In this article, Dr Justine Scerri Herrera, who specializes in Blockchain and Crypto (VFA Department), talks about how security token offerings are revolutionizing the capital markets.
In the past, businesses aiming to tap into the capital markets without raising debt could only accomplish such a vision by means of initial public offerings (IPO) or private equity.
Nowadays, with the introduction and boom of Crypto and Blockchain, we have been provided with a brand new and innovative method of raising capital. How? By launching an Initial Coin Offering (ICO) or Security Token Offering (STO) with the latter gaining more and more popularity.
In order for token issuers to proceed with their ICO and STO projects, soft caps must be reached, and issuers must deliver their promises concerning the benefits and value of owning/using tokens. They must do this by means of following a path, which is spelled out in the Whitepaper or Prospectus paper and this must be done within the stipulated time frames. It is crucial for those purchasing tokens to perform due diligence on those offering the said tokens. This should be done in the same way one would perform background checks on companies offering equity through an IPO. This point should be emphasized and regurgitated as much as possible because most of the investors in the crypto space are retail and not professional investors and most often will overlook certain details so they will require more protection.
Arguably the most important and effective marketing tool for token and coin issuers are Whitepapers for ICOs and Prospective Papers for STOs.
If an issuer opts to launch their ICO or STO from a regulated jurisdiction, such as Malta, their Whitepaper or Prospective paper must meet regulatory requirements. This must be done in order for the relevant regulator, in this case the MFSA, to approve and register the papers and in this way will regulate and ensure compliance with the activity of placing the token/coin on the market.
The applicable legislation, which concerns the regulation of ICOs and STOs differ in Malta, due to the island's token classification system. For instance, the applicable legislation that security tokens are subjected to refers to MIFID, and the EU Prospectus Directive. Those that are pursuing offerings in such forms must include certain components including details regarding the token issuer and their advisory team, Wallet Security, AML and KYC considerations, soft and hard caps, token representation and value, etc. In this way, potential investors will be acutely aware of what they are purchasing, thus protecting both the investors' assets and safeguarding the integrity of the market as a whole.
It is imperative that token issuers issue their tokens from reputable jurisdictions. This is important due to the fact that tokens could be listed on exchanges, in order to be traded. Following a successful offering, issuers could list tokens on exchanges, many of which such as Binance and Okex (who are situated in Malta) will only list tokens which were subject to approval, legal vetting and registration by competent authorities in reputable jurisdictions.
Are STOs the best thing to ever happen to Capital markets?
STOs offer the exact same rights conferred with assets that are bought and sold in the traditional financial markets. The act of tokenizing securities, however, affords benefits which cannot be achieved through traditional financial market channels. Tokenizing securities introduces benefits such as: facilitating global access, bringing liquidity to certain markets, fractional ownership and allows for automatic settlement transactions, thereby eliminating certain third parties and cutting costs.
STOs traded on Blockchains enable investors to partake in trading, without middlemen, such as banks and other financial institutions, as transactions made on a DLT are made Peer to Peer (P2P). Fractional ownership is also facilitated as investors may purchase fractional ownership of assets, like property. You would like to own a villa but you cannot currently afford it? Not to worry; you can purchase and own just a portion of it.
What issues are STOs facing?
In order to ease and complement the process of the tokenization era, a level of sophisticated solutions is required. The necessary infrastructure, however, including the role of custodians, is still maturing and has not yet been developed to the advanced stage required in order to complete the full ecosystem including areas such as the storing of virtual assets and ensuring that the complex high-quality smart contract considerations needed in the realm of securities are defined.
That being said, due to the rapid rate at which different players in the game are developing and evolving, as well as the continuous solutions being released, it is only a matter of time before service providers and software developers break and perfect the code.
Another issue is that of liquidity. It may be said that STOs are currently at the infancy stage. One of the most common assets visualized is equity, in the form of equity tokens. We need to have more primary market platforms in order to aid in raising funds as well as more security token exchange platforms, which allow the trading of such securities, replicating the same process and methods used in the world of traditional capital markets.
The system will be fully functional once there is a sufficient number of tokenized securities and reputable licensed operational primary and secondary market platforms allowing for the STO market to actually take off and boom to its potential level of a borderless barrier to trade and liquid markets.
In conclusion, we have time and time again heard that it is somewhat risky to buy tokens, due to the countless failing ICO projects. I believe, however, that the reason behind these failures is the fact that they were launched from a jurisdiction that was not regulated. If those 90% of failing ICOs had to go through the regulated path (Whitepaper vetting and registration) before launching, the number would be significantly lower. Furthermore, ICOs and STOs are two separate type of tokens which follows two different routes and applicable laws.
Scenario: When it comes to buying shares in a company, in an initial public offering, is there also not the chance that it may turn out to be a bad investment? It is common knowledge that listing an IPO has certain legal projections. That being said, if an ICO/STO is launched from a jurisdiction that is reputable, subject to legal requirements and approval by regulators, in Malta's case the MFSA, investor protection and market integrity will be offered.
It goes without saying that there are other issues and concerns, such as token volatility and market liquidity, however, these issues are also present in the traditional world of finance and capital markets.
The cold, hard truth is that if an IPO, ICO or STO is opted for, with all the aforementioned points kept in mind, it could very well be one of the best decisions you will make.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.