The Capital
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The Capital

What Is Security Token Offering, Explained!

This newfound panacea has initiated a craze of STO development.

Since the birth of blockchain technology, the investment world is looking to capitalize on this immutable and secure digital ledger. Initial attempts like the ICO (Initial Coin Offering) did function as a technology demonstrator but failed miserably when it came to the territory of compliance, marring the reputation of blockchain-based fundraising methods. However, to the rescue, security tokens were introduced. These security tokens are offered through security token offering, commonly abbreviated STO. STOs have managed to achieve the fine confluence between the versatility of blockchain technology and the values of trust in traditional investment methods like IPOs. This newfound panacea has initiated a craze of STO development. Before we jump into the bandwagon of the many STO development companies that are all set to compete in this lucrative space, let us look at a few basics of what STOs are all about.

Defining STOs

STO, as already stated, is the acronym for security token offering. The presence of the word ‘security’ holds quite a lot of power when it comes to the realm of investments. The very mention of this term brings in the need to comply with the regulatory framework of bodies like the Securities and Exchange Commission (SEC). While the involvement of an organization like the SEC should remove the last of the remaining hesitations on whether or not STOs would be trustworthy, let us go ahead and also define what a security is.

A security is defined as a fungible and negotiable financial instrument that holds tangible monetary value. In short, it means that security is an investment product backed by a real-world asset like a company or a property.

We must digress a bit to talk about the Howey Test. This test is considered as the litmus test for determining whether or not an investment in security. The test mandates that the investment contract for any security should involve:

  1. Investment of money,
  2. In a common enterprise,
  3. with a reasonable expectation of profits,
  4. To be derived from the entrepreneurial and managerial efforts of others.

A security token should satisfy all these conditions to be valid as security.

A token is a representation of ownership, and the definition was held true even in ICOs. However, when it comes to STOs, although the definition remains the same, the security token represents partial ownership of a tangible product with a defined monetary value recorded on a blockchain.

An STO is a process by which security tokens are offered to investors subject to the regulations laid out by regulatory bodies like the SEC. Just like how traditional investments are recorded on documents, ownership of security tokens is recorded on a blockchain and issued as a token.

How is it different from an ICO and IPO?

ICOs offered utility tokens in a way that is quite similar to how STOs offer security tokens. However, the key difference lies in the tokens that were issued.

The utility tokens of the ICO did not entitle the token owners to tangible returns in the company or its profits. The token and its utility remained confined to the product or the project. It simply meant that the token was nothing when taken out of its ecosystem. There were chances that the exchange could list a utility token, but it was left entirely to chance.

Another big disadvantage when it comes to ICOs was that it was completely unregulated. It meant that companies with malicious intentions can circumvent legal frameworks and it also opened up avenues for scamming gullible investors. Since there was no compliance required, launching an ICO was as simple as clicking a few buttons, although it did involve a lot of development effort.

STOs, on the other hand, are strictly governed by the regulations of bodies like the SEC. It does make the process of launching an STO extremely cumbersome and there are only a few STO development companies that possess the expertise to launch a successful STO — there are legal compliances to be established and STOs can only be open to a specific set of investors, either open or accredited, based on the regulation under which it is launched.

The greatest advantage brought about by an STO is that the tokens issued are backed by a tangible asset with a proper monetary value. It could be a company or property or fine art or collectible or some form of investment that is bound to bring returns in the future.

This diversity is what differentiates an STO from an IPO. STO can do everything and IPO — — IPOs issue shares to accredited investors and these shares represent ownership in a company. However, STOs can almost tokenize anything and everything with tangible value. This tokenization also increases liquidity, making STO a better option than IPOs.

IPOs also includes a lot of paperwork and brokerage and investment banking fees to get access to a wider and deeper investor base. With the STOs, the payment is one-time — you will need to pay lawyers and advisors to launch it. However, since it offers direct access, the costs revolving around investment banks and brokerages are eliminated, thanks to the blockchain technology. The entire process of offering is relatively less cumbersome and cheaper than traditional IPOs.

Conclusion

Just like any new revolutionary idea, STOs and blockchain technology have had their fair share of resistance. A lot of companies like China, South Korea, Algeria, Chetna, India, Zimbabwe, Bangladesh, Nepal, Pakistan, Bolivia, and Lebanon have banned STOs and cryptocurrency trading in general. Some countries, however, although not explicitly hours, do not have any regulations on how STOs should be carried out. Thailand would stand as a good example of this condition.

However, as we all have seen, it will only be a matter of time before the entire world embraces the awesomeness of this digital ledger called the blockchain. When STOs become a mainstream Avenue of investment and fundraising, STO development companies will be in much demand. If you would like to start your game early and get the head start advantage, it would be a good idea to get in touch with an STO development company and discuss the possibilities of collaboration in the near future!

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