is a commercial distribution and adds some commercial extensions to the open source version,” said Cooper.

He added there have been over 350 contributions to the Corda codebase, and there are currently around 50 active developers producing code for Corda. Cooper said the number is much higher if it includes informal contributors.

A Banking Culture in a Blockchain World

Those familiar with R3’s culture and operations repeated a common refrain: The company styled itself as a technology startup but acted like a bank. This dynamic meant that R3 acted more like a member of Wall Street or a plush consulting company rather than a hungry upstart. In retrospect, its early success may represent a decision by banks to get a taste of a new trend—blockchain—rather than any real bet on R3’s business or technology.

“Instead of hiring tech people, they started hiring bankers and guys in suits who don’t know much about technology,” said a former employee.

The challenge for R3 now will be to prove its skeptics wrong and create a revenue stream to keep it afloat in coming years. The two former employees—one citing familiarity with financial figures shared with investors during the recent fund-raising round—said this was a long shot, and predicted the company would run out of capital by the first quarter of 2019. Cooper rejected the claim.

“We currently have more than sufficient funding and at this point have no plans to raise additional money,” he said.

Meanwhile, R3 could also obtain a cash infusion via a high profile lawsuit with the cryptocurrency company Ripple. Last year, R3 filed a contract lawsuit saying Ripple owes 5 billion units of the virtual currency XRP, which is worth approximately $3 billion at current prices. (Ripple claims the payment is not due because R3 reneged on an agreement to provide services.) The lawsuit is currently tied up in procedural matters, and could result in a settlement before it goes to trial.

If a deal does not emerge or if R3 loses the case, it could face harder choices or become a cautionary tale about building a blockchain business.

“Executives were joking about getting bought out, saying ‘Look for the vultures in Q1 of next year, and predicting Oracle or IBM or Microsoft or Accenture will arrive with a buyout offer,” said a former employee.

He added: “It will be a fire sale.”

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