A $25 million bet on Bitcoin: is this really the “tipping point?”

Is Bitcoin about to enter the mainstream? It sure looks that way after high profile investors plowed $25 million into Coinbase, a start-up that provides Bitcoin-related services to more than 600,000 people and to a growing list of well-known merchants.

Yet Coinbase’s boast that Bitcoin is at a “tipping point”‘ may be premature. The currency still has a lot to prove, especially when it comes to showing that Bitcoin can ever catch on as an everyday payment mechanism. Here’s an overview of what recent big investments really mean, and what it will take for Bitcoin to stick around for good.

$25 million to scale for “phase two”

On Thursday morning, a Coinbase blog post touted a $25 million Series B funding round from respected venture capital firms as the largest single investment in a Bitcoin business to date.

Coinbase also claimed Bitcoin is near a “tipping point” of broad-based adoption, citing the 600,000 consumer wallets in use as of December (up from 200,000 in August) and the more than 16,000 merchant partners, like Reddit and OkCupid, that are using use Coinbase to accept Bitcoin payments.

“It’s the beginning of phase two,” said Coinbase co-founder Brian Armstrong, in a phone interview. “There’s a critical mass on the consumer side, and the merchant adoption will come after that.”

The company intends to use the investment for talent acquisition that will help it address growing engineering and regulatory demands, and noted that it “must scale” to keep up with the recent surge in demand for Bitcoin.

Thursday’s release also contained significant strategic news. Coinbase noted that Gavin Andresen — the software developer who is most responsible for the current technical evolution of Bitcoin — will become an adviser to the company, while Andreessen Horowitz’s Chris Dixon, who had a prescient view in 2010 about Bitcoin’s potential, will join the company’s board.

Speculation but not much shopping

If you’re unfamiliar with Coinbase, the company offers a consumer-friendly way to hold and spend the currency using an email addresses, while also giving people a way to trade dollars for small amounts of bitcoins (current price: $855) without using an overseas exchange.

The Coinbase experience is much simpler than how most speculators and early adopters use bitcoins: obtaining them from exchanges in Japan or Slovenia, and then using QR codes or long numerical strings as “addresses” to move bitcoins in and out of their wallets. The ease of use offered by Coinbase, along with the surge of media interest in Bitcoin, may explain why the company has grown its user base threefold in three months.

This doesn’t mean, however, that Bitcoin has caught on as a mainstream method to pay for things. While the Coinbase system offers a less intimidating version of Bitcoin to the average consumer, it still requires people to understand the concept of virtual currency in the first place, which is no easy thing. And, as a payment mechanism, Bitcoin is still more complicated than swiping a credit card or just paying cash.

Such complications mean that the flurry of announcements about Bitcoin in the press — like the ones saying you can buy a space flight, a Tesla or cupcakes — are more about businesses drumming up hype than about a real trend of people buying and selling things with bitcoins.

In the phone interview, Armstrong and co-founder Fred Ehrsam acknowledged that most people are using for speculation, saying that only 20 percent of transactions represent actual commerce. But they argued that all this speculative activity is, in fact, a good thing. They claim that heavy speculation is a natural phase for Bitcoin or any other fledgling currency, ensuring that it gets widely distributed among many users, and provides a broad customer base that will eventually persuade merchants to begin accepting it.

As for the merchants, Armstrong said, Bitcoin will have enormous appeal because it lets them avoid the commission fees and chargebacks associated with credit cards. (Online gift card service Gyft makes the same point, and even offers a 3 percent discount for people who use bitcoin instead of credit cards).

“These are the cases where Bitcoin is poised to take off — large online retailers with high volume and low margins,” said Armstrong.

Is Bitcoin ready for the big leagues?

This summer, the Financial Times referred to Bitcoin businesses by Union Square Ventures and Thiel’s Founders Fund as “just-in-case bets.” Today, however, fewer media outlets treating Bitcoin as flaky or a fad, but instead are beginning to appreciate its potential as a revolutionary new payment platform.

The news from Coinbase will provides the virtual currency with even more credibility: while Bitcoin could still blow up, it’s unlikely that anyone  — even Andreessen Horowitz — would plunk down $25 million “just-in-case.”

And Coinbase isn’t the only Bitcoin business pulling in major money. The founder of Brightcove, Jeremy Allaire, recently raised $9 million to launch a mysterious Bitcoin venture called Circle, and the Winklevoss twins (who own buckets of Bitcoin) say it’s better than gold as a way to store value.

The currency has also received a remarkably favorable endorsement from the U.S. government and from the Bank of America, while also weathering news of thefts and scandals that, if they had occurred a year ago, would have sent the currency plummeting.

All this suggests that Bitcoin is finally ready to achieve its potential as a cheap, international payment platform that can challenge the likes of Visa and Western Union as a way to move money around. On the other hand, a dozen other virtual currencies claim they can do the same thing, while some note that Bitcoin’s soaring value could be tied to the fact that there is no easy way for “betting against the Bitcoin bubble” by shorting the currency.

The bottom line is that Bitcoin has made giant steps in achieving legitimacy, but that it’s still got a ways to go in convincing people that it won’t blow away altogether. And the key to doing so will lie with the currency’s de-facto leaders.

The people who run Bitcoin

While the most eye-catching part of Thursday’s announcement is the $25 million figure, the more significant part of the news may instead be that Gavin Andresen is now a Coinbase adviser. His role is important because, despite all the mystique about Satoshi (Bitcoin’s pseudonymous creator) and a decentralized currency, there are some actual people who exercise control over Bitcoin, and Andresen is one of them. [Update: see Kevin Deselms’ comment below for more details].

As the head software developer, Andresen has been responsible for ensuring that the underlying protocol of Bitcoin is stable and sound, and that its transaction record is safe from tampering or attack. And so far, he appears to have done a good job.

According to Circle’s Allaire, who hosted a Bitcoin-themed dinner in New York this week, Bitcoin is now distributed through so many computers, and its protocol is so sound, that no one (except for possibly a state government) could take control of it. He also said that the currency’s system of awarding new bitcoins to those who solve cryptographic puzzles has been able to withstand the arrival of new mining groups who work together with hyper-fast computers.

If Allaire is correct about Bitcoin’s technical soundness, that means the currency’s guardians, including Andresen, may now be comfortable in turning their attention to building up Bitcoin’s consumer potential.

As another key Bitcoin developer, Mike Hearn, explained in May, the developers’ goal in 2013 was to focus on Bitcoin’s “guts” rather than consumer applications. The newly announced ties between Coinbase and Andresen, however, mean that 2014 could be a different story.

Instead of proving the soundness of Bitcoin’s back-end plumbing, the currency’s de facto leaders — most prominently Andresen and Coinbase — will now have to show that they can make it accessible not only to geeks and speculators, but to Middle America and Grandma too.