FCA Consultation on Cryptoassets — Response to Q3 (Utility Tokens)
I am currently working through the “FCA consultation on Cryptoassets (CP19/3)”. I will submit a written response on behalf of LexByte in due course, but I thought I’d already put drafts out for discussion as I go along, allowing me to improve them on the way. Enjoy, comment, and please do provide feeback if you want (stefan at lexbyte dot io, or message me on LinkedIn)
Q3: Do you agree with our assessment of utility tokens? If not, please explain why.
I agree with your assessment of utility tokens, and that they should be outside the regulatory perimeter. I however note that your definition of utility token is very narrow. It mostly covers what could be referred to as vouchers in the wider sense, entitling the owner to for example
- receive a certain product or service at one point in the future (which is more or less the same that is covered in crowdfunding regulation)
- certain membership benefits like access to a real world lounge, or to an online casino or other online games, including the ability to make certain proposals with respect to the services offered
- other benefits like the right to buy items at a discounted rate, or before the general public etc
What all those utility tokens have in common is that they are related to a product or service that is provided by the entity that is issuing the tokens. However, in the crypto space a lot of players want to position themselves as platforms intermediating between producers / service providers and consumers, so they are not a service provider / producer themselves. Those companies will find it hard to issue utility tokens of the aforementioned type because this would mean they’d suddenly enter the business as a principal, not an intermediary.
Another important point is that many of the so-called utility tokens that were ICOd made a promise of limited supply, the idea being that this would create scarcity which would eventually drive the prices up. This design feature is fundamentally incompatible with most business models: a company is happy to sell their products and services in an unlimited quantity provided they sell it for more than the cost of production. This means they should price their token sales according to the expected cost, and size it according to the expected volume they can support. The price of the tokens might increase slightly over time, especially in products that are still in the process of being designed and that become more and more certain to be delivered, but it is not a 100x or even a 10x, maybe a 2x if the company is willing to give early customers a sizeable discount.
However, if for any reason companies think they can support higher volumes than expected they should usually issue more tokens if they can do so. Especially if ever tokens were to trade at say 10x the original price (and say this corresponds to 5x the production cost) then of course companies should issue more tokens to shift more products or services, rather than allowing their initial buyers to scalp the profits from a limited supply.
To summarize: the definition and treatment of utility tokens makes a lot of sense, provided that indeed this definition is used and only utility tokens essentially represent a voucher-like claim on future products, services, or membership benefits. Care must be taken to exclude most platform tokens that offer some vague and unspecified benefit from this definition.
Stefan Loesch a managing partner at LexByte, an advisory firm specialising on tokenised investments. He has more than 20 years experience in financial markets, and his previous roles include advisory at J.P. Morgan and McKinsey and quant development at Paribas. He is the author of “A Guide to Financial Regulation for Fintech Executives” (Wiley 2018).
