Enterprise Tokenization Guide 2021
How to prepare for tokenizing assets — enterprise edition
“Tokenization” is the process of converting tangible and intangible assets into tokens on a blockchain. The modern economy is impossible to imagine without its digital components: virtual objects, e-commerce, digital assets, online payments, marketplaces. Tokenization offers new forms to these values and facilitates frictionless, flexible, fast exchange between businesses and their customers.
“Tokens” are a digital asset or an independent valuable object (as perceived by some community that uses it). Physically, the token exists as an entry in a distributed registry, shared and mutually verified among many nodes (software installed by participants).
We can understand a “token” entity as a digital passport created for an asset (originally physical or digital), a unique code, that may represent ownership, rights or obligations associated with it. When it is transmitted over the Internet, that may trigger or represent actions, such as change in ownership, payment, a new legal status, and etc.
Asset tokenization is often considered by companies in order to attain the following advantages:
· Improved fundraising and greater liquidity. Tokenization possesses the capability to fragment a specific asset into unlimitedly miniscule portions that can be sold / transferred in tokenized form. Coupled with numerous secondary markets, reduced regulatory barriers, and cost-effective financial processing, tokenization offers assets far greater liquidity.
· Cost-effective processing. Transacting tokens through blockchains eliminate most financial intermediaries and can lower transaction costs up to 70%+. Exchange between money and possible services / products is simplified. This advantage is magnified in proportion to the complexity of financial operations conducted.
· Ecosystem mechanics. Tokenization can be the cohesive mechanism uniting several enterprises with common B2C customers into a unified economy. These economies can have flexible permissions for joining, not relying on 1:1 agreements and IT integrations. Cross-selling rises exponentially and every participant creates non-core product value.
· Increase spending. Customers spend tokens far more readily than fiat funds. Moreover, tokens can be made inflation-proof, whereas the price in tokens is stabilized, while the model for token accumulation (and token unit price) absorb inflationary impacts.
PREREQUISITES
If your company wants to tokenize its assets, then a certain number of steps must be taken to prepare for tokenization:
· ASSET: specifying what to tokenize. The asset type affects the legal structure, the type of token, and the selection of platform.
Once the asset is decided, you can look into the smart contract standards (read: templates) for emitting tokens with specific properties appropriate to that asset class. Ethereum, the largest decentralized network for tokenization, has many standards, such as: ERC-20 for utility tokens; ERC-1400 for security tokens; ERC-721 for non-fungible assets; and more. Alternatively, you can look into blockchain networks that will custom build the standard for your specific needs (ex. DGT Network).
· DISTRIBUTION: which platform to use. There are several large platforms / blockchains that enable tokenization. They vary from Ethereum, with a large underlying buyer market, but expensive emission, expensive transactions, and template-focused solutions — to companies like DGT Network, which operate smaller blockchains, but make custom emissions with better and more effective token properties. When selecting a platform, keep in mind of the additional features you may need, such as a white-label wallet application.
· ECONOMICS: a model for your token. Token emissions are most often highly decentralized. The rules governing the size of emission, token distribution, prices, and other factors are thus mostly pre-set before the emission happens and cannot be altered by a centralized entity later in response to unexpected inflation, deflation, or other problem. A robust, solid, theory-based economic token model embedded into the emission will help avoid economic risk down the road.
· LEGAL: regulation and compliance. Even though tokenization is legally simpler than many methods of selling assets (in case of security tokens), depending on your jurisdiction and underlying asset type, you may be subject to the following regulations (included, but not limited to): AML (anti-money laundering), banking licenses, accredited investor clauses, KYC checks (know-your-customer), tax and accounting rules, filing rules, audit rules.
· TECHNOLOGY: the underlying blockchain. All tokens are emitted and transacted on underlying blockchain of DLT (decentralized ledger technology) networks. Make sure you select a network that fits your needs in regards to permissions, scalability, security, and cost of transactions.
TOKEN ECONOMICS: FOOD FOR THOUGHT
The token economic model is an important step to facilitating effective asset tokenization. Depending on the assets you are tokenizing, some aspects to consider include:
· Token supply. What is the value of the asset/s you want to tokenize? How many tokens do you want to emit to represent that value (accounting for inflation)? Will there be a permanent limit to the number of tokens (hard cap)? Will there be rules to reduce the number of outstanding tokens to stimulate price (burning)?
· Token use. How often will the tokens be transacted vs. held by owners (monetary velocity)? If there is an initial distribution of tokens with the purpose of motivating specific participants, are there holding rules before they can sell these tokens (freezing)? Do you need the token to welcome volatility (investments) or be stable (spending)?
· Token distribution. How will the token be emitted? If it is emitted from a centralized authority, will the emission take place once, or multiple times based on timing / payment / certain conditions? If tokens are emitted in a decentralized way (ex. like Bitcoin), will that occur through mining, minting, or what mechanism (*this affects platform selection)?
· Purchasing. Is there a certain marketplace where you want to sell the token (*this affects platform selection)? Do you want the token to be sold for cryptocurrency or also fiat currency? Does the sale have to be limited to a certain pool of participants or region? Does it legally have to exclude certain participants or regions?
· Fungibility. Do the tokens have to be unique? Fungible tokens are not unique and are like dollar coins. Non-fungible tokens are unique are like pieces of art, collectable stamps, or representations of exact documents / properties.
· Transactions. Will there be many microtransactions (implying greater token granularity and platform selection with low fees)? Or are the transactions large and infrequent?
· KYC / AML mechanisms. Are there steps you have to take for your token emission to be compliant with existing financial authorities? These may include KYC checks, licenses, filings, disclaimers, or other requirements. Often, the platform selected will offer integrated KYC services.
· Determine associated rights and restrictions. Especially key, if the underlying asset conveys ownership (ex. dividends or governance).
Other things to consider may be the risks unique to each digital asset, the rate of change for your economy and market conditions, your risk appetite, tax considerations, platform governance. Despite the many moving parts, tokenization has already become a big part of the economy and there are many companies that can help you in this process, including legal, accounting, and tech firms.
NFT USE CASE
Non-fungible (unique) tokens can represent almost any type of real or intangible object, including: artworks, virtual items in games, music, collectables like game cards, real estate, cars, virtual real estate, videos of cult sports moments and more.
To create a system that can operate with NFTs, you need to have three components: a blockchain network, a wallet, and a marketplace (store).
1. SELECTING A BLOCKCHAIN NETWORK
Modern blockchains allow for a simple creation of your own token representing a digital asset or a collection — all in just a few steps.
The user must select the network on which to emit their NFT. Ethereum is currently the leading service in terms of market share. However, there are a number of other blockchains growing in popularity, including: Binance Smart Chain, Flow by Dapper Labs, TRON, EOS, Polkadot, Tezos, Cosmos, DGT Network, WAX.
Each blockchain has its own distinct NFT token standard, interoperable wallet services and marketplaces. For example, if a user creates an NFT on top of the Binance Smart Chain, they will only be able to sell them on platforms that support Binance Smart Chain assets and not on VIV3 — a Flow-based marketplace, or OpenSea — an Ethereum-based marketplace.
Several networks, like DGT, are the exception — with a “mirroring” mechanism that allows you to mirror your NFT token on any major blockchain, provided it is format-compatible.
2. SELECTING A WALLET
Each network has its own wallets for operations with tokens. The token holder must download the wallet mobile app or enter one through their desktop browser. The wallet facilitates user identification, but not the creation of NFTs. There should be functions of receiving money / tokens in exchange for NFTs, selling NFTs, and facilitating other transactions.
It is important to understand what token standards the wallet supports. An ERC-721 standard would impose different limits than any standard on the Binance Smart Chain. Another thing to consider is how the wallet is connected to / processes fiat funds.
3. SELECTING A MARKETPLACE
The user should be able to connect to the marketplace (store), where he can connect his wallet and upload the selected image or file that he intends to turn into NFT.
The marketplace is a place where a user uploads their digital assets, creates collections, converts them to NFTs, sets prices, and lists them for sale.
Marketplaces are also network-based. That is, some ecosystems are being created: network + wallet + marketplace. The boundaries of these ecosystems are delineated by the token standard. The main trading platforms for Ethereum NFTs include: OpenSea, Rarible, Mintable.
Marketplaces have some advanced functionality, for example, allowing creators to sew some additional information inside their creations, which will only be available to the buyer.
COMMODITY TOKEN USE CASE
Institutional-grade tokenization can bring unprecedented efficiency, security, and trust to holding and trading physical commodities and commodity derivatives.
Some projects have cut post-trade processing costs up to 40% across operations, accounting, settlements and IT through elimination of inefficiencies. Wholesale peer-to-peer trading applies tokenization to enable large-scale trading. Ease of regulatory validation through automatic rule-based network transactions can significantly simplify operations.
Some aspects to consider when selecting a platform to tokenize commodities:
· Real economic models supporting the emitted tokens;
· Fungibility and trade-ability against traditional commodity financial products to ensure demand;
· Stability mechanisms hedging against market volatility through advanced token structures;
· Platform governance that avoids the rich-get-richer problems of POS (proof-of-stake) systems and the inefficient 80%+ total energy burns of POW (proof-of-work) networks; consider BFT (byzantine-fault-tolerance) or CFT (crash fault tolerance) consensuses with systems rewarding processing nodes for stability (ex. SLA-based minting);
· Scalability both technologically and economically to enable transactions between a large number of participants;
· Real-time auditability verified through the network, with possible notary nodes (such as those on DGT Network) that validate underlying assets;
· Flexible fee structures including no-fee models for transfer, transaction, storage, or management fees.
It is important that the platform is absolutely secure against attack vectors, including Sybil and byzantine attacks inherent to some blockchain platforms.
ROLE OF TOKENIZATION IN THE ECONOMY
Tokenization is unique in its versatility and effectiveness when it comes to transferring value. It is not just a trend; it is the future.
Markets and Markets predict a 19.5% CAGR for global tokenization from 2020–2025, whereas the market will be worth 4.8 billion USD by 2025.
By tokenization technique, the API based segment is growing at the highest rate. Tokenization API helps customers reduce the risk of storing critical information on local servers. Customers request new payments with the help of POST / order services of Gateway API.
By segment, large enterprises hold a larger market size. Large organizations are adopting tokenization solutions due to increasing fraudulent activities, as well as high costs and risks of processing transactions. They are the early adopters. However, SMEs are set to grow at the highest CAGR during the period. Despite early adoption being driven by enterprises. SMEs are set to grow faster with greater accessibility of solutions.
By region, APAC (Asia Pacific) is set to grow at the highest CAGR. APAC economies are witnessing high growth in payment innovation, specifically in eCommerce. Asian consumers drive significant demand for secure digital infrastructure.
According to Forbes, the market capitalization for NFTs / Collectibles has reached $432 M. as of March 2021. That’s 285% growth from the average three-month period in 2020, which itself showed 189% growth from 2019.
Meanwhile, according to Arcane Research, the total market capitalization of gold-backed tokens has grown 30-fold since the start of 2020. Perth Mint Gold Token, Asia Broadband, and several other large players have entered this market.
CONCLUSION
Todays rapidly accelerating digital world is placing unprecedented pressure on companies to reduce costs and optimize business. Businesses seek digital solutions to create new non-core revenue streams and optimize existing legacy systems. The emerging technology that has shown great promise is tokenization, a true value chain disruption for storing, issuing, selling, and sharing assets. Tokenization allows for far more flexible value offerings, robust partnerships, non-core revenues, as well as radical cut downs of costs and risks.
This comes with a caveat. While some digital solutions can simply be adopted by businesses overnight, others require a deeper understanding of the underlying technology itself and its legal and financial implications. The lack of knowledge and understanding about tokens is the core restraint to this rapidly growing market.
This guide was prepared by Alexander Khvatov from the DGT Network Inc., a leader in asset tokenization. To see how we can help you make this journey simple and effective, or to simply learn more, do not hesitate to contact me for a free consultation at info@dgt.world.
