Security Token Offering 101

A Security Token Offering (STO) is a form of raising capital for a startup by distributing tokens to investors. While ICOs mainly deal in utility tokens that grant their holders access to services and products associated with respective blockchains and dapps, security tokens can be thought of as digital documents representing the investor’s rights to equity, a revenue share, debt, etc. STOs provide a better investor protection as they need to be compliant with appropriate regulations

Last year Bitcoin saw a massive price appreciation hitting an all-time high of $19K in December. The wild success stories of early bitcoin enthusiasts attracted a wider audience hoping to get their slice of the pie. Token sales became a popular capital-raising method for blockchain startups. The ease and freedom that ICOs offered is what brought many retail investors into the space. Never before has investing been as easy as it is with ICOs, for buying tokens is a matter of only a few minutes. However, the lack of regulation means that that token sales offer minimal investor protection and, naturally, many ICOs turned out to be blatant scams.

Utility of utility tokens

Utility tokens sold during ICOs represent the holder’s access to the services offered by the dapp or blockchain in question. However, these tokens have no intrinsic value outside the blockchain. The value of utility tokens outside their system is usually subject to speculation. For example, bitcoins are utility tokens in that they are tokens native to the Bitcoin system. Bitcoins represent the holder’s ability to transfer value. And Bitcoin’s value largely depends on whether people believe it is useful.

The return on investment in utility tokens comes only as the tokens appreciate. In an ideal world, this happens when the dapp or blockchain proves its usefulness and creates a demand for its tokens. Sadly, this is not the world we live in, and the cryptocurrency market, young and ambitious, is subject to manipulation and fraud.

Security token as claim to securities

Like utility tokens, security tokens are issued on a blockchain. However, unlike their predecessors, security tokens represent the holder’s claim to an equity, debt, a share of revenue, etc.

The term ‘Security Token Offering’ was first mentioned in April 2017 in a blog post by Manhattan Street Capital. Of course, the idea of tokens that are tied to real assets was not new to the blockchain space, as we saw various startups hold regulated ICOs and ICO 2.0, which were essentially STOs. The first official STO was held by St. Regis Aspen Resort on Indiegogo platform. The company raised $18M.

STO regulation

All STO must comply with appropriate regulations. For example, in the U.S. an STO is required to be registered with the U.S. Securities and Exchange Commission (SEC) or use an exemption from said registration.

Regulation D and S

STOs are typically held using an exemption called Regulation D (506c), which is a public offering of securities to accredited investors (anyone with a net worth of $1 million or more or an annual income of $200,000 or more for the past two years—$300,000 in combined annual income for spouses). This means that retail investors can participate in the STO but they first must verify their accreditation status with the SEC.

Regulation S is similar to Regulation D with an exception that this type of STO will not be extended to non-US investors.

Regulation Crowdfunding

Regulation Crowdfunding, an offering for the general public, meaning both accredited and non-accredited investors can participate in the offering, but there is a limit to how much an STO can raise in a given year, the limit being $1,070,000.

Regulation A+

The last and most important exemption is Regulation A+. Like Regulation Crowdfunding, it allows everyone to participate in the STO but in this case the company can raise up to $20M for Tier 1 and $50M for Tier 2 annually. Such STO must be qualified by the SEC, which is different from the other exemptions.

One of the crucial reasons as to why Regulation A+ is important for the blockchain space, besides a higher limit, is that there is no lock-up period for trading these security tokens, meaning you can buy and sell them on the same day. Regulation D, S, and Crowdfunding STOs have one year lock-up before the tokens can be traded on cryptocurrency trading websites, which is the main attraction for small-time investors. Additionally, exchanges usually do not hurry to list security tokens as those lack liquidity and imply a large amount of legal compliance to be done.

As of today the SEC is yet to qualify a single Regulation A+ STO. Some of the candidate companies currently under consideration are Gab, Knowbella Tech, RideCoin, dexFreight, and Mandala.

Conclusion

STOs have been on the rise for some time now and many believe this is the right direction that blockchain landscape needs to take in order to have a more robust and secure token economy.

Related news

Indian Trade Association Nasscom Calls for Fast Crypto Regulation to Drive Growth

The Indian National Association of Software and Services Companies (Nasscom) has released a report that calls for regulatory certainty, particularly in areas such as cryptocurrency. The lack of legal clarity and the crypto banking ban have hindered investments in this sector, hurt crypto exchanges, and driven investors out of the country, according to the association. Also read: SEC Chair Explains Key Upgrades Needed for Bitcoin ETF Approval Regulatory Certainty Needed At Nasscom’s flagship Technology and Leadership Forum held from Feb. 20-22 in Mumbai, Vice President Sangeeta Gupta unveiled key highlights from a report jointly developed by Nasscom and management consulting firm Avasant. It details the current state of India’s blockchain industry, including cryptocurrency. Asserting the “Need for regulatory certainty” for the blockchain and cryptocurrency industry, the report suggests that “A proactive, consultative and defined regulatory approach to blockchain will boost the blockchain ecosystem growth in the country,” noting: Industry participants in India are constrained due to the cautious regulatory approach taken with respect to specific elements of blockchain, such as cryptocurrency and digital assets. Nasscom is a non-profit Information Technology industry association which describes itself as “the apex body for the 154 billion dollar IT BPM industry in India, an industry that has made a phenomenal contribution to India’s GDP, exports, employment, infrastructure and global visibility.” Among Nasscom’s initiatives listed on its website is “Liaisons with government and industry to influence a favourable policy framework.” The association’s report emphasizes: India needs to act fast and work consultatively with the key stakeholders in the crypto/blockchain community and provide regulatory certainty and clarity around blockchain technology (specifically around cryptocurrencies and digital tokens). VC Investments Hindered Despite VC investments pouring into the blockchain ecosystem globally, India has seen less than 0.2 percent of global investments, Nasscom detailed. “Investment through VC firms or ICOs in the blockchain ecosystem in India has been considerably low (totaling to USD 8.5M) due to the uncertain policy and regulatory environment in the country,” the report claims, elaborating: Some of the initial, sizeable investments in India were on crypto exchanges such as Unocoin and Zebpay, which have now disabled trading through fiat currency due to an RBI directive … A restrictive regulatory environment in India is limiting the investment opportunities from both domestic and global investors into Indian start-ups. In addition, the report notes that the lack of regulatory certainly has driven India-based investors and startups to establish operations overseas in countries such as Malta, Singapore, the U.K., and Switzerland “to limit their exposure to regulatory risk associated with the use of digital tokens or assets in India.” Lack of Regulation Hurt Crypto Businesses While the Indian government has a favorable view of blockchain technology and is even considering introducing a national digital currency, the report describes that it has been “hawkish on cryptocurrencies.” Citing that there is “No explicit legal framework around ICOs or digital tokens/crypto-assets,” coupled with the government not considering cryptocurrency legal tender and the banking ban by the central bank, the Nasscom report concludes: While there is no formal regulatory framework governing crypto exchanges, preventing access to formal banking channels has led to the shutdown of prominent crypto exchanges in India. What do you think of Nasscom calling for fast crypto regulation in India? Let us know in the comments section below. Images courtesy of Shutterstock. Need to calculate your bitcoin holdings? Check our tools section. The post Indian Trade Association Nasscom Calls for Fast Crypto Regulation to Drive Growth appeared first on Bitcoin News.
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