The blockchain has provided the right tools for tokenizing support for a project or a business idea, a need that seems to have been hugely unmet. Thousands of startups and projects teams have created tokens on the blockchain and sold them to the public to raise funds to support product development, operations, and marketing.
In 2017, close to US$7 billion was raised through ICOs with several projects individually raising as high as US$250. The EOS project has managed to raise over US$1.4 billion in a span of close to a year. The total amount raised through ICOs in 2018 is expected to double to about US$15 billion.
It is indeed not easy to argue against the success and efficiency of ICOs. But a better new way to raise funds using the blockchain is here. It is called the Security Token Offering (STO).
In its fundamentals, STO is similar to ICO. It involves creating tokens on the blockchain and putting them up for sale and raising money to fund development, marketing, and operations.
The primary difference, however, lies in how tokens in the two scenarios are regarded and the functions they are expected to perform.
The tokens in ICOs are regarded as utility tokens, and this has an implication on what they are expected to do or serve as. Utility tokens do not promise dividends or shares in the profits the project will make.
Instead, they offer holders access to services on the platform once it is up and running. The holders, in many cases, can also use them to pay for gas or transaction fees.
The holders of ICO tokens often have little say on how the project is run because even though they give the money to the team behind it, they are not regarded as investors in the traditional sense of the term.
The preference to regard the tokens in ICOs as utility tokens, instead of security tokens, was not by accident though. In the early days, project managers and developers realized that they were better off avoiding creating an impression that their tokens were securities in the same league with company stocks.
That is because that would require subjecting the projects to the existing share issue laws and regulations. They would also have to get approval from regulators such as The Securities and Exchange Commission (SEC) before they could sell their tokens. That would be a difficult, costly and limiting process.
Indeed, the many crypto exchanges have chosen to decline to list any token that has any kind of indication of being a security. This is to avoid attracting penalties from regulators.
Selling tokens on the blockchain as utility token has however exposed investors to scams and challenges of getting to know the viable ones. And in the event investors are conned, they lack a recourse as the concept of ICOs is still outside the purview of existing laws and regulations.
However, regulators around the world are showing a lot of interest in ICOs and the blockchain industry in general. It is clear the free hand that blockchain projects have enjoyed for a while has a limited time. Sooner than later the industry will be reined in one way or another.
Some within the industry have chosen to be proactive and STO is one way they are doing this.
Tokens created and sold in an STO are a security and are expected to be handled and to perform as the traditional stock. Its holders are given the right to share in profits and to vote in the decision-making process.
Also before a security token offer, the entity behind it must seek and get the approval of the regulators as per the guidelines companies issuing stocks follow. That includes making the necessary payments and sharing data with the relevant authorities.
In October 2018, St. Regis Aspen Resort, Colorado, US became among the very first entities to raise funds through this method. The STO carried out on the Indiegogo platform managed to raise US$18 million.
The STO model to a large extent is still in its very early stage. Very few projects have carried it out. However, owing to its design and the measures of protection it puts in place for the investor, it might turn out to overtake ICOs in the next few months or years.
But does that mean ICOs will become irrelevant?
Not really. Situations exist where an ICO is the most ideal way to raise funds for a project. A good example is where the project is open source and decentralized in nature. In that case, they will struggle to issue a token as a security because they are not a company and would not meet most of the requirements imposed by regulators.