STOs — Just Another Fad, or Here to Stay?
By Andrew Wong on ALTCOIN MAGAZINE
The Security Token Offering, or “STO”, is a term which is currently soaring in interest across both the financial and blockchain worlds.
But what is exactly does it mean, and why has it suddenly become relevant?
Before we go into detail about STOs, it’s important that we take a step back at look at recent history, in particular to understand the ICO craze of 2017–2018.
The life and death of the ICO
Before the STO term was even coined, we had the Initial Coin Offering, or “ICO”.
ICOs took the world by storm over the last couple years, in what seemed like a very groundbreaking movement.
Using blockchain platforms, companies could rapidly raise capital in the form of cryptocurrency, in exchange for tokens relating to their project. These could be as simple as utility tokens for the project being built (think “store credit”), or more complex tokens representing the ownership of project assets or a share in profits.
For the first time, small companies could completely work around the traditional venture capital system and receive funding from all over the world. ICOs were quick, efficient, transparent, and best of all — they were popular.
According to icodata.io, over USD$15 Billion in funds have been raised by ICOs over the last two years. Many of these permitted almost anybody, anywhere around the globe, to participate in token sales.
Now, although there were many positives that came with this new fundraising method, it definitely wasn’t without its downsides.
The low barriers to entry and lack of regulation meant that the space was extremely prone to scammers, money laundering, and more.
Tokens were hard to value, and projects were difficult to trust. Doubt surrounded even the most legitimate projects, especially when people realized that many of their tokens were likely to be classed as unregistered securities, which are, well…illegal.
As you could imagine, this didn’t sit well with the U.S. Securities and Exchange Commission, whose key purpose is to protect investors from these very things.
With billions of dollars going into these unregistered securities, many of them US-based or US-focused, it was inevitable that the SEC would step in eventually.
Are all ICOs securities?
So, we know that the SEC regulates securities. But do all ICO tokens fall under this umbrella?
Lucky for us, there’s a simple way to classify whether a token is a security or not: The Howey Test.
Using the Howey Test, a transaction is an investment contract (considered a security) if it fits any single one of the following criteria:
1. It’s an investment of money
2. There’s an expectation of profits from the investment
3. The investment of money is in a common enterprise
4. Any profit comes from the efforts of a promoter or third party.
It looks like it would be extremely difficult for almost any ICO which was conducted within the last couple years would escape being classed as a security, if it only needs to satisfy one of these points.
In fact the chairman of the SEC himself, Jay Clayton, has been quoted as saying “I believe every ICO I’ve seen is a security.”
Enter the Security Token Offering
So, does this spell the end of ICOs?
Well, not exactly.
A regulated version ICOs are emerging, combining the best of both worlds — the power of blockchain, and the confidence instilled by SEC oversight.
And THIS, is what a Security Token Offering, or “STO” is.
STOs intend to be registered companies which will be regulated and compliant, and can legally share profits or other benefits with token holders.
This will eliminate a whole variety of negatives from the wild west of ICOs, as well as bring in many new positives.
One positive effect this will have immediately, is allow larger investors to enter into token sales. Being previously unable — or simply hesitant — to participate in ICOs, these larger investors can now confidently invest into STOs due to a couple of reasons:
1. The value of a project or token and its returns can be calculated much more easily. Now that profit and revenue sharing is legally possible, tokens will be able to be valued more like traditional shares, rather than relying on the guesswork which can be involved with utility tokens.
2. They are registered companies, with regulated token offerings. This removes a massive amount of uncertainty regarding the outright legitimacy of projects and investment risk.
The resulting environment will be a much more trustworthy one, where investors can finally focus completely on company capability and performance.
Migration of traditional securities to the blockchain
It’s easy to see that STOs will bring the benefits of regulation to the ICO-dominated token space. Even more major, however, will be the way that it transforms the existing security market.
The benefits of blockchain technology are too major to ignore, and could completely revolutionize the way we deal with traditional securities.
Stock ownership records, to this day, have been largely paperwork-based. By design, they are usually physically-stamped pieces of paper, with new copies being produced whenever the shares change hands.
We still rely on centralized excel spreadsheets and hand-written or electronic ledgers to keep track of who owns what.
Of course, this is all accompanied by its share of problems, mostly due to human error. Stock certificates can get lost, people try to claim false ownership in shares without a stock certificates or voided ones, and hand-written clauses are sometimes the only thing preventing certificates from being sold to the wrong people.
Absolutely all of this can be improved by tokenizing the underlying security on a blockchain system.
You can automatically govern things such as:
- Who can hold the tokens
- Who they can trade them with
- When they can be sold
- Where they can be held/sold (geographically).
Other features are much more transparent to both the issuing company, and the investors:
- Capital management
- Investor specifics
- Distribution of holdings
- Rules regarding token lock-ups, etc.
The blockchain will remove much of the work required for oversight and the enforcement of regulations, as well as add an extra layer of transparency, which simply wasn’t possible with legacy systems.
This means reduced costs, yet more functionality.
How will STOs work?
STO platforms are slowly making themselves known, and will help issuers streamline their entire process.
This will often include:
- Issuance of tokens (automating the swapping of funds to security tokens)
- KYC and AML of investors (confirming customer identity and preventing money laundering)
- Programming rules into tokens, tailored to the company and relevant laws
- Additional advisory services.
Platforms such as Polymath already offer a very simple and straightforward procedure for creating a token offering, as can be seen here.
Conclusion
STOs are the next evolution in raising capital using the blockchain, which combine the benefits seen in ICOs with some much-needed regulation and oversight.
They will not only improve the way that capital is raised in this emerging digital world, but may also provide a whole new way to manage traditional securities.
The benefits of blockchain technology will vastly improve the way that securities are issued, governed, and traded.
A mass migration of assets from legacy systems may just be a matter of time.
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The purpose of ALTCOIN MAGAZINE is to educate the world on crypto and to bring it to the hands and the minds of the masses. This article was written and composed by Andrew Wong on ALTCOIN MAGAZINE.
