The Digital Wrapper | Securitize
Derek Edward Schloss (TDW): Jamie, Brian — great to have you both on The Digital Wrapper. For those new to Securitize, let’s start at the very beginning. How did Securitize get started?
Jamie Finn (Securitize): Sure. So a few years ago, Carlos Domingo¹ approached me with this idea of creating a tokenized venture fund called SPiCE VC. At the time, we found there wasn’t any technology yet to tokenize a venture fund. So Carlos went ahead and built his own.
Derek Edward Schloss (TDW): The classic story of entrepreneurship — building a solution to solve his own problem.
Jamie Finn (Securitize): Exactly. And I got involved initially as an investor in SPiCE VC, just because I believed in what Carlos was doing. He and I had worked together previously at Telefonica. That — combined with the giant crypto pump back then — led me down the rabbit hole of wanting to learn everything I could possibly learn about blockchain and crypto. I realized there was going to be a massive opportunity for digital versions of securities. Almost all securities today end up being paper-based, and the process is very manual. In contrast, everything I’ve done in my life has always been digital. In November 2017 we spun out Securitize as a new company.
Derek Edward Schloss: It’s a great origin story. Brian, how’d you get involved with the team?
Brian Farber (Securitize): I joined Securitize earlier this year, back in February. Prior to that I spent a number of years as a securities lawyer in New York at Sullivan & Cromwell. I’ve had an interest in blockchain for a long time, and eventually, I went in-house at ConsenSys² in Brooklyn. After Securitize closed their Series A, it made sense with my background as a securities lawyer to jump in and help build what they were working on.
Derek Edward Schloss: I noticed Securitize recently opened up offices in New York.
Brian Farber: Yes, we’re excited about that. The capital markets are a global industry, and our company is spread out across the globe. But New York and London are the center of the global capital markets, and it made sense for us to have teams in these locations to meet with institutions that were interested in exploring the space — in addition to law firms, auditors, accountants.
Derek Edward Schloss: Can you share a bit about London — and do you have additional expansion plans on the radar?
Brian Farber: Similar to New York, London is a small but growing operation for us. We’ve been more active in the US space so far, but as I mentioned, capital markets are global. The EU and UK are huge markets that we feel are really sort of untapped. There are certainly competitors over there doing great things right now, and we’re looking at building our own infrastructure there too.
Derek Edward Schloss: This idea of Securitize having an increasingly global presence is pretty interesting.
Jamie Finn: We agree. Practically speaking, our customers are global to begin with. Our first customer, SPiCE VC, is based in London. Our follow-on customers have been from all over the world. For us, it’s natural to put sales and service as close to our customers as possible so that we can engage with them directly.
Derek Edward Schloss: What’s been your experience working across multiple jurisdictions so far?
Jamie Finn: We’ve seen other jurisdictions be a bit more amenable to different types of offerings than the US. That’s really been another reason for us to explore it, and really understand it better. As an example, I would probably highlight our work in Thailand with the Thai regulators, Tezos³, and Stephane De Baets from Elevated Returns⁴. Being closer to them, closer to the customer, we’re better at engaging with the regulators and engaging with the overall financial community.
Derek Edward Schloss: As you look out across the jurisdictions you’ve started operating in, have you noticed any trends or countries with an overwhelming amount of growth potential?
Jamie Finn: Fundamentally, the US has the most potential. It’s the largest market for securities. It’s the largest financial market on the planet. And actually, the laws here in the US are really great. They work perfectly for what we need. But we need to continue educating investors about this new kind of product type, so that they feel more comfortable with it. That’s really the gap that we’re seeing right now. It’s not so much a regulatory issue as it is an investor understanding problem.
Derek Edward Schloss: What are some of the projects you’re working on right now?
Jamie Finn: We’ve been very focused on delivering. Every time we make an announcement, it’s really important that whatever we’re announcing is actually functioning and real. For example, we just released the third version of our platform which brings a bunch of really amazing functionality to our customers. Issuers will have the ability to issue dividends not only in crypto, but also in US dollars. We have new tax reporting features — if you’re an issuer, this is actually super exciting. Maybe that’s a bit less exciting for investors.
Derek Edward Schloss: Are there new investor-facing features in the new platform updates?
Jamie Finn: Definitely. On the investor side, we have an upgraded dashboard with a bunch of new security features. We’ve also integrated new wallets — we’ve done an integration with BitGo on the custody side, which makes it really easy to just put your digital securities into an account so you don’t have to worry and futz with a wallet of any sort, which is fantastic.
Derek Edward Schloss: Let’s talk secondary trading — there’s been some partnership coverage between you and tZERO⁵ over the last few months.
Jamie Finn: We’ve been hard at work with tZERO over the last six months, and we’ve actually just completed our integration with them. Moving forward, our customers will be able to list their securities on tZERO, which is probably the best known marketplace in the US. We’ve already been working closely with OpenFinance and SharesPost, so bringing tZERO into the fold is really bringing together all of the US-based trading platforms. We’re really excited about that. As a piece to this, we’ve also recently announced that we’ve open sourced our DS Protocol interface — that’s now on GitHub⁶. We’ve already had our first submission of an application that’s going to use these interfaces, which is fantastic from an ecosystem standpoint.
Derek Edward Schloss: Congratulations, that is pretty exciting. You mentioned DS Protocol in there, Securitize’s compliance protocol for digital securities — this is probably a great transition into Brian’s day to day work. Brian, can you share how your team thinks about lifecycle compliance, in light of these Securitize-issued security tokens starting to hit secondary markets?
Brian Farber: When I think about this space right now, the two most important things are compliance and liquidity⁷. Most of the existing digital securities are private securities which have very strict compliance rules, transfer restrictions, that have been well entrenched with US securities laws for decades. With that, you have liquidity potential in this securities market that’s unprecedented. This comes with a compliance responsibility for ensuring that securities that once were paper-based and slow-moving are still in compliance now that they’re moving faster. I think it’s really important for us and other players in the space, whether they be broker-dealers⁸ or exchanges, to act as gatekeepers. I think the SEC and other regulators will want to see that because it’s what they’re accustomed to in the traditional securities markets. So to the extent that we, and other actors in the space, can enforce compliance within the existing framework, then I think that is a huge value for the industry.
Derek Edward Schloss: For those unfamiliar, can you expand on the liquidity piece here? It’s one of the more stated benefits of tokenization, especially as it relates to our private markets.
Brian Farber: A security is like any other asset — it’s worth what someone will pay for it. It may be technically true that the market price of your security has appreciated 4x in value since you’ve owned it, but if no one’s going to buy it, then you’re never going to get out from that investment. Today, we’ve seen people who issued digital securities and invest in digital securities receive an increase in value on their investment, but there’s still a difficulty at times to get out of that investment. We think that will change, and you may even see private digital securities approach the same liquidity levels of traditional public securities on NYSE and Nasdaq. In addition, most of the digital securities that are out there right now are fairly straightforward. As the industry develops and issuers launch more complex instruments, I think it will start to get very interesting.
Derek Edward Schloss: Jamie, I’m interested in hearing more about working alongside new issuers. If an issuer is considering a security token, what are some of the services Securitize provides at the very start?
Jamie Finn: First and foremost, Securitize is a technical service provider — we’re there to support you on the technology side. We start by helping investors get onboarded through KYC/AML and accreditation, on a country by country basis. Once that’s happened, investors can sign a subscription agreement and fund their investment — Securitize provides all the technology to enable this. It’s important to note, however, that we’re not a money transmitter — we would have a custodian or an escrow agent involved in that process.
Derek Edward Schloss: What are Securitize’s next steps once investors have been properly onboarded into the investment?
Jamie Finn: Once onboarding is complete, our team writes the smart contract, which will digitally represent the security on Ethereum, Tezos, or other additional blockchains. We’ll create that digital security and give the issuer the key so they can distribute the securities to their investors, based on the executed subscription agreement and amount invested.
Derek Edward Schloss: Got it. Then Securitize will provide services that focus on lifecycle management of the tokens?
Jamie Finn: Right. Once the security token has been created, we’ll provide the ongoing compliance software that keeps track of who owns which digital securities, when those digital securities can be transferred, how those digital securities can be transferred, and all the variations of order sizes and rules that might occur. In summary, Securitize will create the investment platform, onboard the investors, create the actual digital security, and then make sure that the security can be traded in a way that’s liquid and easy for anyone to use. It’s also important to note that Securitize is there to provide ongoing support. If you have changes, or if the laws change and you need to upgrade your smart contracts, Securitize will be there as your service provider to manage those upgrades and make sure that you can stay compliant with the relevant laws.
Derek Edward Schloss: You mentioned Ethereum, a blockchain where many of the early security tokens are being issued — but you also mentioned Tezos, and potentially other blockchains. If I’m an issuer, why might I pick one chain over another for my security token?
Jamie Finn: That’s a great question. For issuers, I think it’s important to understand the full ecosystem around the blockchain you’re going to use. Today, Ethereum is probably the most well developed blockchain and has a great ecosystem of custodians that can hold these securities. There are marketplaces where you can trade them. Ethereum also has some drawbacks, and other issuers are looking at a different set of tradeoffs. Tezos is just one example of a blockchain we’ve been working on recently. There’s actually a full blown exchange in Thailand where Tezos security tokens will trade.
Derek Edward Schloss: Today, what advice would you give an issuer who is looking closely at both Ethereum and Tezos?
Jamie Finn: If you’re anywhere in the US, you’ll probably want to use Ethereum. Otherwise, it’s possible that Tezos could be a really great option for you. We’ll see if additional marketplaces start to adopt Tezos and be more broadly supported across different markets. Again, it’s all about the ecosystem and making sure the pieces are there for the investors and for the issuer — making sure that whole ecosystem works together.
Derek Edward Schloss: Transitioning a bit — what are some of the ways Securitize adds value on the investor side today? Do you see that changing as more security tokens hit the market?
Jamie Finn: With any deal we work on, investors will always have questions — some of the questions are technical, others are more about the investment product. If an investor goes to the issuer with a technical problem, we’ll help the issuer solve those problems for the investor. In addition, if there are items that come up like legitimate disputes — for example, divorce, death, a lost wallet, things of that nature — we’ll provide the technical support to be able to burn the securities, reissue them to their new wallet, and solve those legal issues that arise.
Derek Edward Schloss: Before we end — Securitize made some pretty big waves this month. You recently registered as a transfer agent with the SEC, which now allows Securitize to act as the official record keeper for changes in securities ownership. Brian, can you provide some background on the role that transfer agents typically play in our securities markets?
Brian Farber: Transfer agents usually act as the intermediary between an issuer of securities and shareholders of securities. They’re an agent of the issuer, but they serve multiple roles. Primarily, they keep what is known as a master security holder file for the issuer, or a cap table, which shows the issuer who holds its securities. This allows the issuer to conduct corporate actions through the transfer agent.
Derek Edward Schloss: Can you walk through an example of a corporate action that might involve a transfer agent?
Brian Farber: If an issuer is paying a dividend or an interest payment — they can work with the transfer agent. The transfer agent can act as a paying agent and flow the payments, which could be dividends or interest, for example, through the transfer agent to the holders, since the transfer agent keeps all the info on who those holders are. They make it so the transaction is pretty easy. They can also work as a voting or tabulation agent to tabulate votes for a shareholder vote, or work with issuers to conduct redemptions or tender offers of securities. They can also work with investors to help mitigate issues that come up.
Derek Edward Schloss: What sort of issues tend to arise on the investor side that transfer agents can help with?
Brian Farber: Let’s say you lose access to the wallet in which you have your digital securities. We have procedures in place where holders can come to us and the issuer, prove to us that they are who they say they are and that they actually owned the existing wallet, and then we’re able to burn those inaccessible tokens and reissue them to a new wallet of that holder’s choosing so there’s no change in the overall float of securities. We can also help issuers with stolen securities. As the transfer agent, we try to act as a gatekeeper for the securities and the information and the records relating to the securities.
Derek Edward Schloss: Why do you think integrating the role of the transfer agent with the Securitize protocol and platform is so important? What does vertically integrating this regulatory feature set change for your clients?
Brian Farber: As an SEC-registered transfer agent, we have to maintain accurate real time and historical information such that if the issuer or regulator requests it — we can produce it for them. If they want to pay a dividend on a certain record date, we can produce the entire cap table at that point in time, with all their wallet addresses, email addresses, and other contact information. And all of this is tied to the blockchain, which to my knowledge, no other registered transfer agents can do at this point. In terms of paying dividends — we have capabilities to do all of this on chain and off chain — across the country and internationally. Transfer agents are part of the plumbing of the capital markets. It’s the kind of stuff in the background of our capital markets that makes it run, and we’re trying to make it more efficient and less painful for issuers and investors than they experience with legacy transfer agents.
Derek Edward Schloss: That’s really helpful — what has the process been like educating the SEC on both security tokens and what the team is building at Securitize?
Brian Farber: Our interactions with the SEC have been highly positive — and that’s consistent with the feedback of a lot of broker-dealers and ATSs⁹ we know in the space that have worked with the SEC as well, that interactions are highly positive. The SEC seems to genuinely want to learn about blockchain and they are certainly doing that, but they also want to ensure that entities using blockchain in the capital markets are doing all that can be done to protect investors, particularly in these private markets. Understandably, they do want to see more regulated actors adhering to existing rules, rather than trying to modify existing rules because of advent of the blockchain. Our goal right now is to ensure compliance with all of the rules that are applicable to transfer agents — and we think the blockchain is a great supplemental record for that. We hope to continue to advocate for the usage of blockchain technology in the transfer agent realm with the SEC in the future.
Derek Edward Schloss: That’s great. Jamie, can you close us out? What’s your vision for the security token industry over the rest of this year?
Jamie Finn: We’re starting to see the early innings of all securities becoming digital. That’s really our long-term vision. We think digital securities are fundamentally better than paper, and while we continue to push the message out, we’ve started to delivering better products for investors and issuers. We’re starting to see the early signs of liquidity appear in the market. That’s what we’re most excited about in 2019 — the legitimate start to this industry.
Derek Edward Schloss: Jamie, Brian — on behalf of The Digital Wrapper, thanks for your time.
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Footnotes
¹ Carlos Domingo is the CEO / Co-Founder of Securitize.
² ConsenSys is a software foundry to develop software services and applications that operate on the Ethereum blockchain.
³ Tezos is a blockchain project that aims to offer “the world’s first selfamending cryptocurrency”. Tezos’ modular architecture and formal upgrade mechanism allow the network to propose and adopt new technological innovations smoothly as they emerge. Its native smart contract language, Michelson, facilitates formal verification, a methodology commonly used in mission-critical environments such as the aerospace, nuclear, and semiconductor industries.
⁴ Elevated Returns is the company behind the first tokenized real estate offering — Aspencoin. In 2019, Elevated Returns and Securitize announced a partnership to tokenize $1 billion of real estate assets on the Tezos blockchain.
⁵ tZERO is a blockchain-based capital markets platform, enabling secondary liquidity for cryptoassets and security tokens.
⁶ Github is a subsidiary of Microsoft that provides hosting for software development version control using Git, a distributed version-control system for tracking changes in source code during software development.
⁷ Liquidity is the ability to find someone on the other side of the market, at a reasonable price, for the size that you’re looking for. It’s both the size of the “bid-ask” spread, which is the difference between what people are willing to sell and buy for, and also how deep those markets are.
⁸ Broker-Dealers are organizations engaged in the business of trading securities, for its own account or on behalf of its customers. When executing trade orders on behalf of a customer, the organization is said to be acting as a broker. When executing trades for its own account, the organization is said to be acting as a dealer.
⁹ ATS is a non-exchange trading venue that matches buyers and sellers to find counterparties for transactions. Alternative trading systems are typically regulated as broker-dealers rather than as exchanges, and must be approved by the SEC.
Legal Disclaimer
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