How Security Tokens Are Shaking Up Traditional Investment Methods

Step aside angel investors, Security Tokens are about to become the new king in town. For years, business loans, and applying for venture capital, were your only real options for raising capital. The early Internet brought forth a third option in crowdfunding; and early crypto a fourth one, the infamous ICOs or Initial Coin Offerings. 

Today, with rising interest rates and caution pervading the VC community, Security Tokens are poised to disrupt business financing. Here, I’m going to tell you why.

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What makes Security Tokens different than ICOs?

ICOs failed largely because there were no protections in place. Utility Tokens created to support and finance innumerable projects had no intrinsic value. Most of them were illiquid and, to make matters worse, some included lock down periods that left investors vulnerable to pump and dump schemes. Plus, an argument could’ve been made that ICOs were selling unregistered securities. Check this Smartblocks article out for more information on Utility Tokens and how they compare to STOs.

Then came the Security Token Offering, which aims to be compliant with, and regulated by, the appropriate authorities; each jurisdiction has different rules and requirements. In the US, for example, the SEC follows The Securities Act of 1933. Does this mean their compliance standards are outdated? Not necessarily, but one could certainly make the case that it is.

In the US, only accredited investors can put their money in securities, including in Security Tokens. This requirement significantly reduces the possible investor pool. It also means that parties seeking to raise funds need to make sure to reach the maximum number of accredited investors possible to be successful. That’s only in the US, though. Projects like Budapest’s VersacBrickSquad clearly show there are other viable options.  

Security Tokens mix with almost every investment, STOs can represent everything from equity, stocks, bonds, debts, income streams, funds and unit trusts to real estate and even valuable works of art. 

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What makes Security Tokens the superior way to raise capital?

Most articles about Security Tokens lead with an indisputable fact, STOs bring liquidity in abundance to traditionally illiquid markets. It’s as Joe Forbes wrote in Forbes:  

“In essence, a TSO [Tokenized Security Offering] can provide liquidity in private companies whereas most private investments achieve returns for investors through exits. Notification to all investors of these milestones can be accomplished over the blockchain simultaneously through their digital wallets.”

Additionally, raising capital through Security Tokens brings many other advantages:

• Most Security Tokens platforms make communication with the holders extremely easy. That opens up possibilities like instant voting, healthy discussion among people with aligned interests, and many more that are yet to be discovered. 

• Security Tokens can be customized, for example to include voting rights on crucial issues. So your investors could be more engaged more easily. 

• The community aspect is crucial. Security Tokens might open up projects outside the US to retail investors, sure. More importantly, it gives the fundraiser’s community the chance to become part of the project and get rewarded by its success. This is a game changer.

• More efficient markets. A project’s tokens will trade all-day, everyday in centralized and decentralized marketplaces. Security Tokens open plain-old securities to peer-to-peer trading and secondary markets.

• Intermediaries are not necessary. Most of the process takes place between the issuers and the investors.

• The Security Tokens issuer can get a percentage of every sale in perpetuity. That means secondary market sales continue to provide funds for the project. 

• In essence, each blockchain is a public ledger in which anyone can see every transaction ever made. That means tokens trade in a transparent and auditable environment.

• Technically speaking, the issuance of the tokens is a quick and painless process. The main issue is complying with local regulations, with the level of complexity varying by jurisdiction.

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Three services that could help

Few people have the complete skill set necessary to create Security Tokens by themselves. The intersection between the law and cryptocurrencies is difficult to reach. Chances are most projects will need a broker or a dealer, a technical wizard, or a well-connected lobbyist. 

An alternative option is to use a plug-and-play service, each of which is doing their best to simplify the process. The question is, did they achieve that goal?

• Securitize offers “a fully regulated, end-to-end digital solution that leverages blockchain technology and security tokens to enable capital raises and provide the potential for shareholder liquidity.”

• Autradety implements and markets STOs, and claims that “performing an STO is relatively inexpensive, making it attractive for all types of companies. Smart contracts on blockchain technology make intermediaries superfluous.” 

• INX offers a “hurdle-free way to raise capital,” and asks entrepreneurs to “imagine raising capital from retail investors around the world in a way that does not dilute your ownership of the company. Or being able to engage with and reward your investors in real time.”

I recently interviewed Alan Silbert of INX for Cryptonized, and he told me the company’s story with American regulators:

“While we went through the Motions with the SEC, which took 950 days of back and forth, we built the trading platform ourselves, and the matching engine and all of its features. And then, we actually got cleared by the SEC in August 2020. We are the first, and we're still the only, which is kind of unfortunate actually.”

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STOs, a practical example and a prediction

In May 2021, INX announced a $125 million raise through a Security Token Offering. According to the press release, they “received from more than 7,200 institutional and retail investors.” In the same document, the company’s president Shy Datika predicted:

"We believe that we will see more and more companies going our way and issuing security tokens, regulated tokens, supervised by regulators. We went through the SEC route, and we will see more regular shares moving to the blockchain."
A mere two years later, Security Tokens are considered the wave of the future and are predicted to be the premiere way of raising capital. 

Bare in mind, however, that most of these tools are still growing and evolving and the majority of the projects are being deployed as you read these lines. As crypto people love to say: we’re so early.