Digital Securities Market Research 2019 by TeqAtlas (prev. Kepler Finance)
Tags: Security Token, Research, Blockchain, Investing, Tokenized Securities

The Digital Securities Offering is a brand new fundraising format, and companies are faced with various challenges — so we asked issuers why have they decided to raise funds this way:

One of the main factors of using STO is the costs of execution and getting all the pieces together. IPOs require a lot of resources (time and money), there are tons of paperwork and it is not suitable for start-up like companies. Because of a programmable token’s nature, we can implement different features which makes tokens more robust. Smart contracts can help us deal with recurring things like automatic dividend payments. We can bake in KYC checks so tokens can only be sent to known persons. Also, smart contracts allow us to eliminate the middleman, cutting the administrative costs even further. Security tokens will be tradable 24/7, with almost instant settlement. Security and transparency of blockchain and ability to audit the system anytime. This will increase trust and credibility, and we believe that these features make companies more compliant. […] Blockchain definitely proved that it is useful for collecting and managing capital. Andris Merkulovs

CEO at Monetizr It is more cost efficient to do an STO rather than IPO. You can reach a broader network, STO is a global product. Digital ledger for investors to track their investment. It’s easier to sell fractional ownership through STO. Jason Kirschenbaum

Managing Director at Elevated Returns & Aspen Digital Inc. Aspen Digital Inc.

According to Chris Eberle of Swarm, before commencing the process of capturing and tokenizing an asset on the blockchain, a potential token issuer must consider the following important issues:

Asset Type: The type of asset being tokenized can affect how the token will be structured.

Jurisdiction: The token issuer’s place of incorporation, the location of the targeted investors, the physical location of the underlying asset, and any restrictions related to the location where transactions are processed.

Legal Entity: Determine the ideal corporate structure and legal residence for the legal entity (LLC, SPV, partnership, etc.), which acts as the interface between token holders and the underlying asset.

Regulatory Compliance: In each jurisdiction, offering a security as an investment is regulated by laws that govern who can participate in the offering, the requirement to ensure the legitimacy of the source of their funds and the level of accreditation or investor sophistication they need to demonstrate. […]

Funding: Will the purchase of tokens (and the allocation of capital) be restricted to cryptocurrencies or will it also accept fiat currencies, and how is this funding going to be raised.

Marketing: It is crucial to promote any fundraising activities to the appropriate target audiences in the relevant markets. A well-planned, strategic campaign is essential to successful fundraising.

Custodianship: For larger and institutional investors, it is important, for security and compliance requirements, to ensure that allocated capital is stored securely.

Secondary Trading: As with token issuance, secondary trading of security tokens is strictly regulated in most jurisdictions. It is important to have a secure trading functionality with exchanges that understand and can ensure regulatory compliance.

Post-Allocation Considerations: Investor Communication and Community Management, Dividend Payouts, Reporting and Updating NAV, Auditing, Tax, Governance Chris Eberle

Chief Operating Officer at Swarm

We asked the companies that were among of the first to launch STOs how they promoted their offerings:

We create buzz through content marketing channels. As digital securities is a fairly new term, a, lot of the effort goes into explaining what it is. We use our own channels, like blog and social media as well as media interviews and speaking engagements in relevant industry events. We are targeting not only cryptocurrency communities, but also the gaming industry, to gain base for our community. Because gamers are already familiar with virtual money, there is a lower learning curve and it is easier to grab their attention. Andris Merkulovs

CEO at Monetizr We created buzz around our offering through paying Indiegogo as our marketing agent as well as other media outlets. Jason Kirschenbaum

Managing Director at Elevated Returns & Aspen Digital Inc.

Luc Falempin of Tokeny also shared his advice for the companies that plan to issue their tokens on platforms:

Issuers should have a well structured and thoughtful offer to appeal to investors. Firstly, it’s important that they join the right ecosystem of technical and business securities providers. Secondly, for issuers to connect and appeal to their audience, we recommend employing a customer-centric marketing approach. By understanding the value for the different types of investor personas, their characteristics, the channels they operate in — issuers can be sure their marketing campaigns will be highly relevant and effective. Luc Falempin

CEO at Tokeny

Barriers to Enter the Market

The overall industry overview looks inspiring and promising, but the companies that are willing to enter the market are faced with a variety of challenges. Here is what key market participants are pointing out.

First of all, there is a knowledge learning curve with security tokens that you need to overcome. This applies not only to the team itself, but also to investors. There are some investors that will not feel comfortable in an unknown environment, so you need to pay attention and be ready to educate them. The second major drawback is uncertainty. This applies to multiple mediums. If we look on this from a legal point of view, all the frameworks and regulations are still being prepared. Although it’s a new asset class, it is still operating by old laws, which may create some collisions. We see that this will be a long process for all entities to come to a common conclusion, but it will be worth it. Uncertainty is also on the infrastructure side of this. Although we are reading about security token exchanges being founded and laws finalised, the whole ecosystem is nowhere near ready to fully function. We are in the early stage where everyone is still laying out foundations for the whole of this to work. So lot of things can go wrong. Andris Merkulovs

CEO at Monetizr The main barrier to creating and issuing a security token we are seeing today is fundraising and legal work. With Polymath, you can easily create a security token in 10 minutes so the tech has been figured out, but what still takes a large amount of time is a company’s fundraising and legal work. Graeme Moore

Evangelist at Polymath Many jurisdictions outside the United States lack the legal and regulatory framework to enable security token offerings, although recent actions by countries intend to change that. In the United States, as security token offerings are by definition securities, STOs must follow the same rules as traditional securities offerings and are regulated by the Securities and Exchange Commission (SEC). Leaving legal and regulatory aside, the barriers to entry are:

● High transaction costs for an emerging fundraising method that are expected to drop as legal, tokenization, and other technology costs drop with more service providers.

● More investor awareness, knowledge, and acceptance of STOs, especially where in many instances, the investors are required to be accredited investors. Jor Law

Co-Founder at VerifyInvestor.com The main barrier is no longer technical, as many firms are making that easy for companies raising capital via STO’s, it’s education. Issuers and investors have to become comfortable with issuing tokens instead of stock certificate. It will take time, but it’s where things are heading. Scott Purcell

CEO and Chief Trust Officer at Prime Trust The barriers are significant, and range from blanket bans on tokenized offerings in certain countries, to uncertain regulatory classification in others. Despite the uncertainty that existed in 2017 around ICOs, the United States has actually emerged as one of the most welcoming markets for tokenized securities. The SEC hinted throughout 2017 that most tokenized offerings were securities, which motivated wise participants to explore registration exemptions early on in the ICO boom. This led to the BCAP and Science token sales which provided the blueprint for future compliant offerings. Overall, there is still a lack of institutional infrastructure to allow large money-managers to commit significant capital to the asset class. The recent opening of Open Finance Network’s trading system to the general public, NASDAQ’s commitment to build a security token exchange, and Fidelity’s efforts to create institutional-quality custodial services should begin to remedy these shortcomings. Henry K. Elder

Co-founder at Digital Asset Advisors For issuers, I don’t think that there are any barriers to entering the market that didn’t exist before. In fact, the barriers may be lower; we intend for them to be lower in that the ability to use the technology will help reduce costs and truly streamline the process of capital formation. It’s so much easier for issuers to do it; it’s so much easier for their financial advisors, broker-dealers, or other authorized persons to use the technology to raise the capital, that now, unlike in the past, where if you want to raise 10–30 million dollars, you really needed to work through an investment bank and the fees would be high. Now, the ease, and the efficiency of the technology really should reduce the fees and make it easier to bring these types of smaller offerings to the market. Patrick Campos

Chief Strategy Officer at Securrency For token issuers, the biggest barrier is actually having an asset worth tokenizing. Then up-front cost of sound legal/financial counsel. Then real investment in marketing. For service providers in the space, token issuance platforms and the like, the actual barriers to entry are low. It’s the barriers to scale that are quite high at this point. Creating a token is easy. Creating it in an ecosystem where it can be safely held, compliantly traded, with real liquidity is something the industry does not yet have the infrastructure for. We believe that only open infrastructure (vs. walled garden solutions from centralized for-profit companies) can meet this need. Chris Eberle

Chief Operating Officer at Swarm Education. Tokenized securities were born out of the crypto market and so our challenge is to educate people that compliant tokenized securities are are not only regulation-compliant, even better, they are regulation-enforcing, meaning that they don’t only meet requirements of existing regulation, but also automatically block any wrong transaction in code.

The first key barrier to enter the tokenized securities market is the deployment of regulated exchanges and trading platforms. There are dozens of such initiatives all over the world, but completing the regulatory process takes about a year, and the security tokens industry is still not a year old. I see this barrier broken in Q1/Q2 of 2019.

The next barrier will be to improve regulations — we can work with existing regulations but they were not designed for digital trade and so regulators can easily improve the landscape for the industry.

And the third barrier is scalability of the platforms, which I know is being addressed by multiple tech companies and will be available when the market reach scale. Ami Ben-David

Co-founder & Managing Partner, SPiCE Venture Capital

Legal Perspective

Digitizing securities and using smart contracts enable the automatic enforcement of the applicable financial markets’ rules and regulations. The idea that these rules can be coded for either local or global markets is an extremely powerful concept. The blockchain permits this to happen for the first time ever. But the next stage will bring its own challenges. It will take time, but it’s where things are heading. Setting out what achievements were attained in terms of legal milestones throughout the entire 2018, we hope helps to show the way to what’s next.